A year ago, I discussed Thompson Creek (TC) as a high-risk/high-reward mining stock opportunity that was increasingly dependent on bringing its Mt. Milligan copper-gold project into production on time and on budget. As stock calls go, this one delivered more of the "high-risk" than the "high-reward", though the 15% decline in the shares since that report isn't terrible compared to the performance of other small miners like Taseko (NYSEMKT:TGB) or General Moly (NYSEMKT:GMO) over the same period.
Since that last report, Thompson Creek has started production at Mt. Milligan and molybdenum market conditions have continued to be adverse to the company's interests. As is often the case for mining companies, Thompson Creek's future depends greatly on future metal prices (which they cannot control) and future mining costs (which they can control at least to a point). I believe current copper futures prices are good enough for this stock to work, so it is now about whether the ore grades and operating efficiencies come in as expected. With a cost-focused CEO at the helm, I'm optimistic on that score and I believe there's worthwhile upside at these levels.
For Mt. Milligan, The Future Is Pretty Much Now
Thompson Creek warned in the fall of 2013 that Mt. Milligan wouldn't reach commercial production levels (60% of design capacity for 30 days) until the first quarter of 2014. Now that we're in the first quarter of 2014, attention will start shifting to head grades, cash costs, and the progress toward 80% to 90% production capacity.
There is little common ground between the bulls and bears as to the quality and prospects for Mt. Milligan. Bears believe that it is a low-grade mine and that weak grades combined with hard ore will lead to high cash costs on an ongoing basis. Bulls argue that while initial gold grades were below expectation, recent grades have been at or above expectations. What's more, the processing facility was built with the express risk of harder ores factored in and the company can handle it.
This is the sort of debate that is all but impossible to resolve today. Bears can correctly argue that the history of mining companies is marked by cost overruns, no matter what prior feasibility or project reports may have projected. Likewise, bulls can argue that Thompson Creek now has a cost-focused CEO who is keenly aware of the significance of operating costs to the company's cash flow and liquidity situation.
Molybdenum Not Doing The Company Any Favors
I assign very little value to the company's molybdenum operations at present, as prices remain unattractive. Even though molybdenum prices in the $10/lb range put a lot of pressure on others in the space like Freeport-McMoRan (NYSE:FCX), Taseko, and General Moly, it hasn't been enough yet to lead to widespread production cuts.
Some of this can be blamed on the ongoing production of molybdenum as a byproduct from other mining activities, but the "why" isn't really all that important now. What is important is that mining molybdenum isn't really a lucrative cash-generating opportunity right now. With that, it still seems likely that the Thompson Creek mine will go on care & maintenance (mothballed, in other words). Management has suspended new stripping at the mine and will have enough material on hand to ship throughout 2014, but there is little reason to fritter away valuable cash on marginal assets at this point in time.
Managing Liquidity Is A Key Factor
Thompson Creek is very likely to see cash operating costs of over $3/lb from Mt. Milligan in this initial production ramp period and may well see cash costs above $3/lb on an ongoing basis. Credits from gold production (about half of the mine's gold production will go to Royal Gold under a streaming agreement) should push that below $1/lb, but that means that gold grades/production are quite significant in the overall economics of the mine.
Not to belabor the point, but it also puts a premium on smooth, economical operators at the mine. Thompson Creek has had some problems with a Caterpillar mining shovel and while that may not be the company's fault, it is the sort of risk factor that can make the company's liquidity situation unappealingly tight. Likewise, don't underestimate the risk and cost of labor. Mt. Milligan is in a remote location and management has chosen to build on-site permanent housing to help ease the burden of commuting. I consider this to be money well-spent, but there is an ongoing threat that elevated turnover could lead to some operating inefficiencies.
Costs play directly into the company's ability to manage its liquidity and handle the approximately $2 billion in net debt on the balance sheet. Maturities begin in 2017 and while the bullish analysts believe liquidity will not be an issue so long as copper prices stay above $2.50, more bearish analysts argue that copper needs to hit $4/lb for Thompson Creek to manage these maturities.
I believe the truth is somewhere in the middle. Copper prices of $4/lb or higher would definitely make life a lot easier for Thompson Creek, but I believe the probable operating cash costs and cash flows from Mt. Milligan (eased by ramping down the molybdenum operations) give the company the advantage of having time on its side.
Guesstimating The Long-Term Value
If you do not believe that copper prices will hold above $3/lb for the long term and/or that gold prices will remain above $1,250, I won't try to convince you that Thompson Creek is worth owning today. Relative to a company like First Quantum, Thompson Creek needs higher copper prices for the valuation to make sense.
At a long-term copper price of $3.25/lb, I believe Thompson Creek's net asset value is about $4 per share today. I do believe the company's cash costs will be below $1/lb (including the gold streaming agreement) on a long-term basis, though I believe the most bullish expectations of $0.50/lb (or less) may not be attainable.
The Bottom Line
Investors would do well to pay close attention to the company's reports regarding ore grades and operating costs for the next few quarters. If the bears are right and gold production proves disappointing (and/or it's more expensive to mine the copper), the NAV erodes quickly. For investors with a more bullish outlook on metal prices, though, a $4 net asset value may offer some worthwhile incentive to buy Thompson Creek shares on the expectation that with Mt. Milligan up and running, the company can now get ahead of the liquidity worries that have dogged it for some time.
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.