K2 Responds To Asanko Following Short Report

| About: Asanko Gold (AKG)


Asanko has mined ~2.5Mt of ore to date at ~1.2g/t - well below its average reserve grade of 2.2g/t.

Our original report used all Resolute and PMI drilling data publicly available for the Nkran deposit - contrary to the Company's response that we ignored PMI's drilling.

AKG appears to misunderstand our key strip ratio argument.

Asanko (NYSEMKT:AKG) published a rebuttal to our report on its website. The full version can be found here, and the full version of our report can be found here.

Asanko's rebuttal mischaracterizes numerous aspects of our report and fails to address the majority of our technical criticisms.

Before addressing its rebuttal, we feel it is important to remind investors that much of our thesis is data-driven, and the Company should, in our view, be in current possession of the requisite data to disprove/discredit it. For example:

We contend the Company's current reconciliation is likely below its resource/reserve model by around 50%. Asanko has mined 2.5Mt of ore, 1.3Mt of which has been processed and 1.2Mt is on stockpile with grades reported. Asanko should know what benches the ore has come from and the associated resource blocks; it can disprove this claim easily. We do not view this quantity as immaterial or premature: 2.5Mt matches the total ore tonnage Asanko was scheduled to process in its DPP to produce ~190koz of gold in 2016.

We have shown 11 cross sections in our report and interpret that the Company's resource shell volume is too large to be able to contain an average grade of ~2.3g/t. The Company should be able to produce cross sections along strike from its resource model, showing its resource blocks with drill assays overlain. In doing so, AKG can demonstrate that there are not an unusual amount of NSR/marginal grade intercepts surrounded by high-grade blocks as we perceive there likely are.

We claim the additional drilling performed by PMI does not justify the >4x increase in gold that occurred from its initial 2010 resource estimate to the current one. It is our understanding that PMI previously published its dataset here, allowing investors to evaluate the drilling model. Asanko can do the same and allow investors to independently evaluate this.

In our report, we estimate that the Company is likely mining ore faster and deeper than the DPP planned for in 2016, suggesting it should be outperforming its DPP mine plan rather than underperforming it in accordance with its guidance. The Company can easily refute this by comparing the ore tonnage and grade that its reserve model estimates for the benches it has mined to date, and planned to mine for 2016, to its DPP mine schedule.

Asanko's Rebuttal of K2 Report and Our Responses

1. Asanko Rebuttal: K2 omits to mention that in comparing Asanko's 2014 MRE with an estimate developed 17 years ago by a former owner, Resolute, there has been a substantial increase in information gathered from subsequent drilling at depth.

1. K2 Reply: We do not omit mention of this. In fact, on the first page of section 1 in our report, we mention three times the number of additional PMI drill holes used to produce three incremental resource estimates post-Resolute.

2. Asanko Rebuttal: This information, which wasn't available to Resolute, clearly contradicts prior assumptions that the Nkran deposit was becoming thinner and more discontinuous at depth.

2. K2 Reply: This was not an assumption; it was a statement of actual mining experience by the previous operator (Resolute). Furthermore, our thesis is not that ore zones will worsen below the Resolute pit; our main point is that Asanko's mineral reserve estimates imply that they expand dramatically in terms of ore tonnage per vertical meter beneath the old pit, which we do not believe to be the case.

We explain this further in response to the Company's mistaken rebuttal of our strip ratio analysis later on (see K2 Reply #9).

If Asanko believes that the drilling clearly supports the over 4x gold increase that occurred between PMI's initial 2010 resource estimate and its current one, then it should make it clear to investors by providing them with cross sections and full drill assay data. In the 821 pages between Asanko's 2014 CJM resource and its DPP NI 43-101 Technical Reports, we found only two cross sections, and neither appeared to be properly oriented perpendicular to strike. In comparison, PMI included 10 proper cross sections along strike in its 2010 Nkran resource estimate and, to our knowledge, put its project on Corebox for investors to independently evaluate. We encourage Asanko to match the level of transparency afforded to investors by its predecessor.

3. Asanko Rebuttal: In fact, Asanko's 2014 MRE has the benefit of an additional 37,452 metres of drilling, which K2 has ignored, and which informed the MRE and Plan.

3. K2 Reply: The suggestion that we ignore additional PMI drilling is not true. To make this clear, we stated the following in the opening sentences of Section 2 of our report:

"We plotted all the Resolute and PMI drill data we could locate into 11 cross sections."

