Matthew Zylstra: Value in Small-Cap Gold
Source: George Mack of
The Gold Report
Northern Securities Analyst Matthew Zylstra seeks out junior
precious metals stocks with value in the ground and growth
potential that are not yet obvious to the markets. He also looks
for companies that have unrecognized base metal potential that
can significantly reduce the cash costs of precious metals
production. In this exclusive interview with
The Gold Report,
Matt shares some names and discusses catalysts that could
move portfolio values significantly upward.
The Gold Report:
What lies ahead for gold prices?
We don't officially put out a gold price forecast, but I believe
that the bullish environment, basically a perfect environment,
will persist because of continued geopolitical friction,
inflation and currency debasement concerns. I expect the spring
and summer to be relatively choppy, but conservatively I believe
the price of gold will rise above $1,500/oz. by the end of
Is this fear of catastrophe, fear of inflation, a hedge against a
weak U.S. dollar?
I think it's a number of factors. On the demand side China is
emerging as a large producer, but it is also a consumer of gold.
It's trailing India, but demand is exploding and China looks
poised to become the largest consumer nation. I also think
developments like the
Sprott Physical Gold Trust (NYSE.A:PHYS;
, which holds physical gold, are positive, as opposed to
something like the exchange-traded funds such as
iShares Silver Trust (
SPDR Gold Trust (
, which hold a lot of paper certificates. So, from the demand
side, things look very positive.
Driving this demand I believe is a growing mistrust of fiat
currencies, which are subject to the whims of politicians, the
threat of monetization and the possibility of a sovereign debt
crisis. I think it's the worth of a dollar that should be on
trial, versus the value of gold. If you cut the value of a
currency in half, you know everything gets adjusted in price.
Right now in North America, people are generally content in
trusting paper money in its various forms, but I think this could
change, especially with rapid increases in things like food and
energy prices-these are hard to ignore.
When might that change occur?
I don't expect it would be something immediate or sudden-but I
think it is happening now. As investors become more concerned
with monetization and rising inflation, and as yields on debt
securities remain at record lows, I simply expect people will
become more concerned with the erosion of purchasing power and
will move away from paper assets to tangible assets as a store of
We have had a fairly peaceful revolution in Egypt and now one not
so peaceful revolution in Libya. There's turmoil in Tunisia, and
it looks like a domino effect in northern Africa. Now we're
thinking of the Middle East, particularly Saudi Arabia, Kuwait
and Jordan. With all that's been going on, we have seen gold move
up only about 5% since the beginning of February. That's not a
spike. Is that because gold is fully valued at this point, and
that might be why it did not react to this unrest?
Market reaction to political events is not always immediate or
what we may expect. There are a number of factors to consider
that influence the gold price. People in countries with high
political risk may decide to slowly move their investments to
gold because it is perceived to be a safe investment, but it
takes some time for people to decide what, in fact, a safe asset
is. For example, is the U.S. dollar a safe asset? Are bonds a
safe asset? I think people perceive fiat money as safe currently,
but as they see their purchasing power erode while holding these
"safe assets," some will change their view and put it into a
tangible asset like gold or silver.
Could it be a bullish signal that people have not had the
knee-jerk reflex to buy gold in reaction to the unrest in the
Middle East and northern Africa?
Yes. If all investors felt that political unrest automatically
leads to higher gold values, then gold would likely be much
higher already and hence there would be less opportunity for
appreciation. I feel there is considerable long-term upside to
the gold price, and part of that upside is because of healthy
skepticism about gold and silver as safe haven currencies. This
skepticism provides opportunity for bullish investors-it's sort
of a contrarian idea. What I mean is that if everyone was
invested in an asset, there wouldn't be any upside left.
Do you have a forecast for silver?
Silver has really surprised me. I don't have a price target, but
I think the same factors that are influencing gold are factors
for the move in silver. In the silver market there is also a lot
of talk of a very large short position on the COMEX, so short
covering could be a big factor. I have also read a lot about the
difficulties in obtaining physical silver.
Do silver producers have more upside than gold producers?
