Income from a Junior Gold Miner
Each week we screen thousands of corporate bond listings to find what we believe to currently be the best corporate bond for investors needing or seeking higher yields with as minimal risk as possible relative to its projected return. Included in this review process are issues that we previously recommended that remain or have become such an extraordinary value that it may merit an overweight position. Considering the most recent developments at Brigus Gold (BRD), we are astonished that it might still be possible to acquire its very short 29 month convertible debentures, couponed at 6.5%, as such a deep discount and current yield to maturity indications that are about 14.38%. Therefore, we think it appropriate to respond by increasing its overweight position in our Fixed-Income1.com and Fixed-Income2.com portfolios.
Brigus was formed in 2002 as the result of the amalgamation between International Pursuit Corporation (founded in 1936) and Nevoro Gold Corporation (2002). The Corporation changed its name from Apollo Gold Corporation to Brigus Gold Corp. and consolidated its issued and outstanding common shares. Brigus is a growing Canadian-based mining company, headquartered in Nova Scotia, which is principally engaged in gold mining, including extraction, processing and refining as well as exploration and development of mineral deposits in Canada. Brigus Gold operates the Black Fox Mine in Timmins, Ontario, located on the Black Fox Complex. This property also has tremendous exploration upside and is a proven source for new gold discoveries (see update section below.) In addition to its Black Fox Complex, Brigus also owns the Goldfields Project located in northern Saskatchewan, which hosts an economic gold deposit of about one million ounces.
In addition to the 6.5% coupon (paid semi-annually) that this bond offers, it is also the holder's option to convert it at any time prior to maturity to common stock at the conversion price of $ 2.45. This price represents about a 50% annual rise from the $.72 price that BRD is currently trading at on the NYSE. While these kind of gains are certainly not unheard of in the volatile realm of gold mining and exploration companies, we don't think it is necessary to include any additional value considerations for this possibility given the already remarkably high and rewarding 14.38% yields that the bonds are likely to average when maturing at par value. While those that don't mind the additional risk may prefer Brigus Gold stock for their growth equity portfolio, we currently see its debentures as being extremely undervalued and prefer the bondholders option to convert to stock equity should the company continue with performance improvements and with expanding its proven and probably resource assets.
Being a smaller issue, Brigus Gold's debt is not covered by the major credit rating agencies and is therefore classified as "unrated." However, it appears that Brigus continues to be well managed, is sufficiently financed and carrying a reasonably low level of debt, is prudently utilizing existing cash flows both to pay down debt while continuing exploration, and is very likely to have ready options for additional funding if necessary (especially in light of recent drilling results, as noted in the section below.) It is also worth noting that all mining jurisdictions are not created equal, a factor that is often overlooked in the mining industry. Canada is among the best mining jurisdictions in the world, and we believe that Timmins (location of the Black Fox complex) is a top-tier mining and exploration district. Not only is the region of operations for Brigus politically safe, with a stable fiscal and tax regime, it also offers top-notch technology and specialty services.
Brigus Gold Update, October 24
After our first and second review of Brigus Gold, the Company has continued to report solid increases in gold production and sound operating results. Despite a temporary shutdown of its mill for 20% of the 2nd quarter of 2013, it produced 23,304 ounces of gold (a 22% increase over Q2 2012.) While sharply lower gold prices in the second quarter resulted in the Company recorded a $9.8 million depreciation charge in the second quarter, the net cash provided by operating activities was a healthy $9.3 million and it repaid $4.9 million of debt. Also skewed was its "all-in sustaining costs" of production. In a letter to shareholders on August 27th, CEO Wade Dawe specifically writes that these "all-in" costs will be approximately $1,100 for the remainder of the year, which offers attractive margins even in the current reduced gold price environment. For as young producer as Brigus is, we see this as compared quite favorable to the 2013 all-in costs estimates from gold behemoths Barrick Gold Corp (ABX) at $900-975, and Goldcorp, Inc.(GG) at $1000-1100. Newmont Mining (NEM) expects costs between $1100 and $1200 per ounce. Since hitting a 46 month low of $1,179 on June 27th, spot gold prices have now rebounded to above the $1,300 level and investor sentiment for the sector, having reached extreme negative levels, appear to be in the process of reverting to a more reasonable range.
Dawe also noted that capital spending for Brigus has been reduced by $7 million and that various other cost savings measures have been implemented. In total, Brigus has reduced its long term debt by $7.3 million the first half of 2013, and is forecasting to make an additional $9.9 million (Cdn) of principle payments during the second half of the year, a trend that should continue in 2014. Earlier this month (October), Brigus COO Daniel Racine announced that Q3 2013's production was a record 27,174 ounces and that it is well positioned to deliver on its 2013 full year production guidance target of 95,000-105,000 ounces. He further emphasized the company's focus on disciplined capital spending and on maintaining its excellent safety record.
