PRETIUM RESOURCES INC PVG
August 19, 2012 - 8:58pm EST by
skimmer610
2012 2013
Price: 14.81 EPS $0.00 $0.00
Shares Out. (in M): 102 P/E 0.0x 0.0x
Market Cap (in $M): 1,500 P/FCF 0.0x 0.0x
Net Debt (in $M): -30 EBIT 0 0
TEV ($): 1,470 TEV/EBIT 0.0x 0.0x

Sign up for free guest access to view investment idea with a 45 days delay.

  • Pair trade
  • Gold
  • Canada
  • Junior miner
  • Commodity exposure

Description

Some tables and charts could not be copied into VIC; a version including additional tables and charts is available here: https://docs.google.com/open?id=0B8JQBxIp5NxKUmVLbnF4T3YxeUE

Summary and thesis:

At current levels, I believe that a long position in Pretium Resources (TSX: PVG) [market cap of ≈$1,500mm] paired with a short position in Seabridge Gold (TSX: SEA) [market cap of ≈$700mm] presents a compelling risk reward profile. PVG and SA are both development stage gold companies located in very near proximity to one another in British Columbia. PVG owns a truly world class asset and could very well be worth >2x the current share price; SA owns assets that will likely never be developed and the equity should have option value only.

First a disclaimer of sorts: on the whole, junior miners are a tough group to make money in and each company typically tells a superficially compelling or tempting story that rarely comes to fruition.

In that context, this idea is driven by two views:

1) I believe that PVG’s high-grade project is truly unique and world class. Unless the numbers are flatly untrue, the grade and size of the project sets it apart from 99% of gold projects.

2) I do not believe that either of SA’s projects will be developed anytime in the remote future and the equity should only have option value that is worth considerably less than SA’s ≈$700mm market capitalization. In the very unlikely case that the projects are developed, PVG’s projects (in exactly the same geographic area) will no doubt also be developed and prove much more valuable.

Both PVG and SA control vast amounts of low-grade gold resources located in the wilderness of British Columbia. I believe that neither PVG’s nor SA’s low-grade resources will be developed anytime in the remote and deserve, at best, minimal option value.

The difference, however, between the importance of the low grade resource for both companies is critical: for PVG the bulk grade project is a wholly secondary part of the story that the company largely ignores; for SA, the bulk grade project is heavily employed as a promotional took by the company (CEO: every share of SA contains 1 ounce of gold, etc.).

In addition to the bulk grade projects, both PVG and SA have a single other project as well. PVG’s project is an absolute world class project that represents the largest high grade undeveloped gold project in the world and which I believe is likely to ultimately be acquired by a strategic buyer. SA’s project is a low grade 2nd or 3rd tier project that I believe is unlikely to ever be developed.

Accordingly, a long PVG / short SA position allows an investor to safely short the bulk grade exposure on which SA’s story has largely relied and take long exposure to what I believe is a highly attractive opportunity in PVG’s high grade project.

Low Grade / Bulk Resources and Reserves:
 

Through SA’s KSM project, SA controls 64.0mm ounces of low grade (≈.5 GPT) gold reserves and resources.

PVG controls 68.4mm ounces of similarly low grade resources through both low grade resources at their Brucejack project and through their Snowfield project.

PVG’s and SA’s properties are located closely to one another, KSM and Snowfield in particular. For that reason, in May, 2010, PVG and SA signed a Mutual Cooperation and Confidentiality Agreement to investigate the potential of developing Snowfield and KSM as a single operation.
 

I believe two points are critical as regards PVG’s and SEA’s high grade resources:

1)     I believe there is extraordinarily little chance either project is ever developed

2)     Even if one believes development is feasible, the value of PVG’s and SEA’s resources should be effectively similar

On the first point:

PVG management admits that they view their low-grade resource as nothing more than a long-term option that would be valuable in a much higher gold price environment.

Most importantly: according to SEA’s Preliminary Feasibility Study on KSM, development of KSM would require initial capital of $5.3bn. At base case AU/AG prices, the $5.3bn investment would it would yield an 11.5% IRR (14.7% at spot price levels). The notion that any entity is going to be interested in financing a $5.3bn project requiring unprecedented engineering feats for a low double digit IRR is frankly ridiculous.
 

