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 Wed Jan 10, 2018
SVH Tracker: Recommendation Strategy for Midas Gold Corp
    Publisher: Kaiser Research Online
    Author: Copyright 2018 John A. Kaiser

 
Midas Gold Corp (MAX-T: $0.58)
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SVH Tracker - January 10, 2018: Recommendation Strategy for Midas Gold Corp

Midas Gold Corp was recommended a Good Relative Spec Value Buy at $0.87 on December 30, 2016 based on the Stibnite gold-antimony project in Idaho where Midas is in the midst of a three year permitting and feasibility study cycle expected to lead to mine approval and a production decision in late 2019. The company took a dilution hit in March 2016 when it raised $55 million through a preferred share issue that is convertible into common stock at $0.35 per share. Midas has 186.3 million shares issued but has a much larger 343.6 million fully diluted which should be used in all value based calculations. The financing was controversial at the time, opposed by Rick Rule who wanted Midas to cut all spending and hunker down as an optionality play on gold. CEO Stephen Quin took the view that if the permitting ball was dropped the project would die and never attract a buyout if and when a higher real gold price materialized. The problem with Stibnite is that a PFS published in December 2014 with $1,350 gold as a base case delivered an after-tax NPV of USD $832 million at a 5% discount rate with an IRR of 19%. While the IRR is adequate to justify development, the CapEx was estimated at USD $970 million, a figure that will no doubt increase when a feasibility study which includes all mitigation costs associated with securing mine approval from the state of Idaho is completed, should not be bigger than the NPV, especially one calculated at 5% instead of 10%. In my last detailed writeup on Midas, SVH Tracker Mar 22, 2016, I produced a sensitivity analysis based on the PFS which showed that at $1,600 gold the after-tax NPV jumped to USD $793 million at 10% and $1.3 billion at 5%, with the range jumping to $1.3-$2.0 billion at $2,000 gold. In other words, a modest real price move of gold to $1,600 would not only enable the project to clear all development hurdles, but support a stock price in the $3-$5 range. Stibnite offered very good optionality leverage for real increases in the price of gold. And yet the stock at $0.58 is down 33% from the recommended $0.87 price. Why is Midas Gold being shunned as a leveraged gold optionality bet?

Stephen Quin's track record consists of putting mines into production which makes him acutely aware of the difference between higher real and nominal metal prices. The gold optionality argument is generally pushed by ideologues worried about fiat currency debasement and hyper-inflation caused by "big government". When you ask them for a reason as to why gold might go higher in the absence of meaningful inflation or currency exchange declines you usually don't get an answer even though there are non-ideological reasons to expect a higher gold price such as the relative decline of the United States as a global economic power as the rest of the world led by China grabs an ever larger share. In the case of most other metals the cause for a higher real price is an increase in demand over existing supply infrastructure caused by any combination of global economic growth (copper), the emergence of new uses (cobalt) or the depletion of existing mines in the absence of new mine developments (zinc). But gold is not used for much; the 6 billion ounce above ground gold stock just sits around in vaults waiting to be sold for money that can then be used to buy assets, goods and services. Higher real demand for gold is a function of human psychology which makes any forecast just a guess. And today the gold bug ideologues have abandoned gold in pursuit of cryptocurrencies like Bitcoin which is "not" manipulated by the Federal Reserve and appeals to libertarian instincts about privacy and freedom from "liberal elites". By abandoning gold as their ideological proxy the traditional gold bugs are liberating it from its stigma as the domain of greedy, self-righteous, mean-spirited scolds. Allowing gold to become apolitical will ultimately be good for the resource juniors, though for now they will have to suffer risk capital fleeing the resource sector in favor of the blockchain mania.

