It's not often for us to conclude that a streaming deal is actually accretive for both sides of the agreement, but it does happen. Case in point: the recent silver stream on the Gibraltar copper mine acquired by Osisko Gold Royalties (NYSE:OR) from Taseko Mines (NYSEMKT:TGB).
For an upfront payment of $33M and ongoing payments of $2.75 per ounce of silver Osisko is buying:
- Taseko's share of silver by-product from the currently known mineral reserves at the Gibraltar mine.
- 35% of Taseko's share of silver production thereafter.
- 3M warrants expiring April fool's day 2020, and entitling Osisko to purchase Taseko shares at a 50% premium to price at closing of the agreement (around $2 per share at current levels).
Gibraltar Is A Tiny Island? Not.
The Gibraltar copper mine in south-central British Columbia is the second largest open pit copper mine in Canada. Taseko manages its 75% stake in the mine within a JV with a Japanese Consortium. The mill capacity is 85,000 tpd with output of 133M lbs of copper in 2016. The operation produces a 28% concentrate which also contains a silver by-product, the subject of the streaming agreement. The current mineral inventory adds up to 3.2B lbs of copper, supporting a 23 year mine life.
Taseko has reported 249,000 and 293,000 attributable ounces of silver in concentrate for 2016 and 2015, respectively, of which 90% would have been payable under the streaming agreement in accordance with Taseko's off-take agreements. These numbers correlate well with Osisko's 200,000 deliverable ounces of silver per year for the next 14 years on average, rising to 350,000 annual ounces thereafter.
Putting this data into a crude discounted cash flow model yields a present value of roughly $50M at the current silver price of $17.50/oz, or a NPV(5%) of $17M before tax for Osisko Gold Royalties, with an IRR of around 10% (ignoring the warrants). Or viewed differently, the deal has a cash flow yield of 8.9%.
Granted, this is not an outstanding investment at first sight by any means, but it's a solid one that fits well with Osisko's portfolio of long-lived Canadian assets. Plus there are other facets in favor of this agreement:
- The silver stream is immediately cash flow accretive as deliveries have been backdated to January 1.
- Adding silver to the metal mix provides a (small) degree of diversification for Osisko's portfolio.
- There is talk of exploration upside with every streaming agreement, and this one is no different; however, drill results released by Taskeo last September make this upside a bit more tangible than usual as precious metals seem to be replacing molybdenum as mineralization is traced outside of the current resource to the northwest of the pit.
- And of course there is the argument of upside in a rising silver price environment. In this case there is also upside in a rising copper price environment by way of the warrants.
This is in fact not a large deal for Osisko as the company still has about $350M at its disposal, plus an undrawn $200M credit facility. As such we view the Gibraltar stream as an attractive addition to the portfolio, with plenty of reason to expect more deals to be announced in due time.
Turning to Taseko, we would like to remind readers of a rather dire debt position weighing on the company's balance sheet (as discussed in more detail here). The $70M facility with RK Mine Finance Trust I (or Red Kite for short) (a legacy of the Curis Resources takeover) along with $200M in Senior Secured Notes will mature in early 2019, and provide for some heavy lifting between now and then.
On surface Taseko only generated C$7.5M in free cash flow in 2016, but this number hides the fact that Taseko only turned free cash flow positive in Q4, thanks to the copper price recovery in this period. Extrapolating from Q4 results, we estimate that Taseko can generate around $20M in free cash flow per quarter at the current copper price. That's not enough to repay the debt in full until maturity, but probably sufficient to negotiate re-financing at acceptable terms.
The $33M upfront payment by Osisko is certainly welcome in this context, and if we were Taseko shareholders we would urge management to use the cash for a partial re-payment of the onerous Red Kite loan first and foremost.
The silver stream will be felt on the company's cost structure as silver byproduct credits of around $0.04/lb will disappear from the cash cost calculations; however, this will be more or less compensated for by credits from the newly restarted molybdenum plant.
Overall, we argue that closing the streaming agreement is a positive development for Taseko. Balance sheet repair is the name of the game for this copper miner, and the stream serves the purpose to the dot, and without weighing too much on future earnings.
And Before We Go...
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