Valuing Open Pit Gold Miners: Alamos Gold (AGI.TO), Western Goldfields (WGW) and Minefinders (MFN, MFL.TO)

This post is the first in a series profiling open pit gold miners. This series begins with three of the more liquid (bigger trading volume in dollar terms) miners that I follow (I mainly follow Jr producers and near producers). Subsequent posts cover less liquid, but more undervalued miners.

Liquidity is of real importance because, for the size positions I move (say 50K$ to 200K$) it is completely impractical to trade in and out of the illiquid stocks in a single day without significantly moving the stock price. So, I am pretty much compelled to be a long-term (months) investor rather than a short-term trader in the illiquid stocks. The illiquid stocks are thus riskier than the more liquid stocks because if things turn sour it will be much harder to dump and get my capital back. On the other hand, the more illiquid stocks are more undervalued and as such offer more upside.

This post's three miners are single-mine, open-pit heap-leach miners all in the 100K to 200K oz / year range. One of the nice things about a heap-leach miner is that it is a pure precious metal play, usually a pure gold play. They have no base-metal byproducts. At this point in the economic cycle, I'm pretty bearish about base-metal miners and want gold miners that are pure plays.

The approach used to evaluate these, and subsequently profiled miners, is to go through the company's latest presentation and financials and:

• Understand the company story, its stage of development and opportunities for growth and the goals and competency of the management.
• Estimate key ratios for 2010:

• Price to annual oz of production and
• Price to oz of gold in the ground (for each category of mineral resources: Proven and Probable, Measured And Indicated and Measured, Indicated and Inferred) and
• Price to operating cash flow. Price to operating cash flow is a tricky one because its hard to be exact in determining which costs to include as "operating costs" vs costs which are not included and keep this comparable across stocks. This is particularly hard when a company is ramping up or is not yet in production. Perhaps this is naive, but at this point I am mostly taking management's word for it. For stock I really care about (own a lot of), I will dig into the financials and try to incorporate all costs that are not oriented towards growing the company.

For metal prices I'm using $800 gold and $10 silver. I consider these to be a reasonably conservative price forecasts. As such, all I need is for undervalued stocks to execute their plans and be revalued without any increase in metal prices. Any metal price increases are gravy. If metal prices go soft (significantly below these forecasts), I'm dumping these stocks and taking my substantial losses and looking for the next investment opportunities.

I'm looking at 2010 because I'm reasonably confident that the price of gold will hold up thru that year and because I want to appropriate the gain that comes from taking the risk associated with getting into production or increasing production during the time period that I am confident in the commodity's price holding.

Here are the key metrics for the first three miners:

Alamos Gold(AGI.TO) is a Mexican heap-leach gold miner that has successfully worked through its mine startup, has a strong balance sheet and is ramping up production to 200K oz/year. This is stock is recommended (and held) by one of the most widely admired Investor Village message board posters. While Alamos is significantly undervalued, based on my key ratios, relative to longer-lived mid-tier producers (say Rangold [GOLD]) it is not as undervalued as the other stocks I'll be profiling. When I asked that poster about this he agreed that it was expensive relative to some gold miners said that he liked the way Alamos weathered last year's precious metal miner downturn. I consider Alamos to be a good reference point for determining whether other gold miners are undervalued. I consider Alamos, with its strong balance sheet, to be a possible source of takeovers for the other miners.

Western Goldfields (WGW) is a California (USA) heap-leach gold miner that has achieved steady state and is churning out cash-flow. As such, it also serves as a reference point for other gold miners. Western Goldfields has some hedges in place, but I don't consider them to be a factor because they are on just a fraction of their oz and they do not block Western Goldfields from benefiting from a significant gold price rise. Being already in operation in the USA gives Western Goldfields very low political risk. The political risk in the USA comes primarily from the difficulty associated with getting permitted. Western Goldfields is already fully permitted and has its production ramped up. I consider Western Goldfields to be a relatively low-risk gold miner value play. As you can see, its comparable to Alamos in terms of annual production, but is cheaper in terms of the key ratios. 