While Brigus continues to make fundamental improvements in both its cash flow and its debt structure, what surprised us (and evidently the equity market) was what was revealed in last Wednesday's after the market close news release. Headlined in the report was the very long (26.75 meters) intersect of extremely high grade (40.71 gpt) ore from a test hole drilled from underground at Black Fox. Being only one hole, it's far too early to declare any kind of increase in the size of proven or probable reserves. However, considering that the average grade of material used to produce the most recent quarter's record number was 4.34 gpt (with an average recovery of 94%), this new down dip discovery appears to have not only extended the west zone by an additional 300m at depth, but its high grade is so stunning that we expect to see a sizeable escalation of exploration efforts in Black Fox's west zone. Furthermore, we believe that the inherent potential indicated with these extremely high assay numbers are quite likely to open new doors of opportunity for additional capital or financing from the equity markets should Brigus desire or need it. In retrospect, the repurchase of 4% of Black Fox's goldstream agreement with Sandstorm Gold Ltd. (SAND), reducing it from 12% to 8%, may have been very prescient.
In other words, we see the short term risk of bankruptcy or operational failure for Brigus as being greatly reduced a result of last week's "direct hit" on bonanza grade gold ore. Furthermore, while the equity markets have responded much more positively to this most recent news release (Brigus stock has rose over 35% on heavy volume in just 5 days since the close of market after this news was released), we believe the market for Brigus Gold's convertible note has been very slow to respond to what we see as a significant reduction of risk.
The Company plans to release its third quarter 2013 financial results after market hours on Tuesday, November 12, 2013. We expect to learn more about this exciting extension of the Black Fox west zone, as well as any progress towards an updated NI 43-101 resource estimate on the Grey Fox project. Given the impressive drill results being reported within the 147 Zone and Contact Zone, some of which were also included in last week's news release but not commented on here in this updated review because of the significance on one hole at Black Fox, it would not surprise us to see this resource grow considerably. Therefore, we see this as a fleeting opportunity to possibly capture greater than 14% yields from such a sound and very short instrument denominated in US dollars.
The default risk is Brigus Gold's ability to perform. Considering their historical and recent performance, their flexible balance sheet, their sound cash position, and the excellent cash flow that is projected to service their interest bearing debt, it is our opinion that the default risk for this short to medium term bond is minimal relative to its highly favorable return potential. An option that further reduces the default risk of this convertible bond, should at its maturity the company decide not to pay off or roll over the debt, is a conversion of the principal (at par) to BRD common stock at a 5% discount to stock's valuation at maturity on 3/31/2016.
The Company's performance is highly dependent on the price of gold as it directly affects the Company's profitability and cash flow. The price of gold is subject to volatile price movements during short periods of time and is affected by numerous factors, such as the strength of the US dollar, global economic conditions, supply and demand, interest rates, and inflation rates, all of which are beyond the Company's control. Slow global growth is expected to continue into 2014 and reflects the compounding effect of a number of factors, most notably increasing fiscal belt-tightening in many advanced nations, prior credit restraint in some key developing countries, and the cascading effect on international trade, credit, and financial conditions associated with the euro zone's lingering sovereign debt issues. In this environment, precious metals are likely to represent an attractive investment alternative.
The Company also has execution and market risks as a relatively young and very fast growth junior mining company, as companies often encounter unforeseen issues. This is a common risk associated with younger, fast growing companies.
We believe that these Brigus Gold convertible debentures have similarities to other Canadian convertible notes we have previously reviewed, including those from Tricon Capital TCNGF), Neo Materials/Molycorp (MCP), and TransGlobe Energy (TGA), several of which have already achieved significant capital gains since our initial recommendation.
We believe that Brigus Gold continues to improve its balance sheet, and should continue to do well considering its increased production and the profitability margins that current Gold prices continues to prove. While it would not surprise us to see Gold prices soften further as money continues to flow from traditional precious metal safe havens into the equity markets, we believe this relatively small issue as offering excellent returns from a company that has good management, a sound cash position, good cash flow and interest coverage, and a flexible balance sheet. Its bond appears to be a rare opportunity for obtaining an outstanding 14% yield with significantly lower default risk than is typically associated with an unrated (or low rated) medium term bond, not to mention the additional capital gains return potential that its conversion at any time feature allows for. As a result, we see both the stock and its convertible debenture as a savvy opportunity for very high returns, and it is why we have marked Brigus Gold for a significantly overweight position in our Fixed-Income1.com and Fixed-Income2.com portfolios
NYSE: $0.72 11/01/2013
Conversion Price: $ 2.45
Yield to Maturity: ~14.38%
Please note that all yield and price indications are shown from the time of our research. Our reports are never an offer to buy or sell any security. We are not a broker/dealer, and reports are intended for distribution to our clients. As a result of our institutional association, we frequently obtain better yield/price executions for our clients than is initially indicated in our reports. We welcome inquiries from other advisors that may also be interested in our work and the possibilities of achieving higher yields for retail clients.