This morning a friend mailed me an extract from newsletter writer Steve Saville's report dated September 17th 2008 to ask my opinion. The company he was writing about was Andina Minerals (ADM.v). I considered reporting on his thoughts here, but although Saville clearly states his copyright principle in the newsletter I've decided to quote verbatim a single section of his more extensive section on ADM.v because it's necessary to see what he wrote. I stress that I do not take this kind of copypasting lightly (this is also why I decided not to write on the subject until after the bell today) and there is plenty more written by Saville on ADM.v in his report so it's necessary to see the whole context, but my particular issues are based around this section that says:
ADM has close to 10M ounces of in-ground gold in a single deposit in a politically secure location
| ( Chile ). And at its current share price this gold is being valued at only US$8/ounce. If we weren't seeing it with our own eyes we would not believe that it would be possible for such a large and high-quality gold deposit to achieve such a low valuation. |
The reason I have issues with this is that it's a crock, and somebody like Saville has to be better than this. He has gathered a large following around him, he has skin in the game, and by the looks of the market action today those of his flock that waded in on his advice at the bell got well and truly stung. Here's the share price action from the last two days....
(click to enlarge)..... and note the big volume spikes this morning. Those people are now 15% to 20% in the hole. So let's take a point-by-point look at what I believe is wrong with Saville's assessment of Andina Minerals.
1) Basic point. Right now, ADM does not have close to ten million ounces of in ground gold. It has a 6.6m oz measured and indicated (M+I) gold resource and 2.8 oz Au inferred. That's a zillion miles away from "having 10m oz". This is so basic it hurts, and anyone who read Mickey Fulp's article from a couple of weeks ago now knows that a "resource" is not the equivalent of "having gold". Especially when a large chunk of that is an inferred resource. This is just plain bad analysis from Saville...sorry, no way around that conclusion.
2) Point one means that even being generous with calculations and allowing the M+I to be used for valuations, we can only take 6.6m oz for our calculations. Period. No arguments. I clearly repeat; inferred resources are not things you can bank on, otherwise why spend all that cash on drilling?
3) Next point. Saville says ADM has X amount of "in ground gold". What he doesn't mention is that the metallurgy tests performed by the company indicate that at the 6.6moz cutoff grade they can only recover 67% of the gold from the rock (that's the 43-101 report for Volcan, not my guessing). That means the 6.6m oz of contained gold is really 4.42m oz of potentially (repeat potentially) economic gold.
4) Saville claims that the in situ gold is priced at a miserly $8/oz at present. This is not the case
- ADM.v has 79.3m shares outstanding (and around 8.5m extra in options and warrants).
- At last night's close, ADM.v was priced at $1.10.
- I will assume for convenience that C$1=U$1
- Therefore the 4.42m oz of M+I gold at Volcan (as outlined in point three) is valued at $19.73 using the shares out number (and $21.85 using the fully diluted number). You may consider that cheap for gold in situ, but all the same both sets of figures are a long way from Saville's $8 confection.
5) Next point. Saville calls it a "high quality gold deposit". High quality compared to what? It's a low grading deposit and a lot of the gold is at depth as this schematic of the deposit shows.
source: ADM Sept '08 presentation (click to enlarge)As you can see it's "vertical" in shape which probably means a higher strip rate and therefore higher production costs than other open cast mines, such as Yanacocha in Peru (which is admittedly much larger, but the principle is the same).
6) As for those low grades, the 6.6m oz M+I figure is calculated at 0.85g/t gold with a 0.5g/t cutoff grade. That's open cast mining grades and not underground potential...not even close. As an example off the top of my head, at Fruta del Norte Aurelian averages grade of 7.23g/t and the lions share of the deposit is at 19g/t. That's a real "high quality deposit". This means that a lot of rock has to be processed to get a decent output of gold, and that means a big production facility has to be built there. That means serious capex would need to be spent to turn the Volcan project into a mine.
7) Talking of money, the company currently has around U$20m at bank ($22.27m as at 2q08 report dated 30th June). However, the next phase of exploration (phase V) is estimated to cost $17.5m and then the deposit will still be at M+I resource stage, nowhere near anything proven economic. This from company filings:
Andina is considering a budget of US$17.5 million for the Phase V exploration campaign at its Volcan Gold Project. The Phase V program would include approximately 35,000 meters of drilling to upgrade the quality of the resources, i.e. Inferred to Indicated and Measured Resource categories, and continue to outline and increase the gold resource in the Dorado Zones. Two thousand (2,000) meters of drilling is planned to delineate the extent of the sulphur resource in the area of the historical sulphur workings.6) As for those low grades, the 6.6m oz M+I figure is calculated at 0.85g/t gold with a 0.5g/t cutoff grade. That's open cast mining grades and not underground potential...not even close. As an example off the top of my head, at Fruta del Norte Aurelian averages grade of 7.23g/t and the lions share of the deposit is at 19g/t. That's a real "high quality deposit". This means that a lot of rock has to be processed to get a decent output of gold, and that means a big production facility has to be built there. That means serious capex would need to be spent to turn the Volcan project into a mine.
7) Talking of money, the company currently has around U$20m at bank ($22.27m as at 2q08 report dated 30th June). However, the next phase of exploration (phase V) is estimated to cost $17.5m and then the deposit will still be at M+I resource stage, nowhere near anything proven economic. This from company filings:
That will make quick work of the cash at bank, people. So once the 2008/2009 program is done, you can bet your tush there's a dilutive placement in the works.
8) With luck, after the 08/09 drill program ADM will be able to move that inferred resource into the M+I resource column, perhaps expand the deposit and therefore cancel out the negatives that will come from share dilution. Perhaps. But this thing no slam dunk...not at all.
Conclusion
At the $1.10 of yesterday and the $1.03 close today, ADM.v is probably cheap, yep. Even my twenty bucks an ounce in situ for its gold sure looks cheap, doesn't it? The thing is always ask is "why are these things cheap?" cos there tends to be good reasons for everything, even in this crazy market. For me, here, it's the low grades, the early stage of resource definition and the big, big capex that would be needed to get the big machine built on top if it ever gets to construction stage.
The geographical area is difficult, too. It's between 4,300masl and 5,200masl, with the average at 4,800masl. I know what 5,000masl feels like and it's not the kind of place you can expect to work witout interruption. Winds get life-threateningly high at that altitude in the Cordillera, and construction work will take a lot longer than something at, say, 2,500masl.
The bottom line is that Volcan will be expensive to turn into a mine. No doubts. That brings down the price at which the junior can sell its in situ ounces. No doubts. It also calls into question whether it will ever become a mine. So with lower selling price on the one hand, and a heavyweight newsletter writer with a big following and (probably) skin in the game like Saville massaging the numbers to get to $8/oz valuation on the other, I can't help but see red flags.
I'm not a subscriber to Saville, and this is one of the few times I've ever read the guy. However I do know that he has a good reputation in the newsletter world, and reputations like that tend to be deserved. But there no way round the conclusion that Saville is making ADM at Volcan out to be something that it isn't. I'd like to know why.