Over the recent months, Continental Gold (OTCQX:CGOOF) made some important steps on its way to production. On November 30, Continental Gold received environmental permits for its Buriticá project. On January 10, the company announced that it has secured a debt facility worth $250 million. It is an important milestone, as Continental Gold wants to start the mine construction in 1H 2017.
Continental Gold's share price is up by 260% over the last 12 months. Since February 1, it grew by 30%. As a result, the current market capitalisation of the company is $572 million.
The Buriticá Project
The Buriticá project is located in northern Colombia, to the north-west of Medellín. It consists of two main veins; Yaraguá and Veta Sur. The reserves contain 3.71 million toz gold, at gold grades of 8.4 g/t and 10.72 million toz silver, at silver grades of 24.3 g/t. According to the feasibility study, the reserves should be sufficient for 14 years of mining operations.
The Buriticá mine should be able to process 2,100 tonnes of ore per day over the first 3 years and 3,000 tonnes of ore per day over the rest of the mine life. The expected gold and silver recoveries are 94.1% and 59.9% respectively. The average annual production should be 282,000 toz gold over the first 5 years and 253,000 toz gold over the life of mine. Due to the high-grade nature of the ore, very high recoveries, and relatively low labor costs, Buriticá should become one of the lowest cost gold mines. The AISC should be only $496/toz over the first 5 years and $492/toz over the life of mine. The initial CapEx is estimated at $389.2 million, including contingency of $35.4 million. At a gold price of $1,200/toz and silver price of $15/toz, the after-tax NPV (5%) is $0.86 billion and the after-tax IRR is 31.2%.
Although the reserves include only 3.71 million toz gold, the measured, indicated and inferred resources contain 8.98 million toz gold, 28.68 million toz silver, and 217 million lb zinc. It means that there is a very high probability that the initial mine life of 14 years will be expanded significantly. Moreover, there are several exploration targets in the Buriticá area, and it is quite possible that the resources and reserves will grow further. According to the latest investor presentation, the Yaraguá and Veta Sur vein systems are still open along strike and at depth, and there are four additional vein systems that are about to be drill-tested.
It is also important to note that the reserve estimates may be too conservative. During a trial mining program, Continental Gold processed 2,090 tonnes of ore. It was estimated that it should contain 15.9 g/t gold and 24.9 g/t silver, but it contained 31.1 g/t gold and 40.7 g/t silver on average. The trial mining program included only a relatively small sample of ore, and it is hard to expect that a similarly positive difference will be reached in all parts of Buriticá, but it indicates that there is quite a good potential for some surprisingly positive production results.
Financing the mine
As of September 30, Continental Gold held cash & cash equivalents worth $28.53 million. At the current burn rate, it should be enough to cover the non-construction related activities of the company by the end of 2018.
The projected CapEx is $389.2 million, including contingency of $35.4 million. Given the economics of the project, it is no surprise that Continental Gold was able to cover a better part of the capital needs via a debt financing. On January 10, the company announced that it secured a debt facility worth $250 million. The facility will be provided by Red Kite Mine Finance. It will bear an interest of LIBOR + 8%. The interest payments as well as the principal repayments will start 42 months after the first draw-down. The interests accumulated over the first 42 months will be added to the principal. Assuming that the first draw-down occurs in the middle of 2017, the repayments should start in 2021.
Continental Gold will be also obliged to production-linked payments worth $20/toz gold produced. The production payments are linked only to the first 1.25 million toz gold produced. Given the projected production profile, they should equal approximately to $5.64 million per year and they should end during the 5th year of production.
The debt facility is conditioned by an equity financing worth $100 million. Moreover, Red Kite has committed to make an equity investment worth $25 million, that won't be a part of the $100 million equity financing. Red Kite should also receive 3 million warrants with an exercise price of C$4.93.
