Auriant Mining — Making a virtue of dependability

Auriant’s Q420 financial results were reported in the context of known production of 203kg from Tardan for the quarter (cf our prior estimate of 186kg) and a largely known gold price. Notwithstanding a maintenance stop, throughput rates were maintained at high levels and a summary of the plant’s performance during the quarter, relative to our prior expectations, is as follows:

Of note were the following:

Exhibit 2 summarises Auriant’s Q420 results both in the context of the prior quarter’s results and also Edison’s prior expectations. Relative to our prior expectations, the largest variance in Q4 results was a negative variance of $1.8m in ‘other expenses’, which related to a write-off of $1.9m in stripping assets in LLC Tardan Gold, which were accrued in 2017 but are now no longer deemed to be economic. Other negative variances included a $0.5m loss on foreign exchange and a $0.7m negative variance in the tax charge. Note that, in the absence of these first two factors, adjusted pre-tax profits, of $2.6m, would have been within 3% of Edison’s prior forecast (see ‘Q420 (adjusted)’ column in Exhibit 2, below). Nevertheless, compared with the prior year, the transformation in Auriant’s financial fortunes as a result of its development of a carbon- in-leach (CIL) plant in place of the former heap leach operation is readily apparent, with a loss after tax of $1.2m in FY19 reversing to become a profit after tax of $10.7m in FY20. Similarly, EBITDA for the full year increased by a factor of four, while cash flows from operations increased threefold.

In 2020, Tardan became a participant in the Regional Investment Projects programme and obtained the right to apply a reduced income tax rate of 17% and the mineral extraction tax at a nil rate. According to Russian legislation, tax losses are accumulated on the balance sheet and can be offset against future taxable earnings. Thus, in Q420 only $39k was paid in cash income tax out of a total charge on the income statement of $1,077k, with the remainder being offset against the balance sheet amount of the deferred tax asset related to tax losses carried forward. Compared with a normalised estimate of cash flow from the income statement of $1.4m ($0.9m loss plus $2.3m depreciation) therefore, actual cash flow from operations amounted to $4.5m (including evidence of diligent control of working capital), of which only $1.0m was consumed in investing activities and the remainder used to pay interest and to repay debt (including leases).

Auriant produced 953kg gold from Tardan in FY20, which exceeded the upper limit of guidance of 900–940kg by 1.4%.

On 21 December, Auriant announced total production guidance for 2021 of 900–930kg gold from 350–380kt of ore processed through the CIL plant from the Pravoberezhniy deposit. That total included an assumed c 30kg being produced at Solcocon, implying production from the Tardan CIL plant of c 885kg, a yield of 2.42g/t and a head grade of 2.64g/t. However, the amount of gold assumed to be produced at Solcocon has since been raised to c 36kg, implying total production from the group of 921kg. This is very similar guidance to that provided for Tardan for FY20 (900–940kg from 350–380kt, implying a yield of 2.37–2.69g/t and a likely plant feed grade of 2.58–2.92g/t) and is consistent with the recent performance of the mining operation and CIL plant, but also reflects the delay to stripping at Tardan in FY20 as a result of changes to mine sequencing necessitated by a licence restriction (which has now been lifted). As in FY20, relatively little seasonal variation in production is anticipated (in sharp contrast to the former heap leach operation). However, Q121 will be slightly affected by the same scheduled maintenance stop as occurred in Q420, albeit this is already reflected in our production expectations for that quarter (see Exhibit 3).

As a result of test work conducted during the ramp-up phase, Auriant has upgraded the leaching tanks at Tardan to improve ore oxidation to ensure stable processing results. In addition, in December 2019, the company agreed a new energy deal to increase the power allocation to the Tardan CIL plant by 25% from 2.0MW to 2.5MW using a newly built 35kV power line, which has allowed it to minimise its use of diesel generators on site and, on occasion, to cease their use entirely.

Unit costs are nevertheless expected to be broadly unchanged in US dollar terms in FY21 relative to FY20, reflecting some inflationary pressures in local currency terms (given something of a ‘boom’ in resources investment in Russia). At the same time, the rouble has appreciated by 1.4%, from RUB75.1712/US$ at the time of our last note (see Turning into the home straight, published on 23 December 2020) to RUB74.0979/US$ at the time of writing, while the oil price – depending on how you measure it – has either doubled or quadrupled since this (volatile) time last year. In addition, staff costs appear likely to rise as a result of local inflation and salary indexation and, as a consequence, there is expected to be little or no improvement in budgeted exploration expenses. Finally, stripping costs delayed from FY20 are now also expected to be incurred in FY21.

