Auriant Mining — Tardan CIL at capacity

Auriant’s Q419/FY19 financial results were reported within the context of known production (see Exhibit 1). Although output during the quarter was below expectations, some of the shortfall could be attributed to the Russian winter, which has always had the potential to have a material (and broadly unpredictable) effect on Q4 production. Of more significance, however, was the first meaningful production from the newly commissioned CIL plant at Tardan. After the requisite prior test-work, the plant began loading low-grade ore on 11 November 2019 and high-grade ore on 18 November. At that point, Auriant expected that the ramp-up phase of the plant would take 2.5 months, ie until the end of January. Although production in Q419 was lower than expected, the plant reached its stable projected processing capacity of 50t per working hour by the end of December, with the expectation that it would process 31kt in January and produce 115kg of gold (implying a plant feed grade of at least 3.7g/t and probably 4.0g/t). In the event, the plant processed 34kt in January and achieved its production target of 115kg of gold (implying a plant feed grade of at least 3.4g/t and probably 3.7g/t). Gold sales in January were 151kg however, including gold (presumably 36kg) that was produced but not sold in December – among other things, pointing to a strong Q120, albeit at the expense of Q419. The average realised gold price in January was $1,558/oz (a 5.2% premium over the estimated average price achieved in Q419 of $1,481/oz). We summarise Auriant’s FY19 and Q419 results in the exhibit below:

In general, the shortfalls in production and sales resulted in a negative variance in revenue of $3.4m in Q419 relative to our prior expectations, although this was offset to some extent by a $2.2m negative variance in costs. Coupled with increases in ‘other’ operating expenses (related to waste disposal fees accrued for previous periods) and the tax charge (which is always apt to be variable on a quarterly basis), this resulted in Auriant’s reporting a modest net loss for the period of $0.6m relative to our prior expectation of a modest profit of $2.4m.

On an annualised basis, 115kg of gold produced in one month in January equates to yearly production of 1,380kg. This compares with our forecast for production in FY20 from the CIL plant of 953kg from an average 26.7kt processed per month at an average grade of 3.24g/t. Since February however, Auriant has been feeding blended high- and low-grade ore to the plant – as opposed to just high-grade ore only in January – in order to ensure a steady transition to year-round average grades. Auriant’s official guidance for 2020 is for production of 900–940kg gold, which compares with our 953kg from the Tardan CIL plant plus an estimated 62.5kg from Solcocon.

Ore to be fed to the new CIL plant will be mined from the Pravoberezhniy deposit, which was in operation throughout 2019. Management anticipates annual throughput of the CIL plant to amount to 350–380kt (cf our forecast of 320kt), which implies an average recovered grade in the range 2.37–2.69g/t and a likely plant feed grade therefore in the range 2.58–2.92g/t (cf our forecasts of 2.98g/t and 3.24g/t, respectively).

Heap leach operations were discontinued at the end of December 2019 as expected with the result that 100% of Tardan production is now being derived from the newly commissioned CIL plant.

Auriant reported total cash costs for the year of $884/oz. While they were not formally disclosed for Q419, we estimate that cash expenses in the quarter amounted to $701/oz of non-alluvial gold produced. Including alluvial production, we calculate that Auriant’s cost of sales amounted to $720/oz of gold produced and $794/oz of gold sold. While these numbers are slightly above our forecast of $627/oz of cash costs in FY20, they appear consistent with it, given that only 52.9% of Auriant’s production during the quarter was derived from the CIL plant and the fact that it may be reasonably assumed that the cost of production from the residual heap leach operations was above average and the cost of production from the newly commissioned CIL plant was below it. Moreover, as a result of test-work conducted during the ramp-up phase, Auriant has upgraded the leaching tanks at Tardan in order 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. This will allow Auriant to minimise its use of diesel generators on site or, possibly, to cease their use entirely, with obvious benefits for the operation’s cost base.