Yes, I believe that silver producers do have more upside. With
the current spot price of silver in the $33-$36/oz. range-which
we have not seen since the 1980s-and with typical silver cash
costs for producers in the range of $5-$10/oz., margins will be
significantly higher for silver producers even if silver prices
stay where they are, and certainly if they go higher. I also
don't think the recent and very significant rise in silver has
been factored into silver equities prices. But I don't focus so
much on the silver producers. I do look at some of the silver
exploration companies, and that's primarily due to valuation.
What about the valuation of silver exploration companies?
Silver exploration companies trade at much cheaper valuations
based on ounces in the ground, about one-fifth on average. I have
looked into them, and there are a few that I like-
Oremex Resources Inc. (TSX.V:ORM)
Cream Minerals Ltd. (TSX.V:CMA)
Apogee Minerals Ltd. (TSX:V:APE)
and emerging producer
Avino Silver & Gold Mines Ltd.
. I just think that on an enterprise value to resource in the
ground valuation, they are significantly cheaper than the
producers, but of course there are number of factors that must be
looked at, including management, characteristics of the deposit
If commodity prices remain the same, can producers increase
margins enough to satisfy investors?
Certainly. Gold and silver producers could increase margins in
two areas. They could reduce cash costs by increasing the number
of ounces they produce so that they are able to spread fixed
costs over a greater amount of production. They could also
improve efficiencies, for example, by increasing recoveries.
Do you think of these producers you're following as value stories
or growth stories?
Currently, I think they're a bit of both. They are value stories
because investors haven't really factored in the current prices
of the commodities. In my models to value companies I'm using a
$1,000/oz. long-term gold price to be conservative. And for
silver I'm using something under $20/oz., which is considerably
lower than the spot price. I think investors are doing the same
thing. They have seen a move up in the price of gold and silver
over the last few years, and they're still basing their
valuations on much lower gold and silver prices. For that reason,
they look like value propositions. Furthermore, when you buy gold
or silver equities you are buying resources that will end up as
future production for a fraction of the current spot
value-currently this is around $130/oz. of gold resource for a
junior gold producer, for example.
These companies also look like growth stories. The junior
producers typically have not spent a lot of money to explore
their properties, and so a lot of them have considerable
exploration upside that they just haven't been able to focus on.
Also, when these companies start making money, you will see a lot
more M&A activity as smaller producers combine to reach that
mid-cap status and begin to achieve a higher valuation on the
basis of being larger and more stable companies. These companies
also typically have a lot of room to grow production organically.
So, I see it as both value and growth.
What are some examples in the gold sector?
Here at Northern Securities, we focus on a lot of small-cap
explorers and producers. Some examples where we've been involved
in recent financings include
NioGold Mining Corp. (TSX.V:NOX;
Armistice Resources Corp. (TSX:AZ)
and currently we are working on the financing for a company
Golden Band Resources (TSX.V:GBN)
in Saskatchewan. A couple others that include base metals and
precious metals are
Canadian Zinc Corporation (TSX:CZN)
Buchans Minerals Corp. (TSX.V:BMC)
You mentioned you have a couple under coverage. What companies do
Barkerville Gold Mines Ltd. (TSX.V:BGM)
is a stock that I cover that is a small gold producer. I went on
a site visit in September of last year, and I really liked the
property and operations. I think that the company could produce
around 40,000 ounces (40 Koz.) this year and rising to around 85
Koz. in 2013. I currently I have a $1.50 price target, but have
it rated as a Hold since it has just about reached my price
target and I need to see some things fall into place. It's a bit
of a show-me story right now. I am waiting to hear news on
permitting, or increasing production before making any changes to
The catalyst I expect over the next couple of months is
permitting of the Bonanza Ledge property, which is a high-grade
gold zone. It's a very soft ore, and I think the company would be
able to process it at a higher rate, and it is actually looking
to move a second mill close to that deposit. I want to see better
visibility on profits or production, but I think its resource
could be expanded greatly, and it has a lot of potential.
Would good news from Bonanza Ledge have a meaningful effect on
Certainly-it's what I am waiting to hear news about, and I expect
it would have a significant positive impact on the stock
At that point, would you consider revising your target price
Yes, I would. I would have to go back to my models and make some
You were also talking about NioGold Mining, weren't you?
