Jeff Killeen: A Picky Player's Guide To A Cautiously Optimistic Mining Market

by: The Gold Report


In this interview with The Gold Report, Jeff Killeen shares the higher-quality names that have a prospect for development.

As capital returns to the mining sector, it will return first to the producers, second to companies with late-development assets and then, third and finally, to explorers.

Investors are feeling better, but not excited to the point where there's going to be broad-scale investment across the mining space. It's going to be selective.

The price of gold may be enjoying a double-digit increase so far this year and some equities may even have doubled their value, but Jeff Killeen of CIBC World Markets says it's not time to jump into metals with both feet. Be selective, he says. In this interview with The Gold Report, Killeen shares the higher-quality names that have a prospect for development.

The Gold Report: The price of gold has increased 14% this year. Is that due to gold's safe haven status?

Jeff Killeen: The safe-haven mentality is one element that's supporting the gold price. There is uncertainty in the market about the strength of the U.S. economy. A number of economic indicators reported during the last two months have not met forecasts. The rebound may be slower than expected. Buyers are coming back to bullion.

Unrest in the Ukraine is also helping to support the gold price, however, to a lesser extent than U.S. economic data. If weaker-than-expected indicators persist-and severe weather in the U.S results in soft data -such a scenario could be positive for gold in the near term.

Even before this rebound, there was very strong physical buying around the $1,200 per ounce [$1,200/oz] level from Asia. The investment community believed that there was a base established and started putting money back into the space with much less risk of a downside move.

TGR: It's now six years since the economic crisis of 2008. Is it possible that a consensus could form that a traditional economic recovery is not going to occur? And if this consensus does form, would it be a big boost for gold?

JK: Certainly. However, I think that that consensus may take a little while to form because most of the U.S. economic indicators started moving in the right direction in 2013. In the next three to six months, the impact from severe weather last winter will obscure the data picture.

TGR: The mood at this year's Prospectors and Developers Association of Canada [PDAC] conference has been described as "cautious optimism." Would you agree?

JK: I'd say the tone was divergent. Some senior management teams were feeling very cautious about commodity prices and general market appetite for mining equities, whereas a lot of the junior management teams had a much greater conviction that 2014 would be a strong year for the metals and equities.

TGR: If you look at the juniors and mid-caps, a lot of these stocks have gone up 25%, 50% and even 100% this year. I would have thought you would've seen a lot of smiling faces at PDAC as a result of that.

JK: Very true, but even a 100% uptick still leaves some share prices below where they may have been at better points in 2012. There is still that rearward-looking view to where the stock prices have come from, and a lot of them are a long way from there.

TGR: As capital returns to the mining sector, would it be correct to say that it will return first to the producers, second to companies with late-development assets and then, third and finally, to explorers?

JK: That succession sounds reasonable; however, new capital investment will certainly be selective. I would expect to see capital flowing into the space across the market-cap spectrum, but those companies or projects that are marginal at the current gold price or require further appreciation in the price to generate acceptable returns are likely to find it difficult to attract any new investments in 2014.

TGR: How can smaller companies, specifically explorers, demonstrate that they are worthy of financing?

JK: The first question anyone should ask when looking at the explorer space concerns the management team. Pick a solid team, especially in a market where accessing capital can be difficult. Spending dollars wisely is important.

Beyond that, a project with strong grades can give a comfort level to the buy side that a project could be profitable in the future, considering it's very difficult to assess where gold prices might be four, five or seven years from now.

Other benefits-geographic or logistic-such as being in the right region for having a smooth permitting process and having good roadways, rail or power, can add value.

TGR: Which major gold producers do you like?

JK: We like Goldcorp Inc. (NYSE:GG) and Agnico-Eagle Mines Ltd. (NYSE:AEM) because they have high-quality, high-grade cornerstone assets that generate a large amount of cash flow, have strong balance sheets with a lot of cash and the potential to use that cash to help grow their businesses through mergers and acquisitions. They have strong management teams with good-quality assets that will have secure cash flow even in a softer gold price environment. And that's where investors should be focusing.

TGR: What other gold companies have you rated Sector Outperformers?

JK: Among the producing companies that I cover, B2Gold Corp. (NYSEMKT:BTG) is my top pick and rated Sector Outperformer. The company has an attractive cost profile across its asset base, and all-in costs are expected to decline in 2015 and capital spending at the Otjikoto mine in Namibia will wind down next year. This is a mine that's currently being constructed now. We expect all-in costs to be sub-$900/oz in 2015 and that the company will be positioned to generate significant free cash flow by next year. Otjikoto coming on-line will contribute to a nearly 50% increase in gold output from 2013 to 2015.

