The Gold Report: Many of the people we interview have a theory about why gold is performing poorly this summer despite so much global uncertainty, especially in China and Greece. What's your theory?
Joseph Fazzini: Gold typically plays numerous roles, including being a hedge against inflation, devaluation and economic turmoil, but it's still a commodity. Most commodities typically come under pressure in a recessionary environment. Right now, the global economic landscape isn't all that promising, inflation remains minimal and investors prefer other safe-haven investments (i.e., U.S. dollar). As a result, we expect gold to continue performing in-line with most other commodities and remain under pressure.
TGR: How low can gold go?
JF: Recent events have shown that the price of gold can move without rhyme or reason. While some have suggested that opportunistic investors have conspired to drive down the price of gold, weakened investor sentiment has also played an important role. Rather than try to hedge inflation or economic uncertainty with gold, investors from around the world have sought refuge in safety assets like the strengthening U.S. dollar, which moves inversely with gold. With Chinese, European and North American equity markets on precarious financial footing, gold remains out of favor and the bottom is tough to call.
TGR: What about sub-$1000/ounce (sub-$1,000/oz) gold?
JF: With the price of gold recently declining to a five-year low of US$1,088/oz, sub-$1,000 is certainly a near-term possibility. While we hope for the best, we continue to advise caution.
TGR: Is it Dundee Capital Markets' view that gold could rebound in 2016 or possibly 2017?
JF: We have a constructive long-term view of gold, but in the near term we still see a lot of risk. We're not ready to call a gold rebound. We would need to see some serious developments in the global economy that would support a rebound in gold.
TGR: What would some supportive measures be?
"We expect gold to continue performing in-line with most other commodities and remain under pressure."
JF: Further quantitative easing would be probably the most encouraging thing we could see for the gold price. As this scenario would entail more money being pumped into the global economy, we expect this could drive investors out of fiat currencies and into hard assets, including gold, which can't be printed. With indications of U.S. interest rates rising in the coming quarters, it's clear that the U.S. is unlikely to pursue that route, but we could see it happen in Europe and China. In addition, a weakening of the U.S. dollar would inherently be positive for gold as it would become more affordable for foreign nations, most notably China and India, which have been major buyers of bullion.
TGR: We have the situation in Europe with Greece and stock market weakness in China. Which is more likely to affect the gold price?
JF: In our opinion we consider the recent events in China to be of greater significance. Apart from China having one of the largest global economies, the Chinese also represented roughly 25% of global gold demand in Q1/15. If things were to materially worsen in China, we think that would have a far more pronounced effect on the price of gold than anything happening with Greece.
TGR: With such uncertainty surrounding the marketplace, what are three things that become more important in gold equities, especially the micro- and small-cap stocks?
JF: With continued volatility expected in the gold space, we consider the three prerequisites for investment to be ownership of quality low-cost assets, defensive balance sheets and responsible management teams.
You want to look for low-cost operations that continue to generate cash despite gold price fluctuations. Next, you want companies with defensive balance sheets. For the most part higher leverage will result in significantly higher risk, and so you want companies with good cash balances and limited debt. Those names are going to be better positioned to weather prolonged market weakness. Lastly, having a responsible, experienced management team is key. You really want to be in a position where the company is being responsibly managed in tough market conditions. Whether that means laying people off, shutting down an operation or selling the company you need to have the people willing to make the best decisions for shareholders.
TGR: Would you tell us about consolidation in the industry?
"Further quantitative easing would be probably the most encouraging thing we could see for the gold price."
JF: Dundee Corp. (DC.A:TSX) Chairman Ned Goodman is about to become co-chairman of Oban Mining Corp (OBM:TSX), the banner under which several small- and micro-cap gold names are being consolidated. The emergence of Oban reflects a changing environment for the juniors. There was a time when these companies could advance independently and get access to capital. The reality today is that access to capital is limited to companies with cash and credibility. In our view, the Oban strategy is the right approach as it consolidates a couple of cash-rich micro-caps with attractive, yet underfunded development projects. When you add in a reputable and experienced management team and board of directors, we think that these assets are far better positioned to advance within Oban than they would have been independently. We think investors should want to see more deals like this.
