- Excellon Resources acquired Otis Gold last week, representing the first takeover in the junior mining space for 2020.
- The company paid $15.12/oz for Otis Gold's modest 1.1 million ounce gold resource in Idaho.
- Based on this, we can see that gold explorers are still not getting much respect from a higher gold price, with the average price paid still near 2018 levels.
It was a rough week in the Gold Juniors Index (GDXJ), and Otis Gold (OTCPK:OGLDF) was not spared either, despite being the first acquisition in the junior gold space for 2020. We got news on Monday that Excellon Resources (EXLLF) would be stepping in to buy Otis Gold for US$17 million, at a price tag of $15.12/oz for the company's Kilgore and Oakley deposits in Idaho. The price paid per ounce in this deal was well below the 5-period moving average paid for gold juniors, which was at $85.73 following the Continental Gold (OTCQX:CGOOF) acquisition by Zijin Mining (OTCPK:ZIJMF). This suggests that despite a much higher gold (GLD) price, gold juniors are still not getting the respect they deserve from suitors when being acquired. This is not ideal for investors hoping for massive premiums and suggests that there's no reason to overpay for development stage juniors above the $60.00/oz level.
Last week should have been an exciting one for investors in the junior gold space, as we got the first whiff of suitors getting an itch to make acquisitions in the area. Generally, when the sector sees M&A activity, the gold juniors respond quite favorably, as investors quickly place their bets on who might be next. Unfortunately, this wasn't the case last week, as Otis Gold was picked up by Excellon Resources at an enterprise value per ounce that was less than 20% average paid for the past five takeovers in the space ($85.73/oz). Based on Otis Gold's 1.12 million-ounce gold resource in Idaho and a $17 million takeover offer, Otis Gold was valued at only $15.12/oz. This is a massive deviation from the $93.19/oz paid for Continental Gold, and the $61.19 paid for Barkerville Gold Mines (OTCPK:BGMZF), despite a gold price that is more than $150/oz higher. Let's take a closer look at the deal below:
Excellon Resources is primarily a silver producer, so the deal in itself is strange, with the company coming in to snap up a gold explorer. The deal is even more confusing as the company had to take on more debt to get the deal done, with a $6 million bridge-loan credit facility at a rate of 10% per annum. While this might seem like a modest loan for a silver producer, it is not a wise move for a company that is producing silver at costs above the spot price and posted a net loss of $8.89 million for the first nine months of 2019. Therefore, while investors could argue that Excellon Resources stole Otis Gold at a price per ounce paid of $15.12/oz, there's no clear path to how this deal is accretive to Excellon Resources. This means Excellon Resources does not have sufficient capital available to fund putting Otis Gold's Kilgore deposit into production, meaning the project has little value to the company currently other than another cash-burning asset. This confusing transaction is another story in itself, but let's circle to how this relates to the junior mining sector.
As we can see from the chart below, the 5-period moving average enterprise value per ounce paid for junior miners has made little to no progress since 2016, evidenced by the blue bars below. While the price of gold has risen from $1,200/oz in this period to over $1,600/oz, we have seen no real sustained increase in what suitors are willing to pay for gold projects, especially after the Otis Gold acquisition. If we look at the chart below, we can see that the price paid for juniors peaked in mid-2017 following the Integra Gold acquisition by Eldorado Gold (EGO) at a price tag of $138.13/oz. This deal pushed the 5-period moving average up to $94.17/oz, a much more reasonable price tag for gold in the ground, given that the gold price is trading nearly 1500% higher. Since then, however, the price paid for juniors has been trending lower with minimal improvement.