That does not take into account the recently discovered Wolfshag zone. I would expect that once the company is able to incorporate the higher-grade Wolfshag zone into the Otjikoto mine plan, we'll see further improvement in cost and gold output from that project.

Beyond the development of Otjikoto, B2Gold's management has shown improvements at each of the company's three projects currently in production, and we're expecting modest increases in output from each of the La Libertad, El Limon and Masbate mines this year. With B2Gold projected to exceed a half-million ounces [0.5 Moz] gold by 2015, that certainly puts it into a fairly substantial production base.

The bottom line is that B2Gold is a company with attractive margins and significant near-term growth that's all internally funded. That's a great combination for any producer to have.

TGR: There were concerns raised about B2Gold's acquisition of Volta Resources Inc. Do you think that's a good fit?

JK: It was an acquisition the market didn't expect, but I can understand why the company likes the asset. It liked the exploration and management team. Plus, it was a rather small acquisition, at roughly 3% of its market cap, for something that could be important in the longer term. I think it made sense.

TGR: Let's talk about some of the companies you've rated Sector Performers.

JK: The names I cover that are Sector Performers include Alamos Gold Inc. (NYSE:AGI), Asanko Gold Inc. (NYSEMKT:AKG) and OceanaGold Corp. (OTCPK:OCANF) [OGC:TSX; OGC:ASX]. Some are simply calls on relative valuations. Some are based on project returns and so forth.

For OceanaGold, the rating is largely a valuation call relative to peers in the space.

TGR: Can you tell us about Alamos?

JK: Alamos' Mulatos mine in Mexico is still one of the lowest-cost producers and better-quality names in the space. But looking at it relative to peers, it is trading at a fairly steep premium. Alamos is trading at roughly 18x our 2014 estimated CFPS compared to 9x for the peer group.

However, I do see some upside. It has one of the strongest balance sheets of any company I cover, with more than $400 million [$400M] in cash. There are very good development assets in Turkey, which are being held up by permitting issues. Until we get more clarity on that, it could be a headwind for the stock.

TGR: What is interesting about Asanko?

JK: Asanko's merger with PMI Gold Corp. has been completed. It's a positive because it gives more optionality for development in Ghana. The merger puts two 5 Moz deposits within about 25 kilometers of each other under one company. Looking forward, Asanko will reassess PMI's Obotan deposit. I'd like to see more details about how that will look before we can revise the valuation.

TGR: Which streaming royalty gold companies do you like?

JK: My go-to answer would be Franco-Nevada Corp. (NYSE:FNV). It has a best-in-class portfolio and management team. It has lots of cash on its balance sheet to make acquisitions. It has cornerstone assets that will continue to generate free cash flow even if commodity prices drop significantly.

I also like Silver Wheaton Corp. (NYSE:SLW) because it is the best way to get exposure to the silver space, as silver producers are having difficulty securing positive cash flows and margins.

TGR: Any other companies?

JK: Allied Nevada Gold Corp. (NYSEMKT:ANV) did a good job at turning around the heap-leach operations at its Hycroft mine, but it does have a significant amount of debt. We find it difficult to see the Hycroft heap-leach operations being able to generate enough cash flow to repay that debt at these commodity prices. It would need a fairly significant increase in the price of gold, on the order of $200-300/oz, to be able to generate enough cash flow.

It also has a lot of work ahead of it on its proposed mill sulfide recovery project. At this point, it seems that the test work is going well, but it's in the early stages.

TGR: Given the recent increase in the price of gold and the significant uptick in a lot of equities, do you think that investors are embracing the sea change?

JK: There is a belief within the investment community that we're finding a bottom for the commodities. We do know that equities underperformed to the down side of the gold and silver price. Even just to revalue based on current spot prices means that there is probably still some upside to be had in a lot of the equities. With that in mind, investors are feeling better, but not excited to the point where there's going to be broad-scale investment across the mining space. It's going to be selective. It's going to be higher-quality names or those that have a higher prospect for development. It's not going to be widespread just yet.

TGR: Jeff, thank you for your time and your insights.

This interview was conducted by Brian Sylvester of The Gold Report and can be read in its entirety here.

Jeff Killeen has been with the CIBC Mining research team since early 2011. He covers and provides technical assessment of junior exploration and mining companies worldwide. Previously, Killeen worked as an exploration and mine geologist in several major mining camps, including the Sudbury basin and the Kirkland Lake region. Killeen earned his Bachelor of Science degree from Carleton University and is an executive committee member of the Toronto Geological Discussion Group.

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