We further include two source files of drill data on our webpage, which include 75 PMI holes used in our analysis. PMI holes are clearly represented in cross sections within our report.

4. Asanko Rebuttal (Cont'd from above): The additional drilling, conducted between 2007 and 2012 by PMI(2), represents an approximate 50% increase in total drilling and a 97% increase in the diamond drilling within the Nkran deposit over that which Resolute had available.

4. K2 Reply: We included this drilling and fully considered all reported PMI holes on SEDAR from this period.

5. Asanko Rebuttal: Of the additional drilling, 34,059 metres (91%) was drilled below Resolute's old floor for the Nkran open pit to verify the grades and continuity of mineralization at depth. In contrast, of Resolute's total drilling, only 16,235 metres (22%) was completed below the old pit floor.

5. K2 Reply: PMI previously released a dataset of drill holes containing "Significant Composite Drill Intersections Under the Nkran Pit" on February 4th, 2010. The link in the release is no longer active, but we have posted the file on our website for download. This included 25.6km of drilling in 96 holes by Resolute, as opposed to the 16.2km of drilling cited by Asanko.

Regardless, total meterage is a near-meaningless statistic to observe in isolation without providing proper context. Large quantities of both Resolute and PMI's drilling were performed in areas outside Asanko's current mineral reserves. Furthermore, a large quantity of the drilling PMI did in mineral reserve areas appears to have been confirmation and infill drilling of previous Resolute holes. For investors to evaluate the impact of drilling, they need to see cross sections to gauge the incremental impact of additional drilling, which is why we assembled our own and performed this analysis.

6. Asanko Rebuttal: Moreover, PMI's data is superior to Resolute's because PMI has relied exclusively on diamond drilling, whereas only 52% of Resolute's data was from diamond drilling. The balance of Resolute's data was from reverse circulation drilling, which provides less useful results.

6. K2 Reply: The drilling that Asanko should be comparing is the drilling that took place beneath the old Resolute pit where its mineral reserves predominantly exist. Of the Resolute holes released by PMI that encountered "Significant Composite Drill Intersections Under the Nkran Pit", 23.7km of the 25.6km total drilling was classified as diamond drilling (93%), as opposed to reverse circulation.

7. Asanko Rebuttal: K2 also omits proper context in describing Resolute's decision in 2000 to reduce its global mineral inventory for the mine to 749,000oz of gold. K2 incorrectly implies that the gold was removed from the resource because it was not actually present. In fact, the gold was present, but it was made temporarily uneconomic by factors that are no longer relevant, such as increasing ore hardness (which vastly reduced the throughput of Resolute's mill) and the then prevailing weak gold prices. Asanko's newly constructed process plant has been designed for the hardness of the ore that Resolute encountered towards the end of its operations. Moreover, the gold price assumed for Asanko's 2014 MRE was US$1,300/oz, up 400% from US$260/oz around the time of Resolute's mineral inventory reduction.(3)

7. K2 Reply: This may be true. Admittedly we were only able to assume what led to the decline as we could not find an explanation in the filings available to us.

However, there is a more recent and relevant reference point, and one that Asanko excludes mention of. PMI re-estimated the Nkran Resources using Resolute's dataset as well as 10 PMI holes in 2010, and came up with only 832koz @ 2.53g/t. Months after publication of the related NI-43-101, the Company changed CEOs and changed to engineering firm SRK and, using 51 additional holes that our analysis suggests are mostly infill, it produced a re-estimate within ~1 year containing over 4x the gold (3.4moz) @ 2.26g/t.

We evaluated associated differences in grade cut-offs, depth, and drill intersections and, in our opinion, they do not account for the scale of the increase.

8. Asanko Rebuttal: K2's short report is seriously flawed because its anonymous authors have purported to develop an alternative resource estimate without having access to the necessary and extensive analytical, geological and structural databases that Asanko's Qualified Persons used. No K2 personnel have visited the Asanko Gold Mine or had discussions with the Company's technical team.

8. K2 Reply: We requested multiple times to speak with Asanko's technical team. It was not facilitated by management; we remain open to a discussion with its technical team.

9. Asanko Rebuttal: K2 criticizes Asanko on the grounds that its estimated Nkran pit strip ratio is too low, but K2 has misstated that ratio as being 3.88:1 when in fact, Asanko's life of mine strip ratio for the Nkran pit is a much more conservative 5.24:1, as disclosed in the Plan.

