Alexco Resources Is Running Out Of Time To Satisfy Silver Wheaton

| About: Alexco Resource (AXU)

(Editors' Note: This article covers a micro-cap stock. Please be aware of the risks associated with these stocks.)


In this article, I'll have a closer look at Alexco Resource Corp (NYSEMKT:AXU) which recently reported its third quarter financial results. Alexco operated the Bellekeno silver mine in the Yukon region of Canada, but had to put the mine on care and maintenance earlier this year. I will determine the impact of this closure and will provide my view on the company's financial statements and balance sheet. I will also try to look forward to the future, and this will result in my investment thesis at the end of this article.

My view on the financial results

In the third quarter of this year, Alexco recorded a total revenue of $23.4M and I'd like to emphasize the environmental services division attributed in excess of 25% of the total revenue. On top of that, this specific division also reported an operating margin of an astonishing 66%, which obviously had a huge impact on the company's bottom line. As Alexco had to stop its mining activities in September, the third quarter results don't really give a good view on the company's operations, but I think it's extremely encouraging to see the Environmental Services-division breaking records.

The gross profit for the quarter was $6.3M, and after deducting G&A and taxes, Alexco was able to record a net profit of $2.2M or $0.04/share. But as I said in numerous previous articles, it makes more sense to look at the cash flow statements of a company to judge the quality of the underlying business.

So when looking at the cash flow statements, Alexco reported an operating cash flow of just $1.4M, and as the company spent $4.4M on its properties, Alexco ended up losing $3M in cash during the quarter.

My view on the balance sheet

Let's now move over to the balance sheet. At the end of the third quarter, Alexco had a working capital position of $15.4M, which is 40% lower than at the end of last year. The current ratio is a healthy 2.38, so I don't expect any near-term funding problems (a current ratio higher than one means the company has sufficient current assets to cover its current liabilities).

At the end of the quarter, Alexco's book value was $1.64/share, but I wouldn't rely on this too much. As the company had to stop its operations in the Yukon, I don't think the current mineral properties of the company are worth the full $75.4M, even after writing down $51.4M on the Bellekeno and Onek properties in the first nine months of the year.


It doesn't look like Alexco will restart its Bellekeno mine anytime soon, as the silver price is still trading at less than $20/oz. It's not unlikely the Bellekeno mine will re-start production in the spring of 2014, but Alexco's management has stated the potential restart will be depending on the silver price, and I'm not sure it would be the smartest move to re-open Bellekeno at the current low silver price.

On a positive note, the company has released a Preliminary Economic Assessment (PEA) determining the viability of the Flame and Moth deposits which confirm the potential to mine these zones at a rate of 3.1 million ounces per year. Initial capex would be $25M, and the payback period came in at 3.5 years, which is quite long, especially if you know the base case scenario uses a silver price of $24/oz which is more than 20% higher than the current spot price.

The Silver Wheaton Deal

It also looks like Alexco's deal with Silver Wheaton (NYSE:SLW) might cause the company and its investors a lot of headaches. As per its silver streaming agreement with Silver Wheaton, Alexco has promised it would reach an average output of 400 tonnes per day by the end of 2014. As the operation is currently put on care and maintenance for the winter and as Alexco has suspended all capital expenditures, I'm afraid Alexco won't meet its obligations to satisfy Silver Wheaton.

(Click to enlarge)

The Silver Wheaton deal could turn out to be pretty ugly for Alexco, as if the deadline won't be met, the company will have to re-fund a part of the up-front balance of $50M it received in 2011 from SLW. On top of that, the current 25% silver stream might (and very likely will) be increased pro rata to the shortfall in throughput tonnage.

If Alexco stays at the Q3 production rate of 321t/d, the silver stream will be increased to 31.25%, which will obviously have a further impact on Alexco's financial situation as it has to sell the ounces to Silver Wheaton at just $3.90/oz.

Investment Thesis

As Alexco's milling operations will remain "mothballed" until at least the spring of 2014, I don't see any urgent pressure to buy the shares right now. I do admit that the company's assets have its merits at a higher silver price ($25-30/oz), but at the current silver price of just $19.5/oz, I'm not convinced at all that Alexco is a must-have asset, especially not when you see the 40% working capital decline in the first nine months of the year.

Also keep in mind there will be additional pressure on the share price in 2014, as per the agreement with Silver Wheaton, Alexco has promised to reach a throughput of 400 tonnes per day by December 31 2014. As the company is currently deferring all capex and has even shut down the mill, I seriously doubt Alexco will be able to show Silver Wheaton a throughput of 400tpd by the end of next year.

As such, I have no intention to buy Alexco Resources at this point, and one can only consider the company to be a bet on a rising silver price.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.