Endeavour Mining — Pursuing growth opportunities in 2023

Endeavour ended an impressive FY22 with production from continuing operations of 1,400koz, in line with our prior estimates of 1,410koz, which included 10.2koz produced from Karma in Q122 (adjusting for this, our forecast was exactly in line with the production results), achieving the top end of the guided 1,315–1,400koz range, while AISC amounted to c US$928/oz, within a guided range of $880–930/oz. Strong production performance was largely related to the Houndé and Ity assets, which benefited from higher than planned throughput, and the Mana mine, where higher than expected open pit mining tonnages were extracted from the Wona open pit prior to its depletion. Although industry-wide inflationary pressures have typically affected costing, in Endeavour’s case they were partially offset by favourable FX movements as the euro declined against the dollar, as well as group-wide optimisation initiatives. This performance resulted in adjusted net earnings of US$65m, or US$0.26/share in Q422, totalling US$405m, or US$1.63/share for FY22.

As well as producing strong Q4 and FY22 results, Endeavour's realised gold in Q422 (US$1,758/oz) was higher than the average gold price recorded during the period (US$1,731/oz), albeit Endeavour's realised gold price now includes realised gains from its revenue protection programme. We believe this gold price fed through to strong Q4 revenues (US$617m cf US$570 in Q322, an 8% increase), aided further by higher gold sales from the Sabodala-Massawa, Ity and Wahgnion mines. Operating expenses also recorded a marginal decrease of US$6m (c 2.5% q-o-q). However, these realised gains were somewhat affected by the increase in depreciation and depletion of reserves from US$151m (Q322) to US$173m (Q422), mainly owing to increases at the Sabodala-Massawa, Ity and Wahgnion mines. Increases at the Sabodala-Massawa mine followed the commencement of mining at the Bambaraya deposit, while the increase at Ity resulted from high production during the period and at Wahgnion from a decrease in the reserve base.

During Q422, Endeavour updated the life-of-mine plans at Wahgnion and Boungou, which included revised estimates of the reserves and resources and increased operating costs. This was recognised as a non-cash impairment of US$360.3m in relation to the mining interest at Wahgnion (US$197.0m) and Boungou (US$163.3m). Additionally, financial instruments decreased from a gain of US$60.1m (Q322) to a loss of US$10.4m (Q422), primarily due to the impact of unrealised losses on gold forwards and collars of US$62.9m, which were partially offset by FX gains of US$43.9m. In Exhibits 1 and 2, other expenses are excluded from operating expenses due to their nature, consisting of non-standard costs (disturbance costs, impairment of receivables and provisions for legal claims).

As mentioned in our previous note published on 1 February, FY23 production guidance is broadly comparable to FY22 at 1,325–1,425koz (cf 1,315-1,400koz), with AISC remaining consistent with recent quarters at US$940–995/oz. Additionally, Endeavour states that it expects production to be more heavily weighted towards H223 because of increased production at Boungou, Houndé, Mana and Wahgnion. It expects capital expenditure to be consistent with FY22 at US$370m, consisting of US$165m for sustaining capital expenditure and US$205m for non-sustaining capital expenditure.

On 23 January 2023, Endeavour announced a strong H222 interim dividend of US$100m (approximately US$0.41 per share), resulting in a total dividend for the year of US$200m (c US$0.81/share). This represents a US$50m or 33% uplift relative to the base dividend commitment for the year.

The ex-dividend date for the H222 interims was on the 23 February and record date the 24 February, with the payment being paid to shareholders on or around 28 March 2023. Shareholder returns were also being supplemented through the company’s share buyback programme, of which a total of US$98.7m (or 4.6m shares) was repurchased during the year. Alongside its robust dividend results, Endeavour ended the year with a net cash position of US$121.1m, which represents an increase of US$118.6m relative to the prior quarter and US$44.9m over the prior year.

Endeavour continues to enjoy organic growth, with management aiming to expand current projects and delineate resources further rather than identifying new assets. This is demonstrated by the company’s three key ventures. Firstly, the expansion of Sabodala-Massawa, which remains on budget and is set for completion in Q224, with US$158.3m of the total growth capital committed to date. Growth capital expenditure guidance for FY23 at Sabodala-Massawa is US$170.0m, primarily related to process plant and power plant construction activities. Second is the Lafigué greenfield project construction, in conjunction with the results of a robust DFS. The salient features of the DFS were as follows (see our previous note for more details):

Lastly, Endeavour will continue its companywide exploration programme with a US$70m budget for FY23, with key focus at the new Tanda-Iguela discovery where a maiden resource was defined in Q422. Approximately US$22m is available for greenfield exploration like Tanda-Iguela. In FY22, group measured and indicated resources remained flat y-o-y at 27.3Moz, while proven and probable reserves decreased by 1.0Moz to 16.8Moz as near mine exploration partially replaced depletion.