We did see a glimmer of hope in the past two acquisitions, with Barkerville Gold being acquired for $61.19/oz, and Continental Gold acquired for $93.19/oz. However, the Otis Gold acquisition has put a massive dent in any progress made. As the chart above shows, the 5-period moving average of enterprise value per ounce paid for juniors has plunged from $85.73/oz to $61.33/oz after just one acquisition. Based on where gold juniors are currently trading, it is looking like this trend will continue, as most of the more attractive takeover targets continue to trade well below this $61.33/oz level. Therefore, for investors longing for the days of 2010 and 2011, when we saw 30% to 50% premiums handed out among the sector, we're clearly too early in the cycle to expect deals to be closing at terms that are this favorable. There is a minor caveat, however, and it lies in the fact that Otis Gold is not what I'd consider a Tier-1 explorer. Let's take a closer look below:
If we look at the above table, we can see that Otis Gold had a resource of 961,000 ounces at its Kilgore deposit, at a very low grade of 0.55 grams per tonne gold on a weighted average basis. If we add in the company's 163,000 ounces at their Oakley deposit in Idaho, we come up with a total of 1.12 million ounces, which make up the company's total gold resource. This global gold resource of 1.12 million ounces does not compare favorably at all to the median resource size of past acquisitions of 4.40 million ounces, and the average resource size of 4.98 million ounces.
As we can see in the table above, Otis Gold's average weighted grade for its ounces comes in at 0.55 grams per tonne gold, and this is more than 60% below the median gold grade of 1.90 grams per tonne gold in past acquisitions from 2016 through 2019. Finally, the company's projected all-in sustaining costs are $832/oz based on the Preliminary Economic Assessment, nearly 10% above the median of $767.50/oz for projected costs for past takeovers. Therefore, we can certainly make an argument that Otis Gold is inferior to this peer group, and we can conclude that the enterprise value per ounce should have come in at half of the median paid, which was $63.79/oz from 2016 through to 2019. However, the price paid in the Otis Gold acquisition was one-fourth of the $63.79/oz median, not half, and this suggests that gold juniors are not getting much of a premium at all for their ounces.
Some investors will argue that these juniors should command an enterprise value of $100/oz or higher in a takeover scenario, and I would argue that this is true. However, what should be occurring and what is occurring are two different things, and it makes sense to trade based on what is the current reality, not based on what we feel should be the reality. Therefore, the takeaway here is that it is irresponsible to be buying gold explorers at above $60/oz and hoping to make money consistently. If the median price paid per ounce over the past fourteen acquisitions is only $63.79/oz and has now dropped to $60.55/oz following the Otis Gold acquisition, it is much higher risk as an investor to be paying more than this figure.
Investors could also make the argument that the Otis Gold acquisition should have no bearing on the above averages as the peer group is clearly superior to Otis Gold in most categories in terms of their project quality. This point has some merit, but it once again does not change the facts of the sector currently. As it stands, we have Marathon Gold (OTCQX:MGDPF) valued at less than $40/oz, we have Gold Standard Ventures valued at less than $50/oz, and we have many other takeover targets valued at less than $50/oz. Therefore, one could argue that Otis Gold acquisition or not, it is highly unlikely that we are going to see the price paid per ounce trend higher. This is because most takeover targets as a whole are trading more than 30% below what was paid for Barkerville Gold in August and Continental Gold in December.
There may be some exceptional projects out there in the junior mining space, but as I pointed out in December, it is hazardous to pay more than $60/oz for gold explorers. The projects may be worth $100/oz, they may be world-class, but suitors nor the market is willing to value them this high. The most recent example of this was Wallbridge Mining (OTCQX:WLBMF) trading at over $150/oz, and I noted in my most recent article that the stock was likely to undergo a 30% plus correction to mean-revert from this valuation excess. As of Friday's lows, this is exactly what we've seen, with the stock down 39% from its highs.
The takeaway from this article should be simple; do not overpay for projects, and the $60.00/oz figure is what should be considered overvalued. While some projects may be acquired above this figure if they are extreme anomalies like Mariana Resources (OTC:MRLDF), it is irresponsible to expect this from the average takeover. Therefore, for investors interested in the space, buying opportunities are out there, but the harsh reality is that a higher gold price is not leading to higher premiums. Based on this, investors should be doing their math ahead of time when making purchases in the sector, and sticking to the undervalued and proven projects in the best jurisdictions. Currently, the most attractive name in the space continues to be Marathon Gold at an enterprise value of $38.50/oz.
This article was written by
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