Based on the production guidance provided by management for FY21 (and with the usual caveat surrounding quarterly predictions), our financial forecasts for Auriant for FY21 by quarter are as shown in Exhibit 3.

Relative to our prior forecasts, the main changes that we have made to our forecasts are:

In common with our standard practice, our valuation of Auriant has been performed via the discounting of maximum potential future dividends at a discount rate of 10%, assuming all excess cash generated is distributed to shareholders only after all debt has been repaid.

On the basis that management executes the Tardan CIL and the Kara-Beldyr projects according to the operational and financial parameters anticipated, we estimate that Auriant is capable of generating average cash flows of $63.8m, average earnings of $55.2m and average EPS of 41.8c in the 10 years from FY25–34 (inclusive), thus allowing it to pay maximum potential dividends to shareholders of 47.0c per share in the period FY26–34. Discounted at our customary 10% discount rate, such a stream of dividends has a value of $1.76 per share (cf $1.71/share previously), as shown in the exhibit below, rising to $2.80/share on the cusp of the company’s maiden dividend in FY26.

Our approach to gold price forecasting, and the gold prices underlying our earnings and dividend assumptions, is set out in our note, A golden future, published in June 2020. Readers should also note that our valuation specifically excludes any value attributable to Solcocon beyond FY21 on account of the variable nature of alluvial mining operations. However, it is possible that activities at Solcocon may be reconfigured in due course to incorporate hard rock mining and processing via a carbon-in-pulp plant.

In qualitative terms, the principal risks to which Auriant is immediately exposed include geographical/sovereign (including regulatory risk), geological, metallurgical, engineering, funding, financing and management. In general terms, these may be summarised as execution risk relating to management’s ability to bring the Kara-Beldyr project in particular to account within its geographical jurisdiction at the required technical and economic parameters (note however that this risk has already been substantially mitigated by management’s success in developing the Tardan CIL project). Once in production, these risks will reduce and be partially replaced by others, such as commercial, commodity price, foreign exchange and global economic risks.

One specific risk, however, that bears further, immediate consideration from an empirical perspective is funding. In this particular case, our valuation sensitivity to the price at which Auriant raises an assumed $20m in equity for Kara-Beldyr (assumed towards the middle of this year) is shown below:

Readers should note that (assuming conversion before FY26) the above table effectively also provides an analysis of Auriant being funded by way of a convertible bond (cf conventional equity) with a conversion price at one of those shown (typically at a premium to the existing share price compared to conventional equity at a discount) and a coupon close to the company’s cost of debt. In the event of such a convertible remaining unconverted, however, and therefore behaving like conventional debt, our valuation of Auriant instead rises to $2.19/share (albeit with a correspondingly higher maximum debt level of $79.6m (cf $56.2m in the ‘base case’ scenario, in the ‘Financials’ section, below)).

At end-December 2020, Auriant had net debt of $66.9m on its balance sheet, but $67.2m if lease liabilities are included; this is ostensibly flat compared with the $67.0m that it had on its balance sheet at end-September, but still $5.7m less than the $72.9m that it had on its balance sheet at end-June (also including leases payable). Assuming the company raises an additional SEK169.2m ($20m) in cash via equity funding in the near future, we forecast its net debt will evolve as follows until FY25, before being eliminated in FY26:

Note that our estimate of Auriant’s maximum (future) net debt requirement of $56.2m ($52.0m previously) at end-FY23 will equate to a leverage ratio (net debt/(net debt+equity)) of 50.5%.

Mining operations at Tardan continue to operate, to all intents and purposes, as normal. All personnel on site are subject to daily temperature checks and the mandatory use of personal protective equipment to minimise the risk of infection. Intensive disinfection measures have also been implemented. To date, the quarantine measures are reported to have had an insignificant effect on the mine’s operations. Further measures will depend on employee test results. In the meantime, however, management is confident that mining and gold production can continue at Tardan, although there may be temporary interruptions to some of the mine’s operations depending on the number of people who are infected and their positions at the mine. In accordance with Rospotrebnadzor’s instructions, infected employees are released from observation once two negative test results at least one day apart have been obtained.