9. K2 Reply: We do not misstate Asanko's strip ratio as 3.88:1. Instead we point out how Asanko's DPP models potential Whittle pit designs up to 114Mt in size (which is 3x the tonnage that Resolute reportedly mined from Nkran) while maintaining lower strip ratios than Resolute achieved (3.88:1). This suggests that Asanko's mineral resource/reserve estimate sees the ore body becoming significantly wider/more continuous directly beneath the old Resolute pit without compromising grade.

This is one of the most important points that we make, and we will therefore clarify it below:

Whittle pits model increasingly larger pit design options, testing the contents and associated economics of each one searching for the optimal pit size. Each Whittle pit design is a representation of what the Company's mineral reserve estimate suggests are possible for it to achieve at different pit sizes, providing a very useful window into its mineral reserve estimate. Asanko modelled 40 Whittle pit shells in its DPP, it selected Shell #34 which implied a strip ratio of ~5.2:1; we are well aware of this. We are not concerned with the specific shell the Company selected, but the implications all of its shells make on the underlying reserves

Below we show what Asano's Whittle pit shells look like on a scatterplot, comparing total pit tonnage (pit size) and the resulting strip ratio (ratio of Waste:Ore within the pit design):

Click to enlarge

Data Source: Asanko Gold Mine - Phase 1 Definitive Project Plan; Graph created by author

Asanko's Whittle pits model a virtually linear rate of increase in strip ratios as a consequence of choosing larger pit designs that access more ore at the expense of requiring more waste to be mined. Asanko is continuing where Resolute left off previously, expanding its already mined-out pit to mine deeper down the same ore body. If that same orebody yields ~linear rates of strip ratio increases as larger and larger pits are designed, then Asanko's strip ratio should continue on from what Resolute left off at in similarly linear fashion. Asanko's Whittle pit strip ratios curiously do not continue from where Resolute left off. Instead, they take a dramatic step function from Resolute's 3.88:1 average, down to roughly 2.07:1 in shell #1, and trend up from there. They do not reach Resolute's 3.88:1 average strip ratio until shell #21, at 114Mt of total material. Cut-off grades don't explain this phenomenon, as the grades of Asanko's estimated Whittle shell designs actually commence at higher grades than what Resolute achieved. The only explanation we can conceive is that Asanko's mineral reserve estimate assumes the orebody expands dramatically beneath the old Resolute pit, with significantly more ore per vertical meter at reserve grades than what Resolute encountered directly above.

We can test our logic by applying our contained gold estimate to Asanko's Whittle shells. If adjusting Asanko's Whittle shells for the implications of our contained gold estimate results in Whittle shells more consistent with Resolute's strip ratio, it is evidence that Asanko is assuming significant additional ore continuity and/or volume that conveniently begins immediately below the old Resolute pit.

In our report, we estimated that there is roughly only half the gold present compared to Asanko's mineral reserve estimate. We know Resolute was able to mine at reserve grades above 2g/t, so our work predominantly suggests that half the tonnage is present at the grades Asanko's mineral reserve estimate predicts.

So, what if we remove half the tonnage classified as ore from each Whittle pit and transfer it to waste within each pit design, and add Resolute's mined tonnage to each Whittle shell?

Click to enlarge

Data Source: Asanko Gold Mine - Phase 1 Definitive Project Plan; Graph created by author

When we remove half of the ore tonnage in each of Asanko's estimated Whittle shells, the step function vanishes and the trend line snaps back to approximately linear from beginning to end in accordance with what we would expect - suggesting that Asanko is assuming significantly increased ore per vertical meter, which conflicts with Resolute's actual mining experience.

10. Asanko Rebuttal: Investors should ignore K2's reconciliation attempts of actual mining results compared to estimated Mineral Reserves because K2 uses limited pre-production data. The purported reconciliation is premature and not technically feasible since K2 has no knowledge of where Asanko actually mined ore within the pit or what the corresponding Mineral Reserves data for that mined area was projected to be.

10. K2 Reply: According to Asanko's disclosures, the Company has now:

Mined 2.5Mt of ore from the pit as of June 30, 2016

  • Processed 1.3Mt of that material
  • Assigned stockpile grades to the remaining 1.2Mt Grade control drilled an additional 1.2-1.3Mt of ore

This brings the total to at least ~3.7Mt of ore for which the Company, in our view, has substantial data to reconcile against its mineral resource/reserve estimates for corresponding benches. That amounts to substantially more than a full year of ore processing requirements. We are curious as to how Asanko considers this insufficient for reconciliation purposes.

