Things went from bad to worse for Guyana Goldfields (OTCPK:GUYFF) and its shareholders in 2018. Production issues which became conspicuous last July turned out to be the sign of a far-reaching problem: The grades in the initial feasibility study had been overestimated.
A more conservative assessment was released in March 2019. Though past mistakes and some remaining risks should not be overlooked, I believe that it’s time to reconsider the stock. I jumped ship last summer as the clouds started to gather, but decided to buy some shares again last week as I find the risk/reward setup attractive at this point.
Source: Technical Report
Revised Reserves and Mine Plan
As it became clear that the assumptions in the Feasibility Study were not reliable, with actual grades falling well short of expectations, Guyana Goldfields prepared a revised Technical Report, released on March 29, 2019. The downward revision was significant indeed, with Proven & Probable reserves declining by 1,693k ounces (-43%) compared to earlier estimates:
Source: Q1 '19 MD&A
The detail of the revised Proven & Probable reserves is set out below:
Source: corporate presentation
The mine plan was of course modified in accordance, with production (comprising both open pit and underground mining) expected to span 13 years at a yearly average of 170k ounces. In detail, production will be skewed toward the 2019-2023 period which will see an average of 213k ounces and a peak of 250k ounces in 2022.
Source: corporate presentation
It's worth noting that the most up-to-date figures (optimized plan, in yellow) differ slightly from the March '19 Technical Report. The main difference is a deferred start to underground operations. The assumptions and results of the March '19 Technical Report and latest "optimization" are shown below:
The fact that the company felt the need to amend a mine plan as recent as the March '19 Technical Report shows that the operations are not yet fully stabilized. That's a factor to consider and the reason why the next production reports will need to be monitored closely, to make sure that there are no further deviations from the model. The Q2 production report, to be released in the next few days, will hopefully be consistent with the 2019 guidance:
Source: Q1 '19 press release
Valuation: An Attractive Risk/Reward Setup
With the jury still out on operational performance, the financial projections from the Technical Report (and optimized plan) need to be taken with a pinch of salt. The story gets interesting, however, when one considers the cheap valuation of the stock, and the very significant upside should the projections turn out to be correct.
The company's base case (at a gold price of US$1,300/oz) shows an after-tax NPV @ 5% of US$462m. 5% is not enough for my liking, so I'm more interested in the NPV @ 7.5%, which was US$402m as per the Technical Report. Using an even more conservative 10% discount rate, investors are looking at an NPV in the region of US$357m.
The important thing to note is that the underground development is, on paper, fully financed from operating cash flow and from the cash balance of $36m as at March 31, 2019. During the Q1 '19 earnings call, Ron Stewart - Senior VP, Technical Services and Corporate Development - said the following:
We believe that we will produce sufficient cash from our operations to put the underground into service without any additional financing.
With no debt and the ability to fund CapEx from operating cash flow, it makes sense to compare the current market capitalization of the company with the project's NPV. With the market cap standing at US$130m and an NPV @ 7.5% of about $400m in the base case, there is considerable upside potential. In addition, if gold prices were to settle at their current level, the NPV @ 7.5% would, on paper, be closer to $500m:
Source: Technical Report, sensitivity analysis
Another metric to assess Guyana Goldfields' undervaluation is the Price/Net Asset Value ratio, which the company sees as the lowest among its peers:
Now, let's not forget that the last 12 months provided ample justification for the undervaluation, as the company kept disappointing investors. In the same way, the shares should not be expected to trade at 100% of the Technical Report's NPV, as there is a lot of uncertainty.
However, my feeling is that the downside seems limited at this point. It would take a major deviation from the revised Mineral Reserve and mine plan for the shares to languish at their current price. Meanwhile, if actual performance gets reasonably close to the projections, the upside potential is huge. And if gold prices prove supportive, Guyana Goldfields could provide spectacular returns.
The Technical Report and valuation discussed above focus on the current (revised) reserves. There is, however, some extra potential from exploration, as Guyana Goldfields has a substantial land package around the Aurora mine.
Brownfield exploration will be the priority, with a 30,000m drill program planned for 2019 to target conversion of resources to reserves, at a budgeted cost of US$ 6.8m.
Source: corporate presentation
Based on the table above, the potential could be significant. During the Q1 '19 earnings call, management was confident that they could unlock some of that potential:
One other area that we think is significant to the deposit itself in the future is we have 1.7 million ounces of measured and indicated resources that were not included in our reserve and mine plan. We’ve got another 2 million ounces of inferred resources that we're working on. So, net-net we’ve got about 3.7 million total ounces that we can work on to increase and bring into our reserves and extend the life of this mine.
Ron Stewart - Senior Vice President, Technical Services and Corporate Development
There is still a high degree of uncertainty around Guyana Goldfields. The company needs to prove that it has turned the corner and can deliver on the revised mine plan. That being said, I think that the risk/reward ratio is very attractive at this point. Guyana Goldfields has a sound balance sheet, and it would take a lot of missteps to justify the current valuation. Conversely, the potential upside suggested by the project's NPV, not to mention exploration works, is significant.
CEO Scott Caldwell, who is about to leave the company as part of a settlement reached with shareholders, bought some shares on the open market back in May, usually a good omen. In the short term, investors should pay attention to the Q2 production figures to be released in the next few days for more assurance that the company is on the right track.
Disclosure: I am/we are long GUYFF. 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.
Additional disclosure: The opinions and views expressed in this article are for information purposes only and should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation to buy, sell or hold any security, investment strategy or market sector.