Thursday, April 02, 2015
Sunridge Gold - A Near Term Milestone Could Completely Re-rate this Stock
Sunridge Gold (SGC-V, SGCNF-OTCQX) is a successful explorer orphaned by the market but that could soon change. The company is working in Eritrea. Sunridge made several discoveries on its Asmara project and has advanced them to feasibility level. The feasibility numbers look great. Asmara has a Net Present Value of US$692 million pre-tax (US $428 million post-tax) and an IRR of 34% pre-tax (27% post-tax) using a 10% discount rate. Sunridge owns a 60% interest in the project. That equates to a post-tax NPV of US$257 million attributable to SGC shareholders against a current market valuation of US$25 million.
Why the big difference? Two reasons; the lack of a mining permit and the perception that SGC will need to undertake enormous dilution in order to finance production. A solution to both those issues appears forthcoming. Once the market recognizes that, Sunridge should get a nice lift and that lift could happen quickly. We look at the issues separately below but first here are the main points:
FIRST, HERE'S THE BOTTOM LINE:
Sunridge Gold is weeks away from a Mining Permit. Mining Permit approvals have generated large share price re-ratings for other companies.
The Asmara project allows for a staged mining process that could generate cash flow of up to CAD $0.30/share very quickly after a permit approval.
The staged approach could allow for financing of most or all the long life Phase III mining operation with little or no further equity dilution.
Sunridge continues to attract the interest of larger mining companies - particularly in Asia. The potential for a take-over offer for Sunridge should not be discounted.
Most of the above are near-term catalysts. A re-rating of SGC shares could be imminent.
THE LONG ROAD TO PERMITTING IS ALMOST COMPLETE
Mines are big and complex. Getting one into production anywhere involves a host of government approvals and licences. Eritrea is no different though it's considered a "mining friendly" country with a transparent system. The slide below shows some of the many steps SGC completed on its way to permit approval. The formal application for a mining permit was made about a year ago. A one year approval process is consistent with the experience of other recent mine start-ups in Eritrea. Sunridge recently completed final community meetings and has had favorable responses from the local population and ministries involved in the process. As part of the process the Eritreans had an extensive review of Sunridge's mining plan completed by a third party engineering group. Asmara apparently passed with flying colors and the engineers were highly complementary about the quality of Sunridge's work.
I expect a permit approval in the near future. That alone could have a large impact on the stock. Another company HRA follows, Lion One Metals (LIO-V) just announced a mining permit approval for their Tuvatu gold project in Fiji. Even though LIO doesn't have updated economics for the project (that's coming soon) the shares traded as much as 60% higher than their pre-announcement price over the space of a few days. That's how important a mining permit can be.
A NEW, STAGED MINING PLAN IS THE KEY TO ASMARA
I noted above that a number of companies that have developed projects complete with feasibility studies are getting no love from the market. Why? There are two main reasons; either the feasibility study isn't strong enough to impress traders or the market needs evidence the company can actually finance mine construction. If Sunridge was in the first category I wouldn't see much upside in it. I'm not interested in marginal projects. That is not the case, however. Asmara has very good economics. The problem is financing construction without massive dilution to shareholders. The nature of the deposits at Asmara has given SGC a workaround that the market is not fully appreciating yet.
The actual mining plan for Asmara includes three stages starting with a low capex/high margin operation, mining very high grade ore from the Debarwa deposit. This phased approach is similar to the very successful Bisha mine in Eritrea operated by Nevsun (NSU-T), another HRA list company. Nevsun moved from being a gold producer to a copper mine and will transition again to being mainly a zinc mine in about a year. The changes are based on the Bisha deposit which has different economic metals at different depths. Asmara shares this characteristic and Sunridge's management is using that to plan a mining operation that minimizes the capital outlay and maximizes early stage cash flow.
The key to the plan is the Debarwa Direct Shipping ore. This is a small deposit but exceptionally high grade. The term "direct shipping" refers to the fact that Debarwa ore does not require upgrading in a concentrator before shipment to smelter. Simple crushing and screening will suffice. With its high copper and sulphur content and low impurities the ore should generate a lot of buyer interest from smelters and attract a good price.
At current metal prices Debarwa ore is worth over $1000/tonne. Mining it requires standard equipment that would be reusable for later mining phases. Because a mill is not required Debarwa has a capital cost that is a small fraction of a conventional mining operation. That's the key.
A back of the envelope calculation shows this small DSO operation should generate $80-100 million in cash flow. It would take a few months to strip waste rock to expose the high grade ore after which the entire DSO deposit could be mined and shipped in 6-9 months. This operation needs about $30 million in capital, most of that for the mining fleet that would be retained and used for Phase II and III operations. When it's all said and done Asmara would have about $50-60 million left over and $15 million in bought and paid for mining equipment.
The three stage plan envisages a small gold heap leach operation ($50 million capex) followed by full scale mining and milling of the main deposits. The main deposit mining would start by processing high grade copper "supergene" mineralization for the first 18 months which would generate high cash flow early followed by steadier copper then zinc production for the following 13 years.
Management has had ongoing discussions with equipment suppliers and smelters about the DSO mine phase. The combination of extremely fast payback and a desirable DSO product has generated a lot of interest from suppliers. The market has been tough for big equipment suppliers and they are getting very aggressive about making sales. Based on negotiations to date Sunridge management is confident they can secure attractive vendor financing for mining equipment and a loan from another lender to cover initial working capital for the DSO operation. In other words, Phase I could be financed without equity dilution.
Negotiations would not be finalized until a mining permit was in place but could be concluded quickly after that. I think that a financing package without an equity component that covers the DSO would come together quickly. The DSO operation would net $50-60 million. Combined with cash on hand in the Asmara Mining company and payments due from partner ENAMCO most of the equity component for the much larger Phase II/Phase III would be covered and there is room for further streaming or off-take agreements for the long life copper/zinc operation. Sunridge may be able to get to Phase II and III with minimal equity dilution. That leaves room for significant upside for current shareholders. Once a Mining Permit is in hand (remember, this permit is for the whole operation, not just the DSO) traders will start doing the math.
THE WILDCARD - A TAKEOVER OFFER
There have been rumors about a potential takeover offer for Sunridge for at least a couple of years. I think the rumors are true but also impossible to quantify. Given the location and base metal rich nature of Asmara, the interest is sure to be mainly from Asia. Chinese miners and state owned enterprises are big investors in the Horn of Africa. The gold mine being developed in Eritrea was purchased and is being paid for by a Chinese company and the Chinese are substantial investors in Ethiopia. Sunridge Management wants to build the Asmara mine but you can't ignore a significant serious offer. Whether one of those materializes remains to be seen but with the current low valuation the potential for a suitor to offer two or three times the current market value is quite real. I don't see SGC management encouraging or going along with an offer that had a smaller premium than that. Even if it's not the preferred route for management I don't think traders buying the stock at current levels would say no to a short term double or triple. A serious offer would effectively take the decision out of management's hands.
There are a lot of ways things can go right for Sunridge shareholders in the near future. At current prices there isn't a lot of downside as the company is currently financed to get through the mine permitting process with several million to spare. As it passes milestones, SGC's local partner ENAMCO has to make further payments to the JV that should allow management to clear the next couple of hurdles without dilution. The odds of a major re-rating on a mining permit followed in short order by a financing deal for the DSO production look good and there is always an outside chance a bigger company makes a bid for the whole thing, especially after Sunridge gets its permit. It's impossible to second guess the bureaucrats handling the permit but my sense is that it's coming soon. Owning SGC ahead of a permit announcement looks like the way to go.
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Received on Thu Apr 02 2015 - 14:27:29 EDT