While financial results for Q419 and FY19 were modestly below our expectations, more recent output and (implied) cost numbers have given us confidence to broadly maintain our forecasts for FY20, with the single exception that we do not now expect any residual contribution from the heap leach pads.

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 project and the Kara-Beldyr project according to the operational and financial parameters anticipated, we estimate that Auriant is capable of generating average cash flows of $49.2m (cf $48.5m previously), average earnings of $42.2m (cf $41.5m previously) and average EPS of 21.0c (cf 18.7c) in the nine-year period from FY25–33 (inclusive), thus allowing it to pay maximum potential dividends to shareholders in the order of 23.0c per share (cf 21.7c) in the period FY26–33 (inclusive). Discounted at our customary 10% discount rate, such a stream of dividends has a value of $0.72 per share (cf $0.68/share previously), as shown in the exhibit below, rising to $1.28/share (cf $1.20/share previously) on the cusp of the company’s first meaningful dividend in FY27:

Our ‘base case’ valuation of $0.72/share compares with one of $0.68 in January 2020 (see our note Tardan CIL de-risks Kara-Beldyr). The main underlying factors occasioning the increase in value include 1) a higher share price (SEK3.69 vs SEK3.15), implying less future dilution associated with an assumed $40m equity raising in the near future (see ‘Sensitivities’ section, below); and 2) a slight 3.2% decline in the value of the Russian rouble relative to the US dollar, from RUB64.0188/US$ to RUB66.0750/US$. Note that our valuation specifically excludes any value attributable to Solcocon on account of the variable nature of alluvial mining operations. However, it is not impossible that activities at Solcocon could be reconfigured in the future to incorporate hard rock mining and processing via a carbon-in-pulp (CIP) plant.

In qualitative terms, the principal risks to which Auriant is immediately exposed include geographical/sovereign risk (including regulatory risk), geological risk, metallurgical risk, engineering risk, funding risk, financing risk and management risk. In general terms, these may be summarised as execution risk ie management’s ability to bring the Kara-Beldyr project to account within its geographical jurisdiction at the required technical and economic parameters. Once in production however, these risks will be perceived to have reduced and other risks, such as commercial, commodity price, foreign exchange and global economic risks will become relatively more pronounced.

One specific risk – funding – bears further, immediate consideration from an empirical perspective. In this particular case, our valuation sensitivity to the price at which an assumed $40.0m equity funding is conducted is shown in the exhibit 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 cf 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 instead rises to $1.11/share (albeit with a correspondingly higher maximum debt level of $140.2m cf $89.8m in the ‘base case’ scenario, see ‘Financials’ section below).

Edison’s long-term gold price forecasts were set out in our report Portents of economic weakness: Gold – doves in the ascendant, published on 14 August 2019, and are summarised in the table below:

Trading above $1,600/oz currently under the influence of both a re-expansion of the US total monetary base plus the perceived threat from the coronavirus, the price of gold is self-evidently above our forecast real prices for all of the years from CY20 onwards. In the event that the gold price were to remain at $1,600/oz, our valuation of Auriant rises by 54.2%, from $0.72/share to $1.13/share, in which case an investment in Auriant shares at a price of SEK3.69 on 1 January 2020 would generate an IRR to investors of 26.6% in US dollar terms over the 16 years to 2035 (inclusive), ie the life of operations.

As at end-December 2019, Auriant had net debt of $82.7m on its balance sheet, excluding a ‘lease payable’ item of $1.4m. This compares with net debt on its balance sheet of $83.4m as at end-September 2019. Assuming the company raises an additional SEK377.9m ($40.0m) in cash via equity funding in the near future, we expect its net debt will evolve as follows until FY25, before being eliminated in FY26:

Note that our estimate of Auriant’s maximum net debt requirement of $89.8m at end-FY23 equates to a leverage ratio (net debt/(net debt+equity)) of 70.8% (cf 61.3% previously).