Yesterday, I wrote an article in which I argued that investors will do extraordinarily well if they are able to isolate mining companies that are not yet producing, but will be in the very near future (within a year), and those that are anticipated to produce at very low costs. I used Tahoe Resources (NYSE:TAHO) and Klondex Mines (MKTS:KLNDF.PK) as examples of companies that substantially outperformed their peers as they approached low cost production.
These companies, however, have had their runs, and to continue owning them one needs another justification. In order to play the theme I just outlined, one needs to locate a company that will be producing with very low costs at the beginning of 2015. One such company is Guyana Goldfields (MKTS:GUYFF.PK).
Guyana Goldfields owns the Aurora project in Guyana. It is expected to begin production at about 150,000 ounces per year in the first-quarter of 2015. A couple of years down the road, the company will expand production to over 300,000 ounces annually when it begins producing underground resources. The company still needs to accomplish a couple of things before it will see production.
First, it needs to raise capital. In fact, it recently revised its capital needs upward from $205 million to $249 million. Given that it spent $11 million in the time it took to revise its initial capex upwards, Guyana Goldfields’ capital needs going forward are $238 million. As of the end of the third-quarter, the company had $107 million in working capital, meaning that it is going to have to find an additional $131 million. This shouldn’t be an issue given the quality of the Aurora project. Management may be able to issue debt, sell a royalty, or if it has to it can issue stock, which wouldn’t be a huge blow to existing shareholders given that the current valuation is $330 million. Then it needs to finish constructing the mine, which could face delays and unexpected hurdles that could lead to additional costs. But, ultimately, production is all but a foregone conclusion.
In addition to being a near-term producer, Guyana Goldfields is going to be a low-cost producer. The company’s expected all-in production cost is going to be just $800/ounce, meaning that the Aurora mine will be highly profitable at $1,325/ounce gold. Given Guyana’s cumulative tax rate of 32.5 percent, the company will earn slightly more than $350/ounce, or over $50 million at 150,000 ounces of production, and twice that once underground mining begins. This is a lot for a company with a $340 million valuation even if we have to consider the company’s additional capital needs.
As a result of this high cash flow estimate, the mine has an estimated value of over $700 million at $1,300/ounce gold using a 5 percent discount rate in valuing the cash flow. This makes the shares very appealing despite the fact that they have run up 66 percent this year.
The one thing potential investors seem to be concerned about is mining in Guyana. Guyana is a relatively stable place to mine with transparent regulatory and taxation policies. Furthermore, gold mining is and has been an essential part of Guyana’s economy for decades. There doesn’t seem to be a significant risk of work stoppages, which are prevalent in many African countries such as Tanzania or Egypt, and there is no history of property usurpation as there has been in Venezuela.
Nevertheless, Guyana is an impoverished third world country, and these are especially prone to capricious government action or violence due to terrorist organizations. Thus, investors should not shy away, but they should be on guard and unwilling to pay as much for Guyana Goldfields as they would for a similar mine in a safer jurisdiction, such as most of Canada and the United States.
With that being said, I think Guyana Goldfields will continue to be an excellent stock to own as low-cost production fast approaches. Investors who saw the incredible performances of Tahoe Resources and Klondex Mines over the past year (up over 50 percent each with the sector down around 30 percent), and who want to see these sorts of gains may very well see them in Guyana Goldfields. While a pullback is in order given the 66 percent gain in two months, I think the stock will be much higher a year from now.