We encourage investors to contact independent experts who perform resource reconciliations for gold miners, as we have done, and ask them how much tonnage they would need to have mined/processed/grade control drilled to feel confident in reconciliation to resources/reserves.

11. Asanko Rebuttal: Investors should also ignore K2's prediction of production shortfalls, which is based on the same badly flawed reconciliation analysis.

11. K2 Reply: Asanko already guided a production shortfall when it lowered its 2016 annual production guidance to 140-155koz from the DPP schedule of 187koz despite stating in its January 27, 2016, news release:

"The grade control based mine plan for 2016 is expected to be in line with the Definitive Project Plan."

The fact that this is taking place while at the same time Asanko pushes its mill to process substantially more ore than mine plan in 2016 should, in our view, concern investors.

12. Asanko Rebuttal: Asanko has provided a preliminary mineral resource reconciliation in its Q2 2016 Production Results, which shows the mine is on course.

12. K2 Reply: Asanko's preliminary mineral resource reconciliation covers only ~257kt of ore, less than 7% of the total quantity of ore mined/processed/grade control drilled that it should have the data for. We think the Company should be showing investors the full reconciliation of all its grade control and processing data to its mineral reserve blocks if it is to suggest that reconciliation is on course.

13. Asanko Rebuttal: Asanko expects to provide actual mining results and estimated Mineral Reserves in Q1 2017 after an appropriate period of normalized mining of the main ore zones under the historic Nkran pit.

13. K2 Reply: There are two main items we wish to point out in response:

Asanko made it clear in its Dec. 21, 2015, news release that it was entering what it deemed the "main ore zones" over six months ago, and its DPP suggested these were supposed to yield significant ore tonnages at reserve grade immediately thereafter.

Quotes from Asanko's Dec. 21, 2015, news release:

"Mining main ore zones in the Nkran pit."

"The main Nkran Mineral Reserves are now being opened up."

"We are starting to mine the main Nkran orebody."

"During the past few weeks, further mineralized zones of the main Nkran orebody have been exposed in places along the western flank of the pit and are available to support the ore production levels."

This corresponded with the Company's DPP monthly schedule which we have converted to graphical form below. It is clear it was supposed to be entering into an ore mining ramp up phase at reserve grade in January 2016.

Data Source: Asanko Gold Mine - Phase 1 Definitive Project Plan; Graph created by author

Note that in the DPP, the Company was supposed to be producing ~200-400kt per month starting in January 2016, and mined grades were supposed to remain approximately at or above ~2g/t from August 2015 onward.

Further note that this ramp up was supposed to occur immediately after the Stage 1 and Stage 2 pre-strip completed, suggesting that these ore tonnage quantities at reserve grade were supposed to occur well before the Company ever reached the base of the old Resolute pit, which it appears to now reference as the "main ore zones".

Less than 3% of the ore mined through June 2016 was supposed to be mined at monthly average grades below 1.9g/t. In contrast, less than 2% of the Company's reported Q2 stockpiles are reported at grades above 1.6g/t.

This differential is staggering in our view. We believe that Asanko has been mining what it initially deemed the "main ore zones" for over six months, and reconciliation has been very poor.

We believe that Asanko is now planning to mine below the deepest portion of the old Resolute pit in 2016. It is our understanding based on Company diagrams that this pit floor occurs at roughly 32mRL and, furthermore, that it is not actually supposed to be mining beyond these depths this year in accordance with the DPP (see the Company image below).

Source: Asanko Gold Investor Presentation; Annotations by author

If the Company is indeed mining deeper than the DPP depths, we view this is highly significant. The Company imagery from its May 11 technical presentation suggests it estimates over 100kt of ore and over 7koz of contained gold per vertical meter immediately below the deepest portion of the old Resolute pit (below ~32mRL). Every meter it mines into these areas should, therefore, be pushing its mined gold performance meaningfully in excess of its mine plan for 2016.

14. Asanko Rebuttal: While K2 briefly discussed its purported reconciliation with Asanko's CFO before publishing its short report, K2 did not correct its purported reconciliation even though AKG advised K2 of the analytical flaws. For this and other reasons, Asanko is firmly of the view that K2 is acting recklessly in pursuit of its short-selling objective.

14. K2 Reply: The Company provided no data or explanation that countered our thesis. It simply suggested our work was like trying to compare apples with oranges. The apples and oranges presumably being its DPP mine plan schedule along with our drilling data model, and its actual production results and guidance to date. We disagree with the Company on this matter, and remain open to changing our view should it provide information that affects our thesis.

Disclosure: I am/we are short AKG.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.