SolGold - a buy for the long term from these levels?...

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The share price of SolGold (SOLG) has taken a hit in recent months as a result of weak copper prices and political unrest in Ecuador, where its largest project is located, but if you are looking for an early stage mining company that has huge potential, then this could have presented a buying opportunity. Before I go into detail about its projects, I would point out that this is a share that those who like to have a pop at me take great delight in pointing out how I have previously covered it as one to avoid. What they often fail to mention is that was back in January 2016, when it was burning through cash and had very little in the bank, and so I saw it as one to avoid with the shares at around 2p at the time – I know several people with significant holdings who didn’t necessarily disagree with me at the time! Everything changed though later that year, when rather than having to raise money via a placing, Australian mining giant Newcrest acquired 10% of the shares in issue, and Maxit a further 4.43%, in return for return for total investment of $33 million (at a share price of 12p), to help develop its Cascabel project in Ecuador, which contains the Alpala deposit, one of the most significant porphyry copper-gold prospects in the world, and located in an area of the Andes that produces a large percentage of total global copper production...

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At the time that investment proposal was accepted, there was another offer on the table from the largest mining company in the world, BHP Billiton, but that was rejected. Subsequently, BHP came back to the table in 2018 and took an initial 6% stake in SolGold in return for $35 million (equating to a share price of 26.59p), then just a month or so later it doubled that stake to 11.2% with a further $45 million investment, and it looked like the two mining giants would go head-to head for control. A few weeks back it was announced that BHP had taken another 77 million shares at a price of 22.15p, plus 19.25 million options at 37p, and had become the largest shareholder with 14.7%, compared to the current Newcrest stake of 14.62%. What has impressed me is that so far SolGold has managed to retain its initial 85% stake of the project itself, with the two large mining companies taking stakes in the equity, and therefore having a significant interest in the share price performing well in the future. It also means that they may be willing to provide technical support to help that to happen, with BHP possibly getting involved in the completion of a feasibility study for Cascabel.

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There have already been previous feasibility studies, with the most recent one showing post-tax NPV in the $4.1-4.5 billion range, and an internal rate of return of circa 25% for the project – although this is based on a copper price of $3.3/lb, gold at $1,300/oz and silver at $16/oz, so is dependent on future commodity prices at such time as the project reaches the production stage. Although copper is currently a fair bit lower than that – which is partly why the share price has drifted to the current level of just under 20p and a market cap of £385 million – I personally am bullish on the metal longer term, especially with a lack of new projects coming online. The biggest problem for SolGold is the size of the project – that is great from the point of view of its value in terms of the resources that are present, but does mean that it will be reliant on a BHP or Newcrest take it forwards to the production stage, as the initial mine construction is estimated to cost $2.8 billion, with a further $7.8 billion on mine infrastructure, and over the life of the project Opex of nearly $26 billion are expected. It is true that there are lots of mining exploration companies that have huge resources in the ground on paper, and which need crazy amounts of money to be spent to get to the production stage. But this one is a bit different as it has already had significant investment from two huge partners, and unlike so many of these other companies, the asset itself looks to be of a very high quality and has produced some of the best metallurgy results ever achieved from this type of deposit, so I find it hard to see any way that it won’t ultimately be developed – barring a collapse in the copper price, which seems highly unlikely longer term, given demand forecasts for the metal going forwards. The resources involved are huge, with nearly 11 million tonnes of copper and 23.2 million ounces of gold in indicated and inferred resources, from over 226km of drilling in total.

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In terms of political stability, there have been problems recently with widespread protests as a result of the policies of the government, which have come about as a result of the economic problems that it has been having, and the need for a $4.2 billion loan from the IMF. To save money, the government cut fuel subsidies which were costing it $1.3 billion per annum, but has since reinstated them after the violent protests which led to the president and government officials having to escape from the capital, Quito. Things seem to have calmed down, at least for now, but whilst this presents a degree of risk for investors, it also highlights the need for projects like Cascabel to be brought online and to provide much needed income for the country, plus of course the many jobs it would create locally. The company does have a number of other projects in Ecuador, as well as Australia and the Solomon Islands, but the main focus is definitely Cascabel and is why I have concentrated on that, as it is the one that will make or break the company, especially given the level of market cap that it is currently valued at. There are of course risks that copper prices could collapse for a prolonged period of time - I see that as minimal; or that investment won’t be forthcoming to take it to production – again, I find it highly unlikely that this deposit will be left in the ground, it just comes down to the terms of any financing, which will no doubt include offtake deals as part of that; and then finally there is political risk, as the country was unstable during the 1990s, but as long as we don’t see a complete collapse of the economy there, then I see that risk as being acceptable. Overall, and based on the current share price of under 20p, I see this share as a strong buy as long as you are intending to hold it longer term. With uncertainty over trade deals between the US and China still ongoing we see copper dropping lower in the short term, maybe back to the $2.6/lb area, and that could see the share price going slightly lower, but I’d be happy buying anywhere around this level. I mainly focus on copper producers, but I may even take a position myself as I see value here and lots of upside potential.

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Filed under: SolGold, James Berwick, Cineworld, YU Group, slam-dunk sells, shorted AIM shares

2019-12-16 11:59:58

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