miƩrcoles, 12 de junio de 2013

miƩrcoles, junio 12, 2013

Once In A Golden Moon: Luna Gold

Jun 9 2013, 13:00

by: Itinerant





Luna Gold (LGCUF.PK) is a junior gold mining company with listings on the Toronto and Lima Stock Exchanges and trading in the US via the pink sheets. The company controls an extensive land package in Northern Brazil and has succeeded in bringing the Aurizona gold mine into commercial production in February 2011. Last year the mine yielded over 74,000 ounce of gold which transferred into $103.1 million of revenues and a gross profit of $39.5 million for the year 2012.

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The Aurizona gold mine is an open pit mine with a gravity and CIL processing plant. Ore for the mill is currently sourced from the Piaba deposits. Additionally, the company has four near mine deposits with defined resources and is testing over a dozen near-mine targets. The first phase of an expansion plan has been initiated which is scheduled to be completed later this year lifting 2013 production to 95,000 to 105,000 ounces at a cash cost of less than $715, or all-in cash costs of around $1,100.

Once fully operational this Phase I expansion will deliver annual average output of 135,000 ounces over a 15 year mine life at current reserves. Remarkably, this expansion has been financed from cash and debt exclusively without dilution of existing shareholders. Further expansion is presently considered with a pre-feasibility study for Phase II expected in Q4/2013.

Luna Gold holds a significant land package of 235,000 hectares around the Aurizona Mine and reports several very promising green field targets. In fact, the company states that they have only just "scratched the surface" of their property in a prominent Greenstone belt location.

At the time of writing the market capitalization sits at just under $200M and shares are trading for $1.88 resulting in a P/NAV ratio of less than 0.5. The share registry is tight with only 105M shares outstanding and insider ownership of 14.4%. At present institutional ownership is negligible setting the share price up for growth once the company attracts wider attention with institutional investors. Luna Gold had a moderate long-term debt of $30M and $20M of cash and finished goods at the end of Q1/2013.

In 2009 the original construction of the Aurizona mine was partially financed by Sandstorm Gold (SAND), a streaming company that provides up-front capital for mining ventures in exchange for a streaming agreement. In the case of Luna Gold the streaming agreement entitles Sandstorm Gold to purchase 17% of the gold production at a strongly discounted price of $400. In October 2011, the State of Maranhao and the Brazilian Federal Government awarded Aurizona with a SUDENE tax benefit which reduces Aurizona's effective tax rate from 34% to 15.2% for the first ten years of operations. Luna Gold finds that the SUDENE tax benefit neutralizes the stream on a gross margin after tax basis. In our opinion this streaming agreement with Sandstorm represents a considerable tick of approval from a savvy and knowledgeable mining investor.


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Business seemed to be ticking along very well for Luna Gold. The share price outperformed the Market Vectors Junior Gold Miners ETF (GDXJ) during last year's brief gold price rally; and the share price did not budge when the spot price turned back south in October 2012 instead reaching a high of $3.85 in mid-March. In early April the quarterly report for Q1/2013 was released indicating production below the initial guidance, due to severe drought conditions in January and February 2013 (which had been alleviated through seasonal rains at the time of the quarterly release). The company had foreshadowed this issue but nevertheless, the share price was punished severely which was compounded by the drop in gold price in April. Luna Gold suffered disproportionately compared to the sector and the share price is currently finding a base at 50% of March highs as shown in the chart above.

We believe that the market has over-reacted and the recent correction was exaggerated by fear and a weak gold spot price. Assuming that management will continue to deliver as has been the rule so far, we suggest that the present situation could represent an attractive investment opportunity. The chart below shows the ratio of Luna Gold's share price and the GDXJ illustrating the described developments since August 2012. The depicted ratio has dropped from 0.25 to 0.15 with the 200dMA sitting at .171. All things equal, we would expect this ratio to return to the moving average once the short-term dust has settled and this chart has bottomed out. Additionally, with all the described catalysts pending and keeping in mind that management has maintained 2013 guidance we would not be surprised if Luna Gold returns to outperforming the GDXJ once again in due time. Quite possibly, a window of opportunity has opened for an entry into this stock during the upcoming summer months.

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We emphasize that this is a relatively high risk/reward situation and we suggest that interested investors should make themselves familiar with risks associated with junior mining stocks. However, in order to gain additional confidence with our investment thesis we decided to contact the company and ask some questions. Mark Halpin, Vice President Corporate Development of Luna Gold, was kind enough to respond in great detail for which we are immensely grateful. Below are our questions and his answers.

Q: Mark, Luna Gold has just released the latest Reserve and Resource update for the Aurizona mine. Could you please give some salient details of this report and explain the significance of this report for the company?

MH: On April 9, we announced that our Proven and Probable Reserves at Aurizona's Piaba deposit had increased by 222%, relative to an earlier statement in July of 2010. Piaba now has Proven and Probable mineral gold reserves of 2.36 million ounces, including 55 million tonnes of ore with a life of mine average of 1.32 grams of gold per tonne. At a processing capacity of 10,000 tonnes per day, a level we'll achieve once Aurizona's Phase I expansion reaches completion, this will allow for an expected mine life of roughly 15 years at the Piaba deposit given the current Reserve. The average life of mine gold production at Aurizona, post Phase I completion, is now estimated at 135,000 ounces per year. The total Aurizona property contains 3.63 million ounces of Measured and Indicated Resources and 1 million ounces of Inferred Resources.

