Asymmetric Returns For This Gold Developer; Not For The Faint of Heart

Positive asymmetric returns are those with limited downside and much higher upside. This article looks at the prospects for a gold developer whose share price has been battered. Orca Gold is developing the Block 14 gold property located in Sudan. Their share price is down 40% YTD even after significantly advancing their flagship property.

In early November, Orca released the details of an updated feasibility study which describes an open pit operation producing 167K oz per annum. Reserves contain 80 million tonnes grading 1.11 g/t Au for 2.85M ounces. The property is expected to produce gold at an all-in sustaining cost of $789/oz. The after-tax NPV of the project is estimated to total $403M; at a 5% discount rate.

If you look at the chart below you will notice that the share price did not budge after the release of the study (early November) and the stock continued its downward march. So what’s the deal? The enterprise value of Orca is $37M and their 70% stake in Block 14 is worth US$282M. They are trading at 13% of the NPV5% of the property. This is a massive discount. The implied discount rate of the property is approaching 50%. So, the market is pricing in a serious chance that this asset does not make it to production.

This is interesting. The discount rate assumed for this property is egregiously high. Maybe the worst is already priced into the stock price?

So why is the market pricing in such a steep discount? Well, Sudan -the location of their asset- is still designated by the United States as a State Sponsor of Terrorism. In 2017 the U.S removed some of the economic sanctions for the country but it is unclear if financial institutions could lend money to Orca to fund the project (the government has a carried interest in the property). I think that as long as Sudan is on this list, Orca’s share price will suffer.

This is where it gets interesting. Sudan is progressing talks with the US to be removed from the terrorism sponsor list1 (which would remove the associated sanctions). If this were to occur, it’s reasonable to assume that Orca would be re-rated to a much higher level.

The project is probably still riskier than the typical gold mine. It’s located in the desert, away from infrastructure, needs a well field, and Sudan does not have an established mining workforce.

That being said, and as shown in the chart below, Orca is amongst the most discounted juniors out there with a near-term development project. This investment is not for the faint of heart. If talks with Sudan do not progress than the share price could easily continue to suffer. A successful resolution, however, could result in 1X share price appreciation. This is asymmetry.


A Review of Price to NAV – Ollachea, Valentine lake

The valuation of mining companies often starts with a calculation of Net Asset Value (NAV). NAV assessment is a cumulative discounted cash flow analysis of a company’s portfolio of assets (mines) minus associated corporate and other overheads. Enterprise value (value of equity + debt – cash) can be compared to NAV. If enterprise value is higher than NAV then the company trades at a premium. If enterprise value is less than the NAV, than the company trades at a discount.

Generally, NAV is calculated using a 5% discount rate but there are often occurrences where this value will be increased (geopolitical risk, asset risk, permitting). The fact that NAV is generally calculated at 5% is very impactful. If Franco Nevada trades at a premium to the 5%NAV than that means that the market is pricing in a lower discount rate. A 2% discounted cash flow analysis is probably a value that brings Franco closer to its market price. Conversely, if Alio Gold is trading at a large discount to their 5%NAV then the market is implying that something closer to a 10% discount rate could be utilized.

Sometimes the market can be become irrational and punish projects/companies. A discount/premium to NAV analysis can be a useful way to identify “value” plays in the space.

The banks have teams of analysts that produce DCF models for each of the mining companies. I do not have this luxury. I do have, however, published technical reports, and market prices. Almost all technical reports include a summary of NPV and most of the time it utilizes a 5% discount rate. This is great. For single asset companies, I now have a view of the company’s NAV (ignoring adjustments).

Single asset companies are the most interesting as they provide the most direct view of the company’s NAV; less noise. The chart below plots project NPV as disclosed in technical reports versus company enterprise value. These are recently published technical reports that contain over 1M oz of gold. You’ll notice that the highest value is 50%. Minera IRL Limited’s Ollachea property commands the smallest discount while a group of companies are currently trading at only 10-20% of their project’s NPV.

It’s an interesting mental exercise, hypothesizing why some companies are undervalued relative to their projects. A few ideas:

  • Time/Stage: technical reports usually display the NPV as of the time that a construction decision is made, not the current time period. If we assume that the standard PEA is 6 years from a construction decision and use an 8% discount rate, the discount value is 58% when compared to the published NPV. It shouldn’t be a surprise that Valentine Lake and Mt. Todd are at such a large discount as they are at the PEA stage. Conversely, the highest ranked project (Ollachea) is currently in construction.
  • Jurisdiction: This goes without saying and explains why a project like Block 14, located in the Sudan, is not generating much share value for Orca Gold.

So how do we use this information? A value investor could look at this and see if the market is mispricing any assets. We could also look at the development path of an asset and predict a share price appreciation.

A useful example would be Valentine Lake. Marathon released a PEA on the property at the end of October which showed an after tax NPV5% close to $500M. The company currently trades at an enterprise value of $80M. A pretty strong discount but probably warranted given the project’s state. Their recent investor presentation shows that a PFS will be published in 2019 and a FS in 2020. They are having exploration success, the project looks to be improving. Obviously, there’s a due diligence component to this investment but there is a hypothesis for a re-rating over the next two years. If their discount jumps from a measly 15% to a more justified 30% in the next two years that’d provide a pretty strong return.

Seems like Valentine Lake could be an interesting opportunity.

What do you think?

Bombore Gold Project – Orezone

Orezone gold corporation is a Canadian listed explorer with an enterprise value of US$51.8M. YTD they are down about 16%. They’re primary property is Bombore, located in Burkina Faso. They own 90% of the project with the government carrying a 10% free interest. Let’s see what we have here.

In July Orezone released a Feasibility study.


Ok. Lots of gold. Grade is very poor.

What does the reserve look like?

Hopefully this has a null strip ratio. Nope. 1.68:1.

Recoveries aren’t special. Get pretty low at lower grades (80%). Large grind size (125um) and low cyanide consumption should make this a pretty cheap process plant. 12,000 tpd.


Not for me.