The investment analysis below is our sixth in our ongoingseries of guest write-ups, and is brought to you by friend of the blogJared Levin of A R Schmeidler & Co. We came across Jared’soutstanding recent write-up about a month ago, and frankly had to rubour eyes a little bit after our first read through (its not very oftenwe come across asymmetrical risk/reward opportunities like Yukon). AsJared said, “after my first meeting with management I must have had alook on my face like I was stealing candy from a baby.” Indeed! Afterdoing our own dd we felt the same way 
(and have been buying ever since).
Anyhow, for those of you out there scouring the markets for 1) anincredibly attractive bottom up “bargain” so to speak, and 2) an idealmacro hedge, then taking a deeper dive into Yukon Nevada will certainlybe worthwhile in our humble opinion.
Enjoy!
[NOTE