NioGold is one that we are not currently formally covering, but I
am very positive on the area where the company's properties are
situated in the Malartic and Val-d'Or gold camps, which have
produced about 45 Moz. in a number of past-producing mines. I
think seven are currently operating. It's in Quebec, Canada, and
it's arguably one of the better areas to mine, thanks to generous
tax credits and a government which is very supportive of mining.
The company is in a joint venture with
Aurizon Mines Ltd. (TSX:ARZ; NYSE.A:AZK)
, which has an option on a portion of Niogold's property. To earn
that portion they have to spend $20M on a drill program.
Why is it trading at such a low valuation-only $24-$30/oz. in the
I don't believe small gold exploration companies in this camp get
very much appreciation by the market, but it's a very interesting
project right next to the
Osisko Mining Corp. (
Canadian Malartic property, which is going to be in production in
Q2 of this year. Osisko has roughly a $5.5B market cap, and I am
surprised that NioGold's share price doesn't get more traction
based on that.
It sounds like a takeover candidate with its low
ounce-in-the-ground valuation and market cap.
Well, certainly, it could be a takeover candidate by a company
like Osisko, or maybe Aurizon, with whom they have the agreement
What about another company that you are watching?
I really like
Orvana Minerals Corp. (TSX:ORV)
, which has projects in Spain, Bolivia and Michigan. They all
appear robust-high grades and strong economics. I visited
Orvana's Spanish operations last fall and I was impressed with
what I saw. This company appears to reasonably valued on its gold
production alone, while it should have significant copper
production and also a small amount of silver. I have rated the
company a Spec Buy, and I have a 12-month $5.70 price target on
That represents better than 50% upside from here. What is the
catalyst that would move it?
Well, the first of the company's projects has everything in place
to be in production within a month. This is its Don Mario Upper
Mineralized Zone-a gold, copper and silver deposit in Bolivia. A
second project, El Valle/Boinas-Carles mines (EVBC), should be in
production in the spring of this year. I think those two projects
represent significant catalysts. When the company starts
producing from those projects, I expect it will generate a lot
more attention. The company also has a large copper resource in
Michigan, where I feel the market has not yet recognized the
value of this project. I know we're talking about gold, but
you're basically buying the gold asset for slightly below what I
think are the market averages, and you're getting the copper
asset thrown in for free.
A company that looks similar to Orvana that I don't cover is
OceanaGold Corp. (TSX:OGC; ASX:OGC)
. I wanted to mention that one too because it looks very
interesting based on valuation. It's a very similar story to
Orvana in that it's a gold producer with a large copper project.
The market seems to be giving no value to its Didipio gold and
copper project in the Philippines. It trades at a valuation that
looks attractive based on the gold alone, and the copper asset
doesn't seem to get any value in the market.
Is this a case of investors just not focusing on projects that
are more than a year away?
I think that has something to do with it. If you are near-term
producer and everything is in place, the market gives you close
to a full valuation relative to producing companies. When
production is further out, you get less value-you have less
visibility on that project and projects are especially discounted
when there are questions regarding permitting or financing. In
the case of Orvana or OceanaGold however, when you have a gold
producer that also produces considerable amounts of other metals,
it makes the story a little bit more convoluted, and it's
sometimes difficult to figure out the value.
Matt, I have enjoyed talking with you very much.
Thank you very much, George.
Analyst Matthew Zylstra joined
in 2010 after having worked at Sprott Resource Corp. (TSX:SCP)
and investment counsel firm Foyston, Gordon and Payne Inc., a
unit of Affiliated Managers Group Inc. (
). He is focused primarily on junior precious metals producers,
and he also follows some base metals miners. Matthew has worked
in the finance sector since 1999.
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1) George Mack of
The Gold Report
conducted this interview. He personally and/or his family own
shares of the following companies mentioned in this interview:
2) The following companies mentioned in the interview are
The Gold Report:
Apogee, Aurizon and Barkerville.
3) Matthew Zylstra: I personally and/or my family own shares of
the following companies mentioned in this interview: Avino Silver
and Gold, Ormex and OceanaGold. I personally and/or my family am
paid by the following companies mentioned in this interview:
None, though Northern has done banking business for those
mentioned in the financing section.
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