That the SA story has lasted this long is a testament to management promotion and investor hope. However, SEA is in no position to create any value from their KSM project and the stock price will slowly continue to further reflect that. For SA, perceived viability of KSM is critical to maintaining their story and their equity price. Should gold prices decline materially, SA’s stock will more quickly reflect reality.

For reference, Northern Dynasty Minerals (TSX: NDM) controls the largest bulk tonnage product in the world (Pebble, 100mm+ ounces gold resources) and has seen its market cap decline to $228mm.

PVG – Background:

Pretium was formed in 2010 through the purchase of Snowfield and Brucejack from Silver Standard for approximately C$450 million (C$215 million in cash and C$235 million in equity), Robert Quartermain, former CEO of Silver Standard, acquired the asset from Silver Standard and formed PVG. Subsequently, a number of Quartermain’s former lieutenants departed Silver Standard for PVG.

PVG controls two assets:

1)     Brucejack – within Brucejack there is a high-grade and low-grade component

2)     Snowfield – an entirely low-grade project

PVG is wholly focused on the development of the Brucejack High Grade (BJHG) project.

PVG - Brucejack High Grade:

The Brucejack High-Grade (BJHG) project represents the highest grade and perhaps the very largest high-grade development project in the world.

In gold mining, it is often stated that ‘grade is king.’ The reason for that is that with higher grade comes lower costs, lower operational risk, and lower leverage to the gold price (the last point being largely a positive but can be a slight negative). Simply: if for an apples to apples project the cost to mine one ton of ore is $100, if that ton contains 10 grams of gold the mining costs per ounce for the latter projects are 1/10th of the former project. The lower operating leverage of a lower cost project is highlighted simplistically in the table below:
 
Gold   Price  $         15.00  $         14.00  $         13.00  $         12.00  $         11.00
Cost per ounce  $         1.00  $         1.00  $         1.00  $         1.00  $         1.00
Profit / ounce  $       14.00  $       13.00  $       12.00  $       11.00  $       10.00
Operating margin 93.3% 92.9% 92.3% 91.7% 90.9%
           
Gold Price  $       15.00  $       14.00  $       13.00  $       12.00  $       11.00
Cost per ounce  $       10.00  $       10.00  $       10.00  $       10.00  $       10.00
Profit / ounce  $         5.00  $         4.00  $         3.00  $         2.00  $         1.00
Operating margin 33.3% 28.6% 23.1% 16.7% 9.1%
 

Numerous discussions with industry participants – current and former mining executives, geologists, well in the know, independent gold mining analysts – have provided us confidence that based on the finding to date, the BJHG project is an extraordinarily high quality one and truly distinguished from the plethora of development stage gold projects around. If we did not have confidence in that view, we would not find this trade compelling.

The two charts below highlight the extent to which PVG’s BJHG project is an outlier in terms of grade and size:
 

Pretium – Brucejack High Grade – Summary Figures:

PVG released the second iteration of its PEA for its high-grade BruceJack project on February 22, 2012. A summary of the study can be accessed here: http://pretivm.com/News/News-Details/2012/Pretium-Resources-Inc-Updated-PEA-for-Brucejack-High-Grade-Gold-Project1128319/default.aspx.

Total capital costs for the project are estimated to be $436mm.

Presented below are key summary figures for the project:
 
Updated   PEA - Summary Base Spot
     
Gold price - USD / ounce  $           1,100  $           1,734
Silver price - USD / ounce  $               21  $               33
Net cash flow - $mm - pre-tax  $           5,133  $           9,467
Net cash flow - $mm -   post-tax  $           3,357  $           6,185
NPV - at 5.0% discount rate -   pre-tax  $           2,262  $           4,330
NPV - at 5.0% discount rate - post-tax  $             1,454  $             2,808
IRR - pre-tax 29.8% 43.4%
IRR - post-tax 25.0% 36.5%
Payback - years - pre-tax 4.1 years 3.2 years
Payback - years - post-tax 4.2 years 3.3 years
Exchange Rate (USD:CDN)             0.9300             0.9970
Implied cash costs / Au ounce   (gross of silver credits) - life of mine  $             332  $             332
Implied cash costs / Au ounce   (net of silver credits) - life of mine  $             245  $             245
 

Seabridge – Courageous Lake:

On July 24, 2012, SA released the Preliminary Feasibility Study for Courageous Lake. A summary of the study can be accessed here: http://www.seabridgegold.net/News/Article/386/preliminary-feasibility-study-completed-for-seabridge-golds-courageous-lake-project.-proven-and-probable-gold-reserves-estimated-at-6.5-million-ounces-

That link above also includes a link to a fuller version of the Feasibility Study.