When confronted with opposition to funding dilution Stephen Quin argued that it would be more productive to make Stibnite worth developing at prevailing metal prices than sit back and wait for a gold price uptrend to drag Stibnite into the money. He rejected the cynical argument that if you do not spend money on a feasibility study and gold suddenly rockets, nobody will know to what extent inflation is also dragging up well defined real costs. Pundits like Rick Rule and Doug Casey may peddle the standard gold bug narrative to an audience pre-loaded with libertarian sentiments, but they are not math challenged. They know that the gold bug narrative is a sucker story into which rapidly inflating stock prices of optionality juniors paper should be liquidated as first greater fool spiral chasers pile in and ultimately the gold producers. But because Stephen Quin's world intersects with that of the producers he was well aware that it would take quite a long time for mining executives to forget the consequences of their takeover binges in 2009-2013. John Paulson of Big Short fame, who had bought into the apocalyptic gold bug narrative after 2008, sided with Quin and took down a big chunk of the $55 million financing at $0.35. Rick Rule's network voted with its feet in early 2016 just in time to miss Midas Gold's rally to $1.20 as the gold price ran to $1,350 before both retreated in H2 of 2016. However, although gold climbed back above $1,300 during 2017 as the world watched Donald Trump's efforts to make his lie about America no longer being great come true, Midas Gold's stock price languished. Midas Gold Corp continues to be a Good Relative Spec Value Buy at $0.55-$0.60 with a $2 plus target by the end of 2018 based on 2 possible developments: 1) infill drilling done during 2017 will bring gold ounces and antimony pounds lost during the transition from PEA to PFS back into the reserve in Q1 of 2018, followed by a feasibility study in Q3 of 2018 which shows that the improved ore schedule delivers after-tax NPV numbers at $1,300 gold that easily clear all production decision hurdles, and/or, 2) a rising real gold price in 2018 caused by geopolitical chaos will drag Stibnite well into the money where a buyout by a major gold producer becomes imminent.

The December 2014 PFS had yielded weaker results than the 2012 PEA because the more stringent 43-101 standards for a PFS forced a fair amount of gold and half the antimony out of the ore schedule due to inadequate drill density and a decision to exclude historical drill data. Particularly disappointing was the engineering company's rejection of the drilling done by Bradley Mining to delineate the antimony enriched structures that cut through the Yellow Pine deposit which is first in line for mining. Most of the delineation drilling done by Midas was directed at outlining an open-pittable gold resource and was done to be perpendicular to the fabric of the gold mineralization but which happened to be parallel to the antimony enriched structures. The 2018 drilling restores the old holes with 43-101 compliant data. In addition, this drilling has demonstrated that the antimony structures continue beyond the pit envelope and could be developed through an underground adit outside the pit. Midas is not incorporating this into its mining plan, but the theoretical option is now in place where should China cut off antimony supply to American industry (China is 85% of global supply), emergency underground mining of high grade antimony could be initiated very quickly once the Stibnite open pit mine is operational. The strategic value to the United States of allowing Stibnite to become a giant reclamation project funded by a gold mine is now understood by the agencies responsible for the permitting cycle. Improved drill density should also support higher gold grades within the mining reserve, especially with the help of a new domain model developed by management when it spent the extreme bear market year 2015 relogging all existing core. The next important milestone will be an updated resource estimate in Q1 of 2018 which will allow analysts to plug what are hopefully higher grades into the critical early years of the ore schedule.

The second important milestone will be delivery of a feasibility study in Q3 of 2018. In September 2017 the seven federal, state and local agencies involved in the permitting process agreed to coordinate their activities in support of creating a single environmental impact statement on which mine approval will be based. This followed the company filing a "plan of restoration and operation" in June which pretty much includes most of the work required for the EIS and whose preferred development alternative reflects the one outlined in the PFS. This was good news because it eliminates the risk that an agency will weigh in at the eleventh hour with the realization that it has something to contribute as happened with Romarco's Haile gold project. The bad news was that the need for the agencies to organize their coordination pushed the expected delivery of the EIS from Q2 of 2019 to Q3 of 2019. That, however, is far enough down the road that it does not matter. I visited the project in June 2017 and really got to understand why it makes so much sense to fix the mess left behind in the pre-EPA era. Trump's push for isolationism and the question of where manufacturers forced to reshore their operations will get their antimony supply further adds to the urgency of approving Stibnite.

One important development not yet reflected in the Midas Gold stock price is the new tax law which reduces the federal corporate income tax rate from 35% to 21%. Most of the media attention has been on the repatriation of overseas profits to the United States where hopefully the capital will be invested in business development rather than distributed to shareholders through dividends and buybacks. The top direct beneficiary, however, is the US based mining industry, which also applies to advanced projects. The combined tax rate used in the PFS was 43.4%; I have rerun the PFS DCF model using 29.4%. In addition I have used $3.50/lb antimony instead of the base case $2.50/lb which reflected the metals price slump of 2013-2015. The after-tax NPV at $1,316 gold is USD $510 million at 10% discount rate and $882 million at 5% with IRR at 23.5% compared with 24.8% IRR at the base case $1,350 gold price where the NPV range is $564 million to $954 million.


 
 

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