Gold Resource Corp.: Appreciating But Still Substantially Undervalued

Summary

• GORO's stock price is at 52-week highs, but I believe that this still doesn't come close to fully valuing the company.
• After reviewing the company and its proven and probable reserves, I calculate a minimum value of $8.16 per share.
• I then explain why a much more realistic valuation, one which incorporates developments from 2018, is $13.50 per share.

Since the time of my previous update stressing the value of Gold Resource Corp.'s (NYSE:GORO) Switchback mine, GORO has announced numerous additional positive developments, all of which increase the value of the company and the stock. Moreover, the company has been executing well in its actual mining endeavours, such as it has been generally profitable ever since it began mining underground at its premier property El Aguila (though of course precious metals prices were much higher in the early days).

GORO Normalized Diluted EPS (TTM) data by YCharts

Indeed the market appears to be noticing, as the stock is now trading at 52-week highs, though as I argue below, there’s still plenty of price appreciation to be had.

Because there’s so much news occurring, and because I don’t think the market yet fully appreciates the company’s value, rather than just write an update, I’ve decided to present the company to new investors by giving a full summary of the properties, outlook and valuation. However, readers are still encouraged to review my earlier GORO articles to get a sense of the company’s history and accomplishments.

My presentation will begin by looking at the company’s properties, then I’ll develop a conservative valuation based only on proven and probable reserves, after which I’ll conclude by discussing other value drivers accompanied by a more realistic valuation.

Properties

GORO has two mining units: the Oaxaca unit has operating mines and development properties in southern Mexico, and the Nevada unit is currently in the exploration and development stage in the Walker Lane gold district in Nevada.

Oaxaca Unit

This slide from the corporate presentation shows GORO’s Oaxaca properties, which all fall on a 55-mile-long mineralized corridor:

The premier property (at least to date) is the El Alguila project, which now encompasses two large epithermal subterranean deposits, the Arista and the Switchback, which together are processed through a single processing plant, hence the mine is known simply as the Arista mine. The deposits are polymetallic in nature and indeed the base metal values (at today’s metal prices) account for about 58% of the in ground metal value with the other 42% coming from the gold and silver content.

The Arista mine ore is processed through a 1,500 tonne per day mill and processing plant to extract both precious and base metals.

In March 2018, GORO released the mine’s reserve report, which includes all drill results up through the end of the year of 2017. Before looking at that data however, I find it helpful to compare the historical year-end reserve grade values with the produced grades. In the table below, I’ve compiled all of the annual reserve and production data, with any production that’s 10% above the previous year-end grade highlighted in green and any deviations of 10% less than the year-end grade highlighted in red.

As can be seen from the table, in 2017 GORO prioritized base metal production, which I think is a very smart decision given that base metal prices have increased substantially over the past few years while gold and silver prices have stagnated or even decreased. Importantly, the overall extracted grades were similar to the year-end reserve report grades, which gives confidence in the future ore values relative to the resource report. With that said, here is a summary of the EOY 2017 resource for the Arista mine and the Alta Gracia mine (which I discuss below), using the same $80 net smelter cutoff as for EOY 2016:

Importantly, not only did the company increase the reserve tonnage by 600,000 tonnes (after mining 449,000 tonnes in 2017), but while the precious metals grades decreased somewhat, the base grades increased meaningfully. As a result the mine life and the economic value of the Arista/Switchback deposits is increasing rather than decreasing.

The second mine in the Oaxaca unit is on the Alta Gracia property and is known as the Mirador mine. The property contains numerous narrow gold/silver veins, but as of yet, only the Mirador deposit is in production and with proven and probable reserves. The ore is processed in a separate agitated leach circuit in the processing plant on the El Alguila property (the ore is trucked there from Alta Gracia).