Minefinders (MFL.TO, MFN) is a Mexican heap-leach that is just shifting into production. As such, it is subject to startup problem risk. This could be what has been affecting its stock price recently. In contrast to most heap-leach miners, Minefinders has a significant amount of silver production. All of the metrics are based on gold-equivalent oz where one silver oz is valued at 1/80th of an oz of gold. I expect Minefinders to move into production relatively smoothly. One of the things I like about Minefinders is that its relatively liquid (e.g. today it traded roughly 2 million shares across the AMEX and TSX for a total of 10 million $ of trading). Another thing I like is that it usually trades with a high beta to the price of gold. As such, I consider it to be an undervalued trading vehicle. Right now its being sold off. This either indicates as yet unannounced startup problems or some big leveraged holder(s) that are dumping to raise capital as the general market tanks. This stock is publically supported by Jim Puplava and John Doody, two widely followed gold market commentators. At this point I have a small trading position (still above water) and expect I'll liquidate it either after it turns back up or when I turn less bullish short-term on gold. Minefinders is cheaper relative to the previous two stocks, but this makes sense given the startup risk. Minefinders has recently raised money that it expects to use to purchase another project to take into production. As such, one might want to be looking for a Mexican heap-leach project with a couple of million oz in the ground to invest in as a Minefinders takeover target. 

Stay tuned as I move down the food chain to the more undervalued gold miners that I've actually put significant amounts of my own money into.

Leave me a comment with suggestions for other gold miners I should be profiling.

MontyHigh, worldofwallstreet.us

Comments

[Alexs_Pushkin]

Hi Monty, Just following up on your MFL comment:

"Minefinders has recently raised money that it expects to use to purchase another project to take into production. As such, one might want to be looking for a Mexican heap-leach project with a couple of million oz in the ground to invest in as a Minefinders takeover target."

I think the money won't be used for an acquisition. While they do have long term plans to acquire an advanced project that would be late 2009 or 2010 (as per presentation slide 22/23 http://www.minefinders.com/_resources/MinefindersJan2009b.pdf)

The following is from Tuesday December 2, 2008, press release:

"The net proceeds of the Issue will be used to enhance working capital, reduce indebtedness and for general corporate purposes." I'm not sure of the total debt but I read the number of $58 million a few places.

[MontyHigh]

Thankyou for leaving a comment. I just spent an hour of due diligence on OCG.TO. I find:
(a) Leaving out its debt it is by far the cheapest gold producer on price / annual oz, price / oz in the ground and probably on price to operating cash flow.
(b) They have 400M$+ in debt! Yikes. If you include that in the market cap then they are roughly equivalently priced to the miners in this post.
(c) They have half their production hedged on unfavorable terms for 2009 and 2010. Always discourages the gold enthusiasts.
(d) The mine they had to stop half-way thru production looks pretty nice.

Seems very risky, but likely to work out as these guys do some kind of deal to get the Phillipines project going and perhaps reduce some debt... Provided price of gold holds up.

I may open a little position tomorrow if I can get it around $.30.

MontyHigh

[Varghese Cherian]

I am writing this as I would like to get your opinion about a gold producer OCEANAGOLD (OGC) currently trading in three exchanges - New Zealand, Australia and Toronto, Couple of years back, they did an offering at the TSE. I was quite impressed with their potential, I did some significant investing in that stock. Unfortunately, they got beaten up because of some of the financial difficulties they started facing in Philippines where they were developing a gold-copper mine which had the potential to put them in the high end of the mid-tier category. Because of the lack of finance, they temporarily suspended that development. As a result, the stock got hammered down to $0.15, although OGC is still the largest gold producer in New Zealand with production target FY09, from the three New Zealand mines in the range of 280,000 - 300,000 ounces at a cash cost of US$425 to US$475 per ounce. Current year guidance is 270,000 ounces. I do not understand why this stock got beaten up this badly, althogh they have some financial difficulties, their production is that of midtier producer. Recently, the CEO purchased almost 430,000 shares at 30 cents . This plus a report by Merrill Lynch, Australia saying it is the chepest gold stock in the market had some positove effect pushing up the price to 0.45 cents. I would appreciate if you have any comments about the potential of this stock - is it time to take the losses and get out or continue to hold.

Thanks and Regards
Varghese