In the debt facility news release, Continental Gold also mentions an equipment financing worth $30 million. As a result, the final financing package will probably amount $405 million (chart below). It should be more than enough to get the mine into production, barring any major cost overruns.
Source: own processing
It is able to expect that Continental Gold will arrange an equity offering worth approximately $125 million in the coming months. The current share price is $4.1. If the company manages to make the financing at a price of $4 per share, it will have to issue 31,250,000 new shares. After the warrants to Red Kite are issued, there will be 158.6 million shares fully diluted. Adding to it the probable amount of shares that will be issued as a part of the equity financing, Continental Gold should end up with approximately 190 million shares fully diluted. It means that the equity financing should dilute the old shareholders only by 20%, which is definitely not that bad.
Valuation of the company
The Buriticá mine should produce 282,000 toz gold per year at an AISC of $496/toz, over the first 5 years of production. Interest payments of approximately $32 million and gold-linked payments of approximately $5.6 million should be expected over the first years. At the current gold price of $1,240/toz and the expected effective tax rate of 33%, the company should be able to generate earnings of approximately $115 million. At the expected fully diluted share count of 190 million, the EPS should be around $0.61. Using a conservative P/E ratio of 10, we can come to a price target of $6.1 per share.
It represents a 50% upside to the current share price. It doesn't seem too much, given that the production isn't expected before 2020. On the other hand, Buriticá has a meaningful leverage to growing gold price. Gold price growth by $100 should add approximately $0.1 to the EPS and $1 to the share price (using the P/E ratio of 10).
And there is also an ace hidden in the sleeve. Its name is Berlin. Berlin is Continental Gold's second project that provides an enormous exploration potential. There was a gold mine at Berlin, that operated from 1930 to 1946. During this time period, it produced 413,000 toz gold, at an average gold grade of 16 g/t. According to Continental Gold:
According to the Engineering and Mining Journal (Vol. 143, No. 4, 1942), the original Berlin Mine was operated from 1930-1946 by Canadian company Timmins Ochali (see document below). It produced 413,000 ounces of gold from a number of quartz veins and quartz lenses, up to 20 metre thickness, with a life-of-mine production grade of 16 g/t Au. Gold recoveries averaged 94% in a standard gravity, flotation and cyanidation circuit. The mine covered approximately 900 metres of strike in the center of a 12-kilometres mineralized trend that has been defined by Continental Gold during 2008 and 2009 exploration programs. No historical drilling has been done outside of the Berlin mine area anywhere along either of the two known vein trends.
If Continental Gold is able to identify a similar mineralisation over the rest of the strike, the Berlin project may turn out to be as valuable as Buriticá. An exploration program is planned for 2017, and it is possible that by the end of this year, we will know much more about the true potential of Continental Gold's second project.
Source: Continental Gold
Not to talk only about the positives, it is important to mention also the main problem of Continental Gold. It's the location of the projects. Buriticá as well as Berlin are located in Colombia, close to Medellín. Although the situation in Colombia is more stable than only a couple of years ago, the country is still too dangerous for some investors. This is why it is able to expect that the valuation of Buriticá will lag behind some comparable projects located in more stable jurisdictions. Moreover, any negative news about Colombia may lead to an increased volatility.
Continental Gold develops a very interesting project. The Buriticá mine should become a long-life mining operation with very low production costs. Over the initial 14-year mine life, it should produce 253,000 toz gold per year, at an AISC of less than $500/toz. Moreover, the resources are big enough to support a significantly longer mine life and it is highly probable that they will grow further. The Buriticá mine has a meaningful leverage to growing gold price. Gold price growth by $100 should add at least $1 to the share price. Continental Gold owns also another very promising project called Berlin. The historical data indicate that there should be a high-grade gold deposit; however, its true extent is yet to be known. An exploration program that will start this year should help to respond this question. Continental Gold isn't cheap, but it provides very interesting growth potential. Investing in this company definitely should be considered by more risk-tolerant investors that are bullish on gold.
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