Please note that in Q420 Endeavour changed its definition of cash costs to include royalties. The decision was made so that the company will be more consistent in reporting in the context of its peer group. However, for reasons of comparability with past results, as well as ease of forecasting (given royalties are reported as a standalone item distinct from operating expenses), we are continuing to calculate total cash costs in Exhibits 1 and 2 excluding royalties.

As previously stated in our most recent update on Endeavour, FY23 guidance indicated comparable operational performance with FY22 in production of 1,325–1,425koz (vs 1,400koz in FY22) and AISC of US$940–995/oz (vs US$928oz in FY22). In light of this guidance and updated FY22 financials, we have updated our FY23 forecasts. It is helpful to discuss the impact of the gold price on our FY23 estimates. At the point of our last note, the gold spot price was US$1,934/oz, compared with US$1,818/oz (Bloomberg: 9 March 2023). This drop in price has resulted in new adjusted net EPS from continuing operations of US$1.296/share vs US$1.504/share previously.

A comparison between our quarterly and full-year forecast and consensus forecasts for FY23 adjusted net EPS is as follows:

Endeavour is a multi-asset company that has shown a willingness and desire to trade assets to maintain production, reduce costs and maximise returns to shareholders (eg the sale of Youga in FY16, Nzema in FY17, Tabakoto in FY18, Agbaou in FY20 and Karma in FY22, and the acquisition of SEMAFO in FY20 and Teranga in FY21). Historically, rather than our customary method of discounting maximum potential dividends over the life of operations back to FY22, for Endeavour we have opted to discount five years of forecast cash flows in FY22–26 back to FY22, then apply an ex-growth terminal multiple of 10x (consistent with using a standardised discount rate of 10%) to forecast cash flows in that year, ie FY26. In the normal course of events, exploration expenditure would have been excluded from such a calculation on the basis that it is an investment. In the case of Endeavour, however, we included it because it was a critical component of ongoing business performance in the company’s ability to continually expand and extend the lives of its mines.

In the wake of FY22 results, our estimate of cash flows remains consistent in FY26 at US$4.28/share (cf US$4.26/share previously), which implies a terminal valuation of Endeavour at end-FY26 of US$42.79/share if calculated using a discount rate of 10%. In conjunction with our forecast intervening cash flows, this terminal valuation then discounts back to a present valuation of US$36.92/share at the start of FY23, as shown in Exhibit 4 below.

Given its elevation into the ranks of the world’s foremost producers of gold, however, we believe Endeavour can increasingly attract lower-cost finance and, as such, we may also consider a CAPM-derived valuation. In this case, long-term nominal equity returns have been 9% and 30-year break-evens indicate an inflation rate of 2.2853% (source Bloomberg, 13 March) versus 2.3339% previously. These two measures imply an expected real equity return of 6.56% (1.09/1.022853) and applying this to our forecast cash flows would imply a terminal valuation for Endeavour of US$65.18/share (US$65.35/share previously) and a current valuation of US$58.99/share (US$57.32/share previously).

On a series of commonly used measures relative to a selection of gold mining majors (the ranks of which it has now joined since its takeover of SEMAFO and Teranga), Endeavour’s valuation is as follows:

Of note is that, without exception, Endeavour’s valuation is materially lower than the averages of two of the three the measures shown in Exhibit 5, regardless of whether Edison or consensus forecasts are used. On an individual basis, it is lower than its senior gold mining peers on at least 46 out of 54 (85%) valuation measures if Edison forecasts are used and 48 out of 54 (89%) valuation measures if consensus forecasts are used. Reverse engineered, the average valuation measures of its peers imply an average share price for Endeavour of US$29.44, or C$40.69 (or £24.60) per share.

According to its Q422 balance sheet, Endeavour had net cash of US$79.3m (including leases) as at end-December, after US$24.2m in share repurchases during the quarter. This net cash figure compares with net cash and debt figures at the end of recent, comparable quarters as follows:

The net cash figure of US$79.3m includes lease liabilities of US$47.1m and an option premium of US$4.3m which, if excluded, would result in an adjusted net cash position of US$130.7m. This is equivalent to, but differs slightly from, the US$121.1m net cash figure calculated by Endeavour and quoted in its announcements owing to discounting, variously, certain committed future payments to present value. It also excludes US$39.5m held in the form of ‘restricted cash’ and US$40.0m in shares of Allied Gold received as consideration for the sale of Agbaou, both held in ‘non-current other financial assets’.

Note that, for the purposes of our financial modelling in Exhibit 7 and for simplicity’s sake, we have assumed that the consolidation of Endeavour’s and Teranga’s balance sheets took place retrospectively on 31 December 2020. In this case, we estimate Endeavour would have consolidated c US$242.6m in net debt on its balance sheet and c US$349.2m in gross debt as a consequence of its Teranga acquisition (as at end-December). As such, on a pro forma basis, we estimate that Endeavour would have had US$323.1m in net debt on its balance sheet at end-FY20, which we calculate would have equated to a gearing (net debt/equity) ratio of just 8.8% and a leverage (net debt/[net debt+equity]) ratio of 8.1% on the group’s enlarged equity base.