Amerigo Resources Ltd T.ARG

RE: salman partners....reduced target 1.25

[greatemailslob]

 

Amerigo Resources Ltd. (ARG – TSX – Cdn
.69; Target Cdn$1.25; BUY) – 173.2 M Shares Outstanding

Can generate its current market cap. in a little over two years

Background: At its plant in central Chile, Amerigo extracts copper and molybdenum concentrates from mine tailings, both

fresh and stored, produced by Codelco’s El Teniente mine.

Event: As we reported on March 4, 2010, Amerigo earned US
.03 per share in Q4 2009, in line with consensus

expectations. The company added that "The outlook for 2010, although impacted by the tragic earthquake in Chile, is

exciting, with the restoration of a strong balance sheet currently with a cash balance of [US] $17.9M…”

On March 5, 2010, Amerigo held a conference call to discuss its results and to outline the effects of the earthquake on the

outlook for Amerigo.

The earthquake: Amerigo’s operations suffered no apparent direct damage.

In normal times, Amerigo receives fresh tailings from El Teniente via a concrete channel that continues down past Amerigo

to the ultimate site of disposal. Right after the earthquake, Amerigo obliged El Teniente by excavating an emergency

channel, upstream from Amerigo’s plant, that allowed El Teniente’s tailings to decant into the Colihués tailings pond. This

halted the flow of fresh tailings to Amerigo. Meanwhile, the channel downstream from Amerigo’s plant was damaged by the

earthquake. This prohibited Amerigo from treating stored tailings, because the company would have had nowhere to put

them once it was done with them.

Amerigo reported that repairs to the channels were to have been completed last Friday or Saturday and that, as a result of

the necessity to repair the channels, it would have lost 7 to 10 days’ of full production.

On a wider scale, Amerigo noted that the tsunami consequent to the earthquake had caused more damage to Chile than had

the earthquake itself. So, for example, neither the two metallurgical plants smelters/roasters that purchase all of Amerigo’s

output, nor the roads leading to them, have been significantly affected by the earthquake. But the damage to Chile’s ports

does present the possibility that Chile’s imports of coal and oil could be hindered, with electricity prices running up in

response.

Analysis: We have incorporated into our modelling of Amerigo the information provided by the company last week and

our own commodity and price forecasts as updated on February 9, 2010. To account for the earthquake, we assume that

Amerigo completely lost ten days’ of production, which is probably an over-estimate.

And, of note in Amerigo’s comments was that, after December 31, 2009, “the Company received proceeds of

Cdn$12,013,452 on the exercise of 36,404,400 warrants”.

Our updates produced the following changes in our forecasts of the Company’s EPS and free cash flows per share:

The reduction in 2010’s free cash flow per share reflects the company’s guidance for US$9.3 M capex this year3, and the

other reductions in forecasts of earnings and free cash flow are largely the result of dilution following this year’s exercise of

warrants (see below) and our higher valuations for the Canadian dollar. And, without allowance for a 10-day complete

shutdown after the earthquake, 2010’s EPS and free cash flow per share figures would have each been US
.01/share

higher.

3 We had previously assumed no capex this year. Amerigo pointed out that some of this year’s capital spending was required, and

was sufficient, for it to be able to expand its treatment of stored tailings up to the contractually-permitted level, by Q4 2010.

Valuation: As outlined in the table below, our current estimate of the company’s Net Asset Value per share is Cdn$1.24 per share.

Our current estimate of NAV is below our previous estimate of Cdn$1.80. There are two main reasons for this reduction:

(a) the exercise of 36.40 M warrants, in 2010, at Cdn
.33 per share (which accounts for Cdn
.27/share of the

reduction);

(b) our forecasts of higher levels for the Canadian dollar than we had previously assumed.

With respect to point (a), had we accounted for the exercise of the warrants in our previous valuation of the company, our

estimate of Amerigo’s NAV would then have been Cdn$1.53.

We note that all of the previously outstanding warrants have now been exercised.

Recommendation: We consider an appropriate 12-month target price for Amerigo’s shares to be 100% of NAV, or,

rounding up, Cdn$1.25 per share. However, we would not be surprised to see Amerigo’s share price exceed this figure.

This is because:

(a) the company’s current US$17.9 M (US
.103/share) cash position strengthens our forecast that Amerigo is likely to

reinstitute a dividend in the second half of this year: we expect a Cdn
.051/share payout in 2010;

(b) our forecasts of free cash flow imply that, in little over two years, Amerigo can generate its current market

capitalization.

We retain our BUY recommendation on the shares of Amerigo Resources.

Why so cheap?: During the conference call, several investors remarked that Amerigo’s shares are cheap. That is certainly

what our figures show. Amerigo addressed this issue by opining that, before Amerigo’s share price fully reflects the

company’s outlook, “the market wants to see us continue to deliver the [operating] results” that the company is currently

delivering, after having missed targets in the past.

That dividend: During the conference call, several investors also urged Amerigo to resume payment of a dividend.

We believe that Amerigo should be able to pay a dividend in H2 2010; that it is likely to institute one it; and that such a

move would be another catalyst for improvement in Amerigo’s share price.

Sensitivity: As we noted above, the increases in our forecasts of the Canadian dollar have been a major factor in the

reduction in our estimate of Amerigo’s earnings, free cash flows and Net Asset Value. As shown in the summary table

below, a US
.10 increase in the value of the Canadian dollar would reduce Amerigo’s Net Asset Value by Cdn
.11 per

share.