Total capital costs for the project are estimated to be $1,522mm.

Presented below are key summary figures for the project. Note: all numbers presented are on a pre-tax basis:
 
      Alternate
    Spot Gold
  Base Price Price
Courageous Lake - Preliminary   Feasibility Study Case Case Case
       
Gold Price per Ounce  $            1,384  $            1,618  $            1,925
Net Cash Flow - $mm  $            1,507  $            2,785  $            4,519
NPV @ 5% Discount Rate - $mm  $               303  $            1,054  $            2,080
IRR 7.3% 12.5% 18.7%
Payback Period 11.2 years 7.4 years 4.0 years
Operating Costs Per Ounce of   Gold Produced (years 1 to 5)  $               674  $               683  $               689
Operating Costs Per Ounce of   Gold Produced (life of mine)  $               780  $               789  $               796
Total Costs Per Ounce of Gold   Produced (includes all capital)  $            1,123  $            1,134  $            1,141
USD / CDN Exchange Rate              0.9803              0.9877              0.9877
 

BJHG vs. Courageous Lake:

In my view, the most problematic issue with the Courageous Lake is IRR projection. Simply stated, I do not believe that a low-grade gold project requiring $1.5bn in CapEx has a chance of getting off the ground with a 12.5% IRR and a 7.4 year payback (pre-tax) based on $1,600+ gold. Indeed, even at $1,900+ gold project economics do not justify the project getting financed. The economics simply are not attractive (a 7.4% pre-tax IRR at $1,384 gold? Who finances that?) and at gold prices sub-$1,300 the project becomes uneconomic on an absolute basis.

PVG’s BJHG project, conversely, has robust economics (25% IRR post-tax) even at $1,100 gold. Moreover, the upfront capital cost of BJHG is only $436mm vs. $1.5bn for Courageous Lake. In summary, BJHG vs. Courageous Lake:

-       Much less upfront capital

-       Much higher IRRs at current gold prices

-       Much less leverage to the gold price

-       High economic at very low gold prices vs. uneconomic at similar gold prices.

For PVG, I have constructed a model based on their PEA in order to perform sensitivity analyses – the numbers produced by my model closely match those produced by PVG’s PEA. [For whatever reason, I cannot manage to construct a model for the SA’s Courageous Lake project that matches their outputs.]

The analysis below presents a comparison of the pre-tax undiscounted cash flows of PVG’s and SA’s project using equivalent gold prices:
 
Based   on pre-tax undiscounted cash flows      
       
Gold Price per Ounce  $       1,384  $       1,618  $       1,925
       
SA - Courageous Lake - net   cash flow - $mm  $       1,507  $       2,785  $       4,519
PVG - BJHG - net cash flow -   $mm  $       7,401  $       9,011  $     11,123
PVG / SA - multiple 4.9x 3.2x 2.5x
 

In short: I think the most likely outcome is that Courageous Lake is never developed and is therefore worth $0. However, if both projects are developed and assuming spot gold prices, PVG’s project is easily worth >3x that of SA’s. [On a discounted basis, because of the substantially higher upfront capital costs of SA’s project, PVG’s project has an NPV much greater than 3x that of SA’s project].

At current share price levels, PVG has a market cap of $1.5bn vs. SA at $700mm. So, to be sure, the market is already pricing in a meaningful valuation discrepancy between the two companies. However, I believe that SA’s projects have minimal value and, as I will explain further, I believe that PVG’s projects have value significantly in excess of $1.5bn.

Further Commentary on the Valuation of BJHG:

As previously mentioned, PVG released the second iteration of its PEA for its high-grade BruceJack project on February 22, 2012 (http://pretivm.com/News/News-Details/2012/Pretium-Resources-Inc-Updated-PEA-for-Brucejack-High-Grade-Gold-Project1128319/default.aspx).