Q: Phase I of the expansion program to 135Koz per year seems to be well on its way. Are you still on time and on budget?

MH: Aurizona's expansion remains both on time and on budget. As of the conclusion of the first quarter, we had approximately $5.8 million of the project's contingency allowance remaining, and had completed roughly 85% of the necessary engineering and 5% of construction. Our latest technical report targets 2014 gold production at approximately 110,000 ounces based on the completion of the Aurizona Phase I Expansion during the fourth quarter of 2013. We are currently optimizing our latest reserve and Luna will have a better understanding of targeted 2014 gold production once the 2014 budget is set in late 2013.

Q: The pre-feasibility study for Phase II of the Aurizona expansion plan is expected to be released later this year. Will the present operating pits support an annual 200Koz-300Koz operation, or will you need other deposits nearby to be mined for Phase II to be an option?

MH: At a processing rate of 10,000 tonnes per day, which Aurizona will achieve following completion of its current expansion, our mine life will be roughly 15 years at our Piaba and Tatijuba deposits. Phase II of Aurizona's expansion, which we're currently considering, could potentially double that processing rate to 20,000 tonnes per day, effectively halving the life of mine. We have three additional deposits with defined resources that we are currently evaluating to convert into reserves. Furthermore, with continued drilling at Aurizona, it is likely that we significantly extend the life of mine beyond its current duration.

Q: Will Luna Gold aim at financing a possible Phase II expansion from cash flow and debt like you did for Phase I?

MH: It's a little too early to provide an accurate reply to that question, given that we have yet to announce the potential capital requirements of Aurizona's Phase II expansion. However, it is fair to state that our preference would be to first obtain funding from our existing cash flow and then through debt, if possible avoiding any dilution to our existing shareholders' positions.

Q: Are you anticipating for Sandstorm Gold to play a role in financing Phase II?

MH: It's possible, as they have been great partners to date. The existing Sandstorm arrangement covers any production at Aurizona. If we elected to further develop an underground mine at the property, which would be separate to a Phase II expansion, then Sandstorm would have the right to purchase 17% of the gold produced by that mine at a price equal to the less of $500 or the prevailing market price. In exchange, Sandstorm would be required to contribute 17% of the capital necessary to both analyze the economic viability of and build the underground mine.


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(all photographs taken from company website)


Q: The results for the first quarter this year showed a distinct reduction in output compared to previous quarters. Can you elaborate on the reasons for this development?

MH: While our first quarter gold production of 17,203 ounces was slightly higher than our production in the same period in 2012, it did represent a decline from both the production levels we had risen to during the latter half of last year and our original first quarter guidance of 21,000 ounces. This was due to the drought conditions we experienced at Aurizona during January and February 2013. These conditions resulted in a shortage of process water that reduced ore processing through the mill in January and February of 2013.

Fortunately, the rains arrived in late February, and water supply has since returned to normal.

Q: Are you still confident in achieving your 2013 guidance of 95Koz to 105Koz?

MH: We are. More than 9,000 ounces of the first quarter's production was generated during March, and we're confident that we can make up the first two months' shortfall over the second half of the year.

Q: Full year guidance for all-in cash cost is around $1,100/oz. Are you still confident to achieve this goal?

MH: Like the production guidance, we are confident that we will be able to achieve our targets for 2013.

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Q: The reserve pit shell at the Piaba deposit is calculated for a gold price of $1,350/oz. The spot price has dipped below this design value twice now in recent weeks. Are you worried about the possibility of gold falling below $1350/oz for any prolonged periods of time in the near- to mid-term?

MH: I think it's fair to say that any gold producer is worried about that possibility, but I don't believe we'll see it. If we do, we'll be prepared. The reserve pit shell price has been applied on a long term basis. Should the spot gold price fall below $1,350 over the long term, we can take steps to re-optimize the pit. Again, however, I don't think we'll find ourselves in that position. History suggests that we'll encounter a long term upward trend in gold prices from its current position, and we also believe current global macroeconomic conditions support an increase in the medium term.

Q: Have you considered changing your mine plan in response to the drop in gold price? Have you implemented any other measures, yet, due to the reduced gold price?

MH: We are prepared to make changes should the price continue to decline, but don't feel they are necessary at this point. We have implemented some other changes, though, reducing our remaining 2013 sustaining capital by 50% and this year's exploration expenditures by 35%. We're also reviewing our corporate expenditures. The gold price decline hasn't forced us into this position, but we felt that taking prudent, precautionary measures made sense until some greater certainty over gold's future begins to emerge.

Q: Has Luna Gold been mining higher grades due to the price pressures? And will this mean lower head grades in the future?

