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Revett Minerals Is Priced For Armageddon (Give Them A Break)

|Includes: AG, CDE, MGN, Revett Mining Company, Inc. (RVM)

Revett Minerals (RVM) is a small silver and copper miner located in NW Montana with a legacy silver and copper mine (Troy) and another pre-development property with great potential (Rock Creek).

Revett, and especially its stock, have fallen on hard times since the company announced a voluntary suspension of its mine operations at Troy due to groundfall in December of last year. The slow process combined with low certainty about progress has meant only one direction for the stock (down). This trend was driven home forcefully with the May 24th announcement that additional groundfall had occurred, unexpected structural damage was found, and its main haulage route from its main ore beds was still inaccessible. Despite the optimism by management that a solution would be found and that Troy remains viable, the additional announcement of a "significant" reduction in its workforce sent shares reeling.

While it's clear that there's plenty risk in this situation, it appears that more than an extraordinary amount of fear has been priced in. It goes without saying that Revett needs Troy in order to pursue its larger Rock Creek property goals, but it does not stand to reason that Revett is worth nothing without a functioning Troy. While its true that Rock Creek is worth nothing to Revett without the cash flow from Troy's operations, there are other players who have ample resources to fund Rock Creek which should lend support and even appreciation to the Revett stock price, even in the worst case scenario of a Troy Mine permanent shutdown. Revett Minerals and its properties are worth far more than its current stock price suggests.

As of close today (May 29th), Revett's market capitalization was ~$30.6mm. By my estimates, the company has roughly $18mm in cash and securities on hand currently, based on management's cash burn numbers of $2mm/month. As an aside, the reduction in workforce (100 employees) could easily reduce that burn rate to $1.5mm/month, which is obviously why management ultimately made this difficult decision when considering the uncertain duration of downtime at Troy. But, if we subtract the $18mm of cash and securities from the market capitalization, we see the market is only ascribing $12.6mm worth of value to all of Revett.

What does an investor in Revett common stock get? Let's ignore Troy Mine as no longer viable and a burden, for the moment. What's left is Rock Creek. Rock Creek is a pre-development silver and copper deposit under the Cabinet Wilderness in NW Montana. According to a 43-101 conducted in 2004, the current property and adjacent deposits hold inferred resources of 229 million ounces of silver and 2 billion pounds of copper. Revett management expects a 25-30 year mine life yielding 6-7 million ounces of silver and 65 million pounds of copper per year. It shouldn't be a surprise, then, why management gets excited about this opportunity, nor why investors have been so disappointed when delays due to litigation have pushed its groundbreaking back. Management has plodded along cautiously due to various factors, but it believes that permitting will be in place within a year for development of an evaluation adit to drill, more accurately survey the deposits there, and perform a full preliminary economic assessment. If indicated and measured reserves come even close to inferred, ignoring the possibility of surpassing inferred, Rock Creek will be one of the largest silver mines in the world. And, there's potentially 2 billion pounds of copper, too.

There are still plenty of hurdles for Rock Creek, but this nearly 30-year process is coming to an end. There is no pending litigation, environmental challenges were successfully fended off in 2011, and only a final Record of Decision has to be issued and this preliminary work can be done. Comparable pre-development properties can be a signpost, if appropriately discounted and taken with a grain of salt. And, we'll be extra conservative for additional safety.

Orko Silver and La Preciosa

In April, Coeur d'Alene Mines Corporation (NYSE:CDE) completed its acquisition for Orko Silver, whose key asset is the La Preciosa silver deposit in Durango, Mexico. La Preciosa is a more advanced project than Rock Creek, but it is similar in size, with 260 million ounces of silver in indicated resources, and ground has yet to be broken.

Initially, First Majestic (NYSE:AG) courted Orko and La Preciosa, but ultimately it was Coeur d'Alene that won out, paying an all-in equivalent price of roughly $383 million, or $1.40 per ounce of silver in the ground.

Since La Preciosa isn't equivalent, it's only fair to discount drastically it in order to use it as a yardstick. La Preciosa's political risk is better being in Mexico, its size is roughly equivalent, and its resources should be given greater value as they are indicated and measured rather than inferred. Since there's so much uncertainty and these are highly illiquid assets, let's discount Rock Creek 90% based on its silver resources alone.

Using $0.14 per inferred ounce of silver, this gives us a value of $32 million for the Rock Creek property. Interestingly enough, Revett's accounting cost basis for Rock Creek is approximately $38 million when they acquired it in pieces from Asarco and Kennecott when precious metals were still in extreme disfavor and these projects were barely economical. This is a high comparable and not perfect, but it yields nearly the cost basis of Rock Creek, which is not an unreasonable price for a pre-development property.

Mines Management Corporation and Montanore

Mines Management Corporation (NYSEMKT:MGN) owns the rights to develop the Montanore Mine, situated only a few miles away from Rock Creek in the same formation and in a similar size, roughly 230 million ounces of silver and 2 billion pounds of copper. Mines Management is currently in a similar permitting situation with Montanore as Revett is with Rock Creek. The company expects a break-through in the next 12 months, and Montanore requires an exploratory adit to be completed just as Rock Creek does.

Currently, Mines Management is publicly traded and has a market capitalization of ~$18mm, which, after deducting its cash and marketable securities, leaves a rough value to the Montanore quitclaim of $9.3mm. Given the highly similar traits of the Rock Creek and Montanore properties, this is a fair valuation that doesn't require further adjustment to make it a reasonable comparison. It also shows that distressed prices in this space are not exactly rare, either.

That $9.3mm implied value of Rock Creek, by the way, leaves only $3.3 million of current value in Revett, or, the value placed on Troy. Let's make some very conservative assumptions about the present value of Troy, discount them by the chances of resuming operations, and see if this is reasonable.

Let's assume that Troy can get back to health in 12 months (5/14) and produce $10mm in free cash flow annually, which is less than the average of the past three years. Let's assume no more than the 8 year mine life stated by management, and let's put a discount rate of 16% on those cash flows. A current price of $3.3 million for Troy implies a probability of failure and complete loss of almost 93%. In other words, the market has essentially decided that Troy is lost.

Searching for a Fair Valuation of Revett

There is plenty of uncertainty surrounding Troy Mine's production and the value of Rock Creek. Today's price of $30.6mm, however, dramatically underprices the value of either Troy, Rock Creek, or both. In the event that Revett wanted to sell off its Rock Creek asset, which would be a shame and only likely in the event of a Troy Mine failure, it's reasonable to assume that the company would be able to recoup its cost basis, indicating a value today of $56mm (excess cash plus Rock Creek), or $1.62 per share. From the other perspective, if we value Rock Creek at the market value implied by the Montanore property of $9.3, add cash back, and placed reasonable odds on getting Troy up and running again of say 50%, then we arrive at about $49mm, or $1.41 per share.

Revett Minerals is deeply discounted, perhaps even by 50% or more, weighed down by desperately unreasonable expectations. If any positive news occurs, Revett stands to appreciate drastically, especially if Troy makes progress back to production or Rock Creek's permitting process advances. Revett is priced today like it was in March 2009. It won't stay that way.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in RVM over the next 72 hours.