Presented below are key summary figures for the project:

Updated   PEA - Summary Base Spot
     
Gold price - USD / ounce  $           1,100  $           1,734
Silver price - USD / ounce  $               21  $               33
Net cash flow - $mm - pre-tax  $           5,133  $           9,467
Net cash flow - $mm -   post-tax  $           3,357  $           6,185
NPV - at 5.0% discount rate -   pre-tax  $           2,262  $           4,330
NPV - at 5.0% discount rate - post-tax  $             1,454  $             2,808
IRR - pre-tax 29.8% 43.4%
IRR - post-tax 25.0% 36.5%
Payback - years - pre-tax 4.1 years 3.2 years
Payback - years - post-tax 4.2 years 3.3 years
Exchange Rate (USD:CDN)             0.9300             0.9970
Implied cash costs / Au ounce   (gross of silver credits) - life of mine  $             332  $             332
Implied cash costs / Au ounce   (net of silver credits) - life of mine  $             245  $             245
 

The following is very critical: the PEA above was based on the resource estimate presented below (released November 28, 2011) (http://www.pretivm.com/News/News-Details/2011/Pretium-Resources-Inc-Significant-Increase-in-Brucejacks-Gold-Resources1127478/default.aspx):

Updated   Resource Estimate - November 28, 2011 Tonnes Gold Silver Gold Silver
Category (millions) (g/t) (g/t) ('000 oz) ('000 oz)
           
Measured              2.400                7.93             236.10                 612             18,219
Indicated              6.900              19.99              60.90              4,435             13,511
M + I              9.300              16.92             105.60              5,047             31,729
Inferred              4.000              25.67              20.60              3,301              2,649
Total             13.300              17.79              73.28              8,348             34,379
 
On April 3, 2012, PVG released an updated resource estimate (http://www.pretivm.com/News/News-Details/2012/Pretium-Resources-Inc-High-Grade-Gold-Mineral-Resource-Estimate-Completed-for-Brucejack-Project1128860/default.aspx). The analysis below presents the new resource estmate and how it compares to the previous resource estmate:
 
Updated   Resource Estimate - April 2, 2012 Tonnes Gold Silver Gold Silver
Category (millions) (g/t) (g/t) ('000 oz) ('000 oz)
           
Measure and Indicated                13.700                  13.20                104.00                  5,814                45,810
Inferred                16.700                  20.90                  28.00                11,222                15,034
Total                30.400                  15.89                  56.74                17,036                60,845
           
Multiple of original resource   estimate   0.89x 0.77x 2.04x 1.77x
 

Accordingly, the new resource estimate indicates 2x the gold of the previous resource esimate. A rough read through would indicate that when PVG realeses an updated PEA (or a feasability study), the NPV of the BJHG project should be ≈2x what the previous PEA indicated.

 [PVG released its original resource estimate in Febarury of 2011 at which time gold ounces were 2,801mm; the corresponding PEA yielded net cash flow at $1,100 gold of $1,079mm; the subsequent resource estmate was released in November 2011 at which time gold ounces were 8,348mm (2.98x original) the corresponding PEA was released in February 2012 and yielded net cash flow at $1,100 gold of $5,133 (4.75x original)].

My estimate is that based on the most recent resource estimate, the cash flows of the BJHG project has increased 2x and therefore even more susbtnatially dwarfs SA’s Courageous Lake project.
 

Sensitity Analysis:

As mentioned earlier, I have constructed a model based on the numbers from PVG’s PEA in order to perform a sensitivity analysis of the project (this is based solely on the February 2012 PEA and not the April 2012 resource estimate). The analysis considers at after-tax discounted (5%) value of the BJHG project at a range of gold prices (columns) and a range of actual capital and operating costs relative the PEA estimates (rows are multiples of PVG’s estimates):
 
Variables - Gold Price and Actual Capital and   Operating Costs vs. Projected
 $          1,957.0  $        1,100.0  $        1,250.0  $        1,400.0  $        1,550.0  $        1,700.0  $        1,850.0
200.0%  $           581.4  $           946.2  $        1,311.0  $        1,675.8  $        2,040.6  $        2,405.4
180.0%  $           807.9  $        1,172.7  $        1,537.5  $        1,902.3  $        2,267.1  $        2,631.9
160.0%  $        1,034.4  $        1,399.2  $        1,764.0  $        2,128.8  $        2,493.6  $        2,858.4
140.0%  $        1,260.9  $        1,625.7  $        1,990.5  $        2,355.3  $        2,720.1  $        3,084.9
120.0%  $        1,487.3  $        1,852.1  $        2,216.9  $        2,581.7  $        2,946.5  $        3,311.4
100.0%  $        1,713.8  $        2,078.6  $        2,443.4  $        2,808.2  $        3,173.0  $        3,537.8
 