TGR: Should investors expect mergers and acquisitions (MA) activity to gain momentum throughout the remainder of 2015 and into 2016?
JF: I think so. As I said, access to capital will remain limited. The consolidation of juniors and mergers among larger players are, in our opinion, essential to longer-term survival in this industry. When companies join together, we see potential for significant synergies through economies of scale and streamlined management structures. If we continue to see a challenging metal price environment, MA is inevitable. Companies will have little choice but to get together or they simply won't survive.
TGR: Would you talk about some of the companies that you cover?
JF: Continental Gold Inc. (CNL:TSX; CGOOF:OTCQX) is one that I cover. The company just announced an updated mineral resource on its flagship Buritic project; the new resource provides a basis for the company's upcoming Feasibility study in 2016. With significant conversion of Inferred resources into Measured and Indicated, the new resource also provides a greater degree of confidence in the deposit.
"Buy companies with strong balance sheets, solid production assets and responsible management teams."
The next catalyst is obviously the permit. A lot of people are waiting to see Continental get its final operating permit. The permit would allow the company to build-out and expand Buritic from its current small-scale production. Recognizing the importance of the permit from a derisking perspective, our expectation is that Continental will receive the permit in the coming months. The Feasibility study will also play a key role as it will provide a better indication of potential project parameters and economics.
TGR: What does Buritic look like to you at this stage?
JF: It's quite clear this is a high-grade underground mining scenario. The question is how big will it be? And what will it cost to develop Buritic? The preliminary economic assessment (PEA) gives us a rough sense of what that project will look like, but the differences between the PEA and the Feasibility will be significant due to the additional amount of drilling and technical studies that will be completed.
TGR: If Continental receives its final operating permit, do you see it as a takeover target?
JF: Yes. Given the size of the deposit, the likelihood of an extensive mine life and the potential for potent project economics, we think Buritic is a project that a lot of companies would be interested in.
TGR: What is your target on Continental?
JF: My target is $4.75, with a Buy, Speculative risk rating.
TGR: What are some companies you cover with low-cost assets, strong balance and responsible management teams?
JF: Among the names that we like, B2Gold Corp. (BTG:NYSE; BTO:TSX; B2G:NSX) remains a favorite. It offers the combination of production growth, attractive cash costs, a defensive balance sheet and a compelling valuation. The company recently commissioned the Otjikoto gold mine in Namibia and it's performing well. The mine has further improved B2Gold's cash cost profile, and it should help the company drive consolidated production well in excess of 500,000 ounces (500 Koz) this year. The company still has further growth ahead with the Fekola gold project in Mali, which is expected to start production in 2018.
TGR: B2Gold is thumping its chest about Fekola. Should investors buy the hype?
JF: We think so. We like the project. It offers both high grade in an open pit and the potential for robust project economics once it is up and running. Given the limited amount of exploration in the past, we see potential for the deposit to get bigger through extension along strike and at depth.
TGR: What's your target on B2Gold?
JF: $2.75 and a Buy rating.
TGR: What else does Dundee like?
JF: Detour Gold Corp. (DGC:TSX) is another favorite. We consider the company's Detour Lake mine to be a unique asset that supports a significant production profile of over 500 Koz a year. As production continues to ramp up, we expect to see further cost optimization, which will lead to meaningful cash flows over the next 20+ years. Detour Lake is located in northern Ontario, a jurisdiction with low geopolitical risk, which further enhances the company's appeal. We think it's one of the best single-asset producers out there.
TGR: What does Detour have to do to get a rerating?
JF: Generate free cash. People look at Detour and they still see it as a ramp-up story. It's still growing. The operations continue to show improvement every quarter but people want to see the company become a meaningful free cash flow generator.
TGR: The Street's consensus target on Detour is around $16. What's yours?
JF: Our target is $17 with a Buy rating.
TGR: What are some other companies that you like?
JF: Kirkland Lake Gold Inc. (KGI:TSX) is another one that we like. The company has been a strong performer through the past 12 months on the back of an operational turnaround at its Macassa mine in northern Ontario. It has a very high-grade ore body with extensive mine life and a vastly improved balance sheet. Given the operational results we've seen, Kirkland is well positioned to continue generating robust cash flows through growing production over the next few years.
