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Executive summary

  • Allied Nevada has updated crucial credit agreement to support liquidity position which will improve both liquidity ratios and help the company to invest in current projects.
  • Increased production and sales level from existing mines but no announcement has been made for new projects.
  • Huge change in share price within one year's time from $27.8 to $5.13 has made it a very good acquisition target. Furthermore, recent amendments in the CEO's and CFO's contracts indicate that the company will most likely be sold.
  • Allied Nevada is a good investment as investors can reap the benefits of a good compensation for their shares in the company.

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Introduction

Allied Nevada Gold Corp. (NYSEMKT:ANV) is a gold and silver mining, development and exploration company incorporated in 2006 in Nevada. The company has six properties which include Maverick Springs, Mountain View, Hasbrouck/Three Hills, Wildcat, and Pony Creek/Elliot Dome. The Hycroft Mine is the company's only operational mine and it sold 121,481 ounces of gold and 505,151 ounces of silver in the first nine months of 2013. Gold prices plunged twice during 2013, causing many gold miners to incur heavy losses which led to a significant decline in share prices. Allied Nevada was one of the worst sufferers of this market volatility. The company recorded a huge decrease of 88.4% in its share price during 2013, from $30.71 per share to $3.15 per share.

(click to enlarge)

Source: Y-Charts

Fundamentals

During 2013 the cost of producing gold kept increasing while the downward pressure from low prices of gold led to very limited profit margins. The company reported a net income of only $5 million during the third quarter of 2013 which is 63% less than the same quarter of 2012 and production costs increased by 75% compared to last year. This might have been due to the company's incapability to cope with the changing market situation as it was unable to control its productions cost at such unfavorable times, leading to a huge decline in its share price. Allied Nevada can be said to have underperformed during the deterioration of the gold market because the industry experienced a decline of roughly 55% during 2013 while it declined by a hefty 88% and continues to do so, making it an acquisition target for competitors. However, the company has started to show signs of recovery with the start of 2014 as its share price has improved from $3.55 at the start of 2014 to $5.23.

Company

Industry

Sector

Quick Ratio (MRQ)

1.25

1.50

2.78

Current Ratio (MRQ)

2.56

2.94

3.46

LT Debt to Equity (MRQ)

69.54

37.18

17.97

The company has not increased its debt (quarter over quarter) which is a good sign, though its long term debt has increased by 11% over the year (at the end of the third quarter of 2013). This is not a good picture for Allied Nevada as it has a very high total debt to equity ratio and lower liquidity ratios compared to the industry average which can create problems for the company in the near future. And at the same time, it reported a decrease of 37.5% in cash and cash equivalents (from the second quarter to third quarter of 2013) while its net cash outflows amounted to $193 million for the year ending 30 September 2013.

Investigation

[Editor's note: This section has been updated since original publication]

Allied Nevada's board of directors was under investigation by Faruqi & Faruqi LLP regarding the proposed acquisition of the company by China Gold Stone Mining Development. This deal was worth approx. $1.25 billion, giving $7.50 per share to each shareholder of Allied Nevada. The investigation of the board was prompted by the fact that about a year ago (on 14 January 2013) the company's stock price was $27.80 per share and the current share price is $5.13 per share. Hours later, the statement for tender was retracted by China Gold Stone by saying that this was issued in error without the advice from counsel which led to withdrawal of investigation from Faruqi & Faruqi LLP as well. In response to this mysterious tender offer, Allied Nevada made a press release stating its concerns over validity and legality of China Gold Stone's proposal to the SEC and the Ontario Securities and Exchange Commission.

Although this tender offer and investigation died hours later, but it does indicate that such low share price makes Allied Nevada a good acquiring target. Furthermore, it also points out that the management has not been performing efficiently as the company experienced such a huge decline in share price.