The important point of the analysis is this: because of the very high grade nature of the project, the project is relatively very low cost. As a result – in contrast to the vast majority of gold projects – the BJHG project has relatively low leverage to capital and operating cost overruns as well as significant movements in the price of gold. To be sure, PVG does have leverage to such variables – but simply not nearly as much as most gold projects do.
 
Valuation in a takeout scenario:

Presented below is a chart showing the acquisition of gold miners of the past couple of years on an EV / resource ounce basis:

If we take a very conservative stance, the median and average (excluding Andean and Red Back) purchase price over the time was $121 and $137 per ounce, respectively. Using those levels and based on the April 2012 resource estimate yields a value of gets us $20-$23/share.

However, given the very high quality of PVG’s asset, it is likely to garner a valuation substantially higher than the average deal. Indeed, the best comp may be the high grade Andean Resources transaction.

Peer based valuation:

The following is to demonstrate that in all likelihood PVG is undervalued on both an absolute and relative basis, and therefore a long position in PVG hedged with a short position in select gold miners or a gold miners index is likely to generate attractive returns.

Simple Valuation – based on peer EV / Resource ounce valuation:

The table below presents the most simplistic valuation metric for a group of gold miners – EV / resource ounce. As the table presents, there is wide variance is the valuation of miners on an EV / resource ounce basis depending on a variety of factors:
 
    Enterprise EV / Resource
Company Region Value Ounce
       
Junior Miners - with High   Grade Projects      
TSX:XG Argentina  $                 410  $                 170
TSX:RMX Canada  $                 766  $                 274
TSX:CNL Columbia  $                 870  $                 255
TSX:SBB Canada  $                 354  $                   59
TSX:QMI Canada  $                 232  $                   68
Average      $                 165
       
       
Junior Miners - other      
TSX: KDX US - Nevada  $                   61  $                   29
TSX:MUX Argentina  $                 862  $                   75
TSX:RR Canada  $                 283  $                   34
TSX:YNG US - Nevada  $                 456  $                 105
Average      $                   61
       
Bulk Tonnage      
TSX: NG Canada  $              1,180  $                   15
TSX:SEA Canada  $                 638  $                    8
Average      $                   12
       
Intermediate Miners      
TSX:IMG Africa, LatAm  $              3,410  $                 142
NYSE:KGC Various  $              9,738  $                   90
NYSE:AEM Various  $              8,364  $                 199
TSX:YRI Various  $            11,414  $                 269
TSX:ELD Various  $              6,922  $                 137
TSX:OSK Canada, LatAm  $              4,161  $                 174
TSX:AGI LatAm, Turkey  $              1,910  $                 237
TSX:KGI Canada  $                 851  $                 222
Average      $                 184
       
Senior Miners      
NYSE:ABX Various  $            47,609  $                 161
NYSE:GG Various  $            31,488  $                 487
NYSE:NEM Various  $            27,891  $                 199
Average      $                 282
Using the table above enables us to perform a simple valuation analysis for PVG – applying a range of valuations (EV / resource ounce) for PVG’s high-grade and giving zero value for low grade (despite the value applied to SEA’s and NG’s low grade resources):
 
High   Grade Resource          
Total resource ounces                18,558                18,558                18,558                18,558                18,558
$ / resource ounce  $              60.00  $            110.00  $            160.00  $            210.00  $            260.00
Value - $mm  $           1,113.5  $           2,041.3  $           2,969.2  $           3,897.1  $           4,825.0
           
Combined value / share  $              10.95  $              20.08  $              29.21  $              38.33  $              47.46
Upside / downside to current -25.7% 36.1% 98.0% 159.9% 221.8%
 
 
 

Catalyst

1) Updated PEA or feasability study from PVG
2) Continued recognition of SEA's projects as uneconomic
3) Acquisition of PVG
    show   sort by    
      Back to top