TGR: Kirkland Lake reported earnings of $19.8 million ($19.8M) in fiscal 2015 versus a loss of $11.08M in 2014. Was that in line with your estimates?
JF: Indeed. Production was pre-released so there weren't really any surprises. There has been such a big difference in that company over the past 12 months, predominantly due to management changes and a focus on mining higher grades rather than moving marginal tonnes.
TGR: What's the next catalyst for Kirkland?
JF: The next quarter's results. The operational results are going to be a key catalyst, along with ongoing exploration work.
TGR: What is your target there?
JF: $7.75 with a Buy rating.
TGR: What company did you recently initiate coverage on?
JF: SEMAFO Inc. (SMF:TSX; SMF:OMX). The company is another name that we really like for a variety of reasons, but predominantly because it has a track record of under-promising and over-delivering. It has delivered on its guidance six out of the past seven years, which is excellent. In addition, it has a meaningful production profile, with almost 250 Koz a year coming from its Mana mine in Burkina Faso. Mana is a low-cost mine with good grades and an extensive mine life ahead of it. The other attraction is the Natougou project that SEMAFO is advancing in Burkina Faso. A Feasibility study is expected in 2016 and Natougou has all the indications of a world-class mine.
TGR: About 16 analysts cover SEMAFO. They seem mostly torn between Buy and Hold. What's your view?
JF: I think the disparity between the different views is that some people look at the valuation and think that SEMAFO is expensive. We believe the company deserves a premium given the quality of its assets, the track record of its management team and the growth profile that the company offers. All those things together suggest that this is a company worth owning in a portfolio.
TGR: What's your target on SEMAFO?
JF: $5 with a Buy rating.
TGR: Are there other names you would like to discuss?
JF: Claude Resources Inc. (CRJ:TSX) has performed very well on the back of a turnaround at its Seabee mine in Saskatchewan. The company began generating meaningful cash flows after it changed its mining methods and focused on higher-grade portions of the deposit. As a result, Claude has been able to pay down debt while repeatedly beating its own production and cost guidance.
TGR: The company recently increased 2015 guidance to 6872 Koz a year, an increase of roughly 4 Koz. Is that meaningful?
JF: We consider the increase in guidance to be meaningful and totally achievable.
TGR: Claude recently added 3,000 hectares to its land position in Saskatchewan. What's the thinking behind that move?
JF: The ground around the Santoy mine complex is important for Claude. Santoy has good grade and from an exploration perspective, it's quite prospective ground. The company wanted to lock up those claims and given it acquired the land for very little money, we think the move was prudent.
TGR: And your target on Claude?
JF: $1 with a Buy rating.
TGR: What's your advice to retail gold investors during this summer of global economic discontent?
JF: Everything comes back to quality. Investors should focus on quality. Don't buy the high-risk names in the hopes of outsized returns. Buy companies with strong balance sheets, solid production assets and responsible management teams.
TGR: Thank you for talking with us today, Joe.
Joe Fazzini is a senior mining analyst with Dundee Capital Markets in Toronto. Joe's research is predominantly focused on junior mining companies in both the production and pre-production stage. Prior to joining Dundee, Joe articled at PricewaterhouseCoopers LLP in the firm's global metals and mining assurance practice. He is a registered Chartered Accountant (CA) as well as a CFA charter holder. Joe holds a Bachelor of Commerce degree, majoring in economics and finance from the University of Toronto.
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1) Brian Sylvester conducted this interview for Streetwise Reports LLC, publisher of The Gold Report, The Energy Report and The Life Sciences Report, and provides services to Streetwise Reports as an independent contractor. He owns, or his family owns, shares of the following companies mentioned in this interview: None.
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3) Joseph Fazzini: I own, or my family owns, shares of the following companies mentioned in this interview: SEMAFO Inc. I personally am, or my family is, paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: Detour Gold Corp. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I determined and had final say over which companies would be included in the interview based on my research, understanding of the sector and interview theme. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.
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