Valuing junior gold mining explorers...
ALTHOUGH JUNIOR Gold Mining explorers may be underperforming the Gold Price this year, Macquarie Capital Markets Equity Analyst Michael Gray is finding opportunities for mergers and acquisitions within the precious metals space.
In this interview with The Gold Report, Gray talks about the technical aspects that are making a number of juniors attractive targets.
The Gold Report: Michael, the companies you cover read like a who's who of junior precious metals explorers. But with the junior explorers vastly underperforming the Gold Price this year, how are you pitching these equities to your institutional clients?
Michael Gray: Other than the strong mergers and acquisitions (M&A) thesis for the majority of our coverage list, we've also highlighted to clients what we would call game-changing exploration upside that a number of our stocks are exposed to.
We also believe there's a strong investor appetite for high-grade, high-margin situations with relatively near-term production associated with low capital costs and short permitting timelines.
Finally, there is significant optionality associated with a number of our stocks that have large gold resources in this Gold Price environment.
TGR: Your target prices for precious metals explorers are predicated on prevailing forward-curve prices. That is a less than an ideal method given that it doesn't take into account tightness or weakness in the market, interest rates or inflation-adjusted values. What are your thoughts on that?
Michael Gray: It is difficult to accurately predict Gold Price over the next year, let alone the next five years. We use the forward curve for precious metals adjusted about every quarter on an as-needed basis for our valuations. For the past seven years, we have found it to be a very good predictor of realized future spot prices for gold.
TGR: You recently revised your long-term gold metal price assumptions for five years. In 2017, you're projecting a Gold Price of $1,837/ounce (oz) up from $1,714/oz, while your long-term price for silver is $33.42/oz up from $28.97/oz. Do you believe your price projections are aggressive in comparison with other brokerage houses?
Michael Gray: Our valuation philosophy is to use a flat 5% discount rate and the prevailing forward curve for long-term prices for gold, silver and foreign exchange. We then apply an operating multiple to the net asset value (NAV) that is less than one times NAV, whereas some banks may use a lower price deck and a different discount rate, but a multiple to NAV that is greater than one times. In the end, the entire valuation picture needs to be looked at to assess aggressiveness. We believe we're middle of the road.
TGR: What's your typical multiple to NAV?
Michael Gray: Among our explorers, we have a range of 0.35 to 0.85x NAV. Our high-end NAV multiples are associated with companies with high-quality assets that we see as potential takeover candidates like Extorre.
TGR: Is there a first-mover advantage in terms of a major coming in early and locking up this belt once it has proven there are significant amounts of gold there?
Michael Gray: Some of the senior mining companies have been spending up to $50 million a year on their greenfield worldwide budgets, looking for another Carlin trend or similar tier-one asset. It doesn't take too many years of spending that amount of money to justify moving early on an asset like this at the right price.
TGR: Do you have any parting thoughts on investing in the precious metals explorer space or words of wisdom?
Michael Gray: I like the expression 'Good people do good things with a good capital structure' as it certainly applies to the precious metal exploration business where projects come and go. My main comment is that to be successful at picking the winners among the precious metal explorers, especially the early-stage ones, it's really important to reduce geological risk by looking at the right geology and focusing on high-quality assets. More often than not, they tend to be associated with technically superior management teams that are extremely persistent.
TGR: Thanks for your time.