Credit Agreement

The company has updated its credit agreement with The Bank of Nova Scotia:

  1. The size of the revolving credit facility has been reduced from $120 million to $40 million.
  2. The cash flow related covenants included in the prior agreement, specifically the leverage ratio and the interest coverage ratio, have been eliminated.
  3. The amount available to borrow under the credit agreement will be determined by a borrowing base (primarily the value of inventory on the leach pads) as defined in the agreement.
  4. The credit agreement will have a maturity date of April 30, 2016.
  5. The credit agreement includes covenants to maintain a post-maturity reserve tail of 600,000 recoverable gold equivalent ounces and a current ratio of not less than 1.25.
  6. The credit agreement includes an accordion feature allowing it to be increased to $75 million.

This agreement will help the company to create room for expansion as it was becoming difficult for it to meet the previous covenants due to the deteriorating gold market. With the removal of certain covenants, regarding leverage ratio and interest coverage ratio, the company can now focus on expansion in 2014 as its LT debt to equity (MRQ) was very high compared with the industry average while it had an interest coverage ratio of 6.21, which is 79% less than the industry average. Even though the revolving credit facility has been reduced to $40 million the agreement has an extra feature which can allow the credit agreement to be increased to $75 million.

Increase in Production

The company has published the guidance for 2014 with an increased production of both silver and gold. Production of gold and silver increased by 39% and 11% while their sales increased by 59% and 23% respectively during 2013 (compared with 2012's production and sales). Now the company is expecting the sales to increase to approx. 230,000 to 250,000 ounces of gold and 1.7 million to 2.0 million ounces of silver while maintaining adjusted cash costs at approx. $825 to $850. The company is also decreasing its capital expenditures for the year. Non- expansion capital expenditure will be less than $15 million while exploration expenses will be approx. $2.9 million.

Although the growth in sales looks promising, the decrease in capital expenditure might not be beneficial for the company as it will not be starting a new mine anytime soon nor is it planning to acquire one in order to increase production. This can create some concerns regarding the company's expansion policy as the Hycroft Expansion Project is still pending and no new proposals to continue with the project have been finalized.

Recent Developments

Recently Allied Nevada announced the sale of Hasbrouck to Kirkland Mining for $30 million. This mine was still undeveloped and required capital to bring it into the production stage. This divestment has raised capital that can be used to strengthen the company's financial position and allow it to focus more on its flagship mine, Hycroft. This will bring some stability to the revenues via an increase in production. $20 million will be received at the deal's closing whereas the remaining $10 million will be paid after 30 months. Allied Nevada's planned spending of $35 million can now be covered from this influx, reducing the dependence on debt which is already very high compared to the industry average.

Furthermore, the CEO's and CFO's employment agreements have been amended by an addition that if these executives are fired in relation to change of control (takeover from another company) or without cause, they will receive generous severance payments. This shows that the management is protecting itself in case of a takeover and indicating that the company is looking for a good buyout proposal and might be sold off in the near future. In case a takeover happens, the share price might increase and investors will also receive compensation for the company's sale but it all depends on the details of the deal.

Valuation

Amounts in ($ Millions)

Market Capital

528

Long term Debt

549

Cash and Cash equivalents

(154.5)

Enterprise Value

922.5

The company has an enterprise value of $922.5 million while the outstanding shares are 103.94 million. From this we can calculate the EV/share to be $8.88 per share. Comparing with the current share price level of around $5.2 per share, the stock is undervalued and has the potential to almost double.

Conclusion

According to our estimates, this undervalued stock has growth potential but looking at the market conditions it has a fair amount of risk attached to it. Allied Nevada has yet to continue the suspended expansion of the Hycroft Mine but is reducing capital expenditure which means that it needs feasible market conditions to restart work on the mine. However, it has updated the credit agreement with The Bank of Nova Scotia which can help it in financing the expansion. Adding to that Allied Nevada might be heading towards a sale which is also reflected by attempts of the senior management of protecting themselves through updating their employment agreement. If ANV does get acquired by a credible company, it can lead to good share price growth and also long term value addition. We think that the company's stock cannot fall any further which means that investors won't suffer any more losses. Therefore, we believe Allied Nevada has bottomed out and is a good purchase at these valuations.

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.

Source: Allied Nevada Has Bottomed Out

Additional disclosure: Equity Flux is a team of analysts. This article was written by our Basic Material and Financial analyst. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.