PARADIGM 8.75$ TARGET 22 JUNE 06Target Price Increased to Reflect Growing Resources
All figures throughout this report are in US$, unless stated otherwise.
• With the release of more drill results earlier this week, we now
believe that the 70%-owned Corani property resource has
grown from the published 250 Moz to 350 Moz+.
• This note examines a number of methods to value this asset,
an inexact science given the lack of metallurgical assessment
(expected July/August) or scoping study (late-Q3/FY06).
• We maintain our Speculative Buy rating, and have raised our
target price to C$8.75 (was C$7.15) to reflect our expectations
of the growing silver resources.
Earlier this week, Bear Creek announced additional drill results from its
70%-owned Corani silver project in southern Peru. Refer to our June 16th research note for a detailed discussion of those drill results. Size aside, two other near-term
events are likely to shape Corani’s economics: an independent metallurgical
assessment due in late July-August and a scoping study expected to be completed
by end of Q3/FY06. These will give us a much better sense of the project
economics. That being said, we have examined a number of methods to gauge a
sense of valuation now. We have assumed that the next resource estimate (which
will presumably form the basis of the scoping study) is likely to show the Corani
resource at 350 Moz of silver, up from the current 250 Moz.
Method #1: Value per Ounce
After examining a number of silver companies, ranging from advanced explorerdevelopers
to producers, we have observed a wide range of market cap per-ounce
valuations, ranging from less than $0.50/oz for “troubled” stories such as IMA
Exploration (a lawsuit overhangs the ownership of the project, plus the metallurgy
still remains as a big unknown), to $2.00-$2.50/oz for silver producers (e.g. Pan
American), and up to $4.00/oz or more for some of the “hotter” exploration stories
with good momentum. A continuing problem when trying to compare silver
deposits is their polymetallic nature. There are almost no “pure silver” deposits, so
some are gold-silver, some are lead-silver or zinc-silver. Depending upon the
nature of the ores, these by-product metals could be significant to the economics of
the project.
We have chosen to use a $1.50/oz value, which we feel is reasonable relative to
the differing types of peers. Corani looks, at this stage, to have average-ish costs.
It is a much larger than average deposit, which usually commands a premium, but
it is also located in Peru at high altitude, which we assume offsets its size. The US$1.50/oz is also very close to where an average gold explorer-producer is now
trading, comparing gold and silver on an equivalent-basis. For our assumed
350 Moz, we calculate a value of C$8.85/sh (diluted, in-the-money shares), based
on Bear Creek’s 70% share, and adjusted for cash received for in-the-money
option conversion, and remaining acquisition and success payments due to Rio
Tinto.
Table 1: Paradigm’s NAV Assumptions
Paradigm Base Case
Resource Est of Mineable
Moz Silver 350
gpT 68
Capital Cost (100%) US$424m
Primary Mining Method Open Pit (100%)
Mine Life 15 years
Daily Mill Throughput (tonnes per day) 29,500
Processing Recovery 75%
Oper Cost/tonne ore Mining $3.00
Milling $6.00
Gen & Admin $0.75
Total cash cost/tonne ore $9.75/tonne
Base metal credits, net -$3.62/tonne
Net Cash Cost/tonne $6.13/tonne
Long Term Cash Cost/oz production $4.16/oz
including Royalties $4.78/oz
Annual Production at full capacity (100%) 17.5 Moz/yr
IRR after Tax @$10/oz 15%
IRR after Tax @$12.50/oz - Base Case 23%
Pre-Project Financing
NAV @ 5% C$/share at $10/oz C$4.48/sh
NAV @ 5% C$/share at $12.50/oz - Base Case C$8.69/sh
100% Equity Financing at Market
NAV @ 5% C$/share at $10/oz C$4.71/sh
NAV @ 5% C$/share at $12.50/oz - Base Case C$6.46/sh
Method #2: A Rough NAV Estimate
With no scoping study, there are no details with which to build a detailed NAV
model of the Corani deposit. So instead, we have modeled a non-detailed, rough
estimate of NAV based upon “rule-of-thumb” estimates we use for broad-brush
estimation of gold deposits prior to scoping studies. We have estimated
construction capex of ~US$60/oz of gold-equivalent resource, a 15-year mine life,“reasonable” mining, milling, and G&A costs. Another critical assumption is that
silver process recoveries will average 75%.
Corani generates a robust 23% IRR after tax at our assumed US$12.50/oz price for
silver, despite our fairly conservative cash cost assumption of US$4.78oz of silver.
Prior to financing, we estimate an NAV (5% discount rate) of C$8.69/sh (diluted, inthe-
money shares).
The figure for post-financing depends greatly upon your assumption of the
financing: the number can be “engineered” into quite a broad range considering we
estimate that Bear Creek’s 70% share of the capex financing could run close to
US$300m – half again as much as the current share capitalization of the Company.
Assuming 100% equity financing at close to the current share price, the postfinancing
valuation would be C$6.46/sh, although this is somewhat academic, as
we do not expect the company to be raising US$300m in the near future.
Discussion of Rio Tinto’s Back-in Rights
One possible overhang to Bear Creek is that Rio Tinto has back-in-rights to the
Corani property. Details of remaining payments and back-in-rights are:
�� US$2.0m payment due by January 19, 2007, and a final US$3.0m
payment due by January 19, 2008 to earn 70%.
�� Following Bear Creek's earn-in, Rio Tinto has a 90-day period within which
it may offer to sell its 30% interest to Bear Creek for an additional payment
of US$5m, or continue under the joint venture terms.
�� Once Bear Creek has earned its 70% interest the project will operate as a
joint venture with standard dilution clauses and Bear Creek will maintain a
first right of refusal in the event RT decides to sell its interest to a third party.�� Bear Creek will pay, pro-rata to Bear Creek's interest, Rio Tinto "success
payments" of $1.10/oz of gold and $0.015/oz of silver, based upon
recoverable ounces defined in a bankable feasibility study.
�� Bear Creek will pay Rio Tinto $5m for each event that the recoverable
resource exceeds 1 Moz gold or 100 Moz silver.
�� Rio Tinto will hold a back-in right to acquire 60% of the project by
reimbursing Bear Creek three times its pro-rated exploration expenditures
should economic resources exceed 5.5m tonnes of copper and/or 10 Moz
gold or gold-equivalent in exchange for providing Bear Creek a full 40%
deferred carried interest through project construction (on which interest will
accrue at LIBOR +4%, and be paid from cash flow from the operation).
It is pretty clear that the “set payment” of US$5m for Bear Creek to purchase the
remaining 30% interest is almost assuredly NOT going to be what happens. Even
if Rio Tinto wishes to sell the interest, we would assume they would continue with
the JV and sell at another (higher) price to be determined.But how likely is it that Rio Tinto will back in to this project? First of all, they cannot
do so unless a bankable feasibility study identifies a deposit with economic ounces
of 10 Moz of gold or gold-equivalent – this would be 550-600 Moz of silver, so
considerably larger than the current resource of 250 Moz silver and even our
350 Moz silver estimate. Rio Tinto also has a back-in-right if 5.5m tonnes of
copper are outlined, but so far there has been essentially no copper mineralization
identified. To our understanding, the lead and zinc identified at Corani do not count
towards gold-equivalent ounces. Secondly, Rio’s rate of return might not be high
enough unless it is willing to use a silver price over US$10.00/oz. At this silver price
our analysis generates a 15% after-tax IRR to Rio and