The agitated leach circuit has a nominal capacity of 300 tonnes/day, but is currently being operated at 150 tonnes/day. The Alta Gracia property also has at least one mineralized area with high base metal indications. Here’s how it’s described in the reserve report:

Sampling of surface exposures at the Base Metal Prospect also reported values > 1% Cu and Zn and up to 5.5% Pb. Subsequent surface drilling of this prospect returned favorable results including 0.22 meters of 0.03 g/t Au, 676 ppm Ag, 8.48% Cu, 18.45% Pb, and 13.90% Zn in Hole 411003. Mineralization is hosted at the rhyolite tuff and andesite contact with abundant carbonate flooding and local fault gouge. Highlights also include Hole 411004 which returned 0.23 meters of 0.04 g/t Au, 396 ppm Ag, 6.97% Cu, 5.78% Pb, and 10.75% Zn hosted in fault gouge in rhyolite and ~15m from the intercept in Hole 411003.

Nevada Unit

The Nevada Unit consists of 5 gold properties in Nevada. See slide from company presentation below:

Many of these properties are promising, but the furthest developed is the Isabella Pearl project which, on April 19th 2018, GORO announced contains proven and probable reserves of 2,694,500 tonnes of gold at 2.22 g/t. (Note the slide above doesn’t yet reflect these increased reserves.)

The Isabella Pearl project is a heap leachable resource contained in two deposits:

Before moving on to several new developments and the company’s prospective properties, let’s build a base case valuation for the known resources at El Aguila, Alta Gracia and Isabella Pearl.

Base Case Valuation

In the following two tables, I summarize the known reserves (including measured and indicated where applicable) and grades from the three properties. I then estimate the metals recoveries (for the producing mines by using historical values, for Isabella Pearl by discounting the company’s projections and referencing other similar projects). These give recoverable dollar values per tonne of resource in the ground for these properties.

In the next table, I consider only the P&P reserves then subtract operating costs (bumping up the company’s estimate of $80/tonne at Arista to $100/tonne for conservativeness, and using $125/tonne at Alta Gracia given narrow vein widths and the need for trucking the ore). I also assume heap leach costs of $7.50 per tonne based on a survey of online references, which suggests $4 to $6 is typical so that $7.50 should also be conservative.

I then use mill production and an estimated 500,000 tonnes per year for Isabella Pearl to come up with annual revenues, which are discounted at 7%. I haven’t included any provisions for taxes as I’m unsure how much of the initial capital expenditures will be amortized against future revenues.

With 57.2M shares outstanding, the cash flow data suggests that the Arista mine has a net present value of $6.84 per share, the Isabella Pearl project contributes $1.24 per share and Alta Gracia is only worth $0.07 per share (using conservative assumptions). Thus GORO is conservatively worth at least $8.16 per share.

Let’s now look at additional value drivers, from least speculative to most.

Arista Mine Expansion

The Arista mine already has 1.68M tonnes in M&I resources which aren’t yet accounted for in the valuation. But more importantly, in 2018, after the reserve report cutoff date, GORO expanded Switchback’s strike length by 625m to 925m from the original 300m in the reserve report (see my earlier article for details). More recently, GORO has found important new veins in the Arista deposit, including long strike lengths with high grade polymetallic ore. See this press release, which includes the map shown below with the new veins, particularly Splay 31:

If the mine doesn’t expand its processing capability, then I don’t think it’s at all unreasonable to expect at least another 10 years of mine life given these new discoveries and the high likelihood of converting the M&I to P&P reserves. Discounting such values from the years 2023 to 2032 at 7% gives an additional value of $283M or $5 per share.

Alta Gracia Expansion

Because the veins are relatively narrow at Alta Gracia, until the company finds something bigger or the polymetallic indications prove to be a valuable resource, I’m not adding any blue sky dollar amount to my valuation, but certainly this and the other Mexican properties could add such value in the future.

Nevada Unit

The Mina Gold property has third party, non-SEC compliant estimated reserves of 1.8M tonnes of near surface heap leachable gold grading 1.88 g/t. Using a valuation method similar to that of Isabella Pearl, I attribute another $0.40 per share of potential value to this property. The remaining properties are still too early in their development to value, but they too can increase GORO’s future valuation.

Summary

GORO's stock price has been increasing recently, but I believe that the market still hasn’t fully valued the company. Using extremely conservative methods (only considering actually P&P reserves), the company should be worth at least $8.16 per share, but if one takes a more realistic view, then the fair price is $13.50 per share, a price I believe we’ll see in the next two years or sooner.

Analyst’s Disclosure: I am/we are long GORO. 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.

I actively trade around core positions.