MH: Our recent mining of higher grades was primarily due to the drought conditions we experienced during January and February. The drought and lack of additional tailings dam capacity during 2012 resulted in lack of processing water, effectively reducing the throughput of our processing plant.

During the first quarter we successfully completed raising the tailings dam walls to ensure operations would not be affected in the coming dry seasons.

The current low gold price did play a minor role in this decision. Mining higher than average head grades now will decrease the average head grade for the remaining life of mine. That said, the life of mine is currently 15 years, so the brief time period that has seen us mining higher grades shouldn't have a significant impact on the life of mine average grade.

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Q: Luna Gold has switched to reporting all-in cash cost in the latest quarterly report, even providing a detailed break-down of the cost. In the Q1/2013 quarterly news release the average all-in cash cost is quoted as $1033/oz. In the most recent company presentation the all-in cash cost for the same quarter is given as $1278/oz. Can you please explain this apparent discrepancy?

MH: The $1,033 calculation presents the all-in cash cost for Aurizona based upon expenses. The $1,278 all-in cost number given in the presentation considers any costs for the entire company that wasn't attributed to the Aurizona Phase I Expansion - for example costs included in the presentation but omitted from the Q1/2013 Management Discussion and Analysis include corporate expenses and capitalized expenses.

Q: The presentation mentions decreased costs due to switching from contractor mining to owner-operated mining. Can you elaborate on the advantage of owner operated mining?

MH: This switch is one of the principal reasons that we have been so successful over the past twelve months. Our operational team is experienced, capable, and we believe one of the best in the business. By giving them total and direct control over site operations, we have been able to increase both the pace and efficiency of our production and have seen mining costs per tonne material moved decrease from above $3 to $1.40 in four quarter 2012.

Q: Luna Gold has 23Koz hedged $1567; that must be very satisfying at the moment. Are you planning to increase your hedge book in the future?

MH: We don't have any immediate plans to develop our gold hedge book further. However, we're constantly evaluating this option as the market fluctuates. It is, as you point out, a move that has proven wise so far.

Q: By when can investors expect a NI 43-101 report for one or more of the Luna Greenfields deposits? Could you elaborate on the potential of the Luna Greenfields targets?

MH: In January we announced the positive assay results from our drilling at Luna Greenfields' Touro target. These results have led us to begin work on the definition of an initial NI 43-101 estimate at the property. We'll announce a second round of drilling results during the second quarter of this year and seek to define a NI 43-101 compliant resource by the end of 2014.

There is no question that this property, which is nearly fifteen times the size of Aurizona, has incredible potential. It contains more than 100 artisanal gold workings, and we believe presents a very strong possibility of a multi-million ounce gold deposit.

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Q:Inflation in Brazil is high compared to the Western World and the Central Bank has just increased lending rates. What are the implications for Luna Gold?

MH: The majority of Luna's costs are incurred in Brazil and are paid in BRL. In general, the price of construction materials, supplies, and consumables has remained consistent or has slightly decreased from 2012 to 2013. In theory, inflation is baked into FX rates, and as a business we sell gold in USD. As a result of increasing inflation resulting in the devaluation of BRL against USD, when we convert USD into BRL to pay our operational and capital costs, each US dollar nets us more BRL. This helps to offset the increase operating and capital costs resulting from inflation. Nonetheless, we pay strict attention to minimizing our operating and capital costs, especially in the current gold price environment. Our business model is based around maximizing cash flow.

Q: What are your experiences in general operating a gold mine in Brazil?

MH: We've found it to be a very supportive environment. The best evidence of this is the SUDENE tax benefit. This incentive commenced in October of 2011, and allows for a 75% reduction of Aurizona's corporate tax rate of 25% for the first ten years of operations. Brazil and the State of Maranhao have also proven their friendliness to mining by streamlining a good deal of the permitting processes.
On a gross margin after tax basis we find the SUDENE tax benefit neutralizes the effect of the sandstorm stream.

Q: The share price has held up well during the initial phase of the ongoing gold price correction, but has dropped quite significantly more recently. What are your expectations with regards to the share price for the rest of the year?

MH: There are three major factors that will dictate the strength of our shares over the course of 2013. The first, obviously, is the price of gold, but that's beyond our control. The second will be our ability to make up the production shortfall we experienced at the beginning of the year, and succeed in achieving our annual production guidance. Finally, it will be vital that we keep Phase I of Aurizona's expansion moving forward and reach completion by the end of the year.

Q: Where do you see Luna Gold in five years?

MH: We believe our company has a clear path towards 400,000 to 500,000 ounces of annual production. Aurizona's second phase of expansion could add 125,000 ounces, while moving underground at that property could add another 80,000 ounces. Greenfields' potential is still being determined, but we believe there is at minimum a 125,000 ounce per annum target at that property. Of course, the ceiling could be far higher.

Q: What will need to happen for investors to expect a dividend from Luna Gold?

MH: When the risk adjusted return on investing cash back into our business no longer exceeds our weighted cost of capital.

Q: What is your best guess with regards to the gold price at the end of 2013?

MH: Given the global macroeconomic environment, I expect gold to be north of $1,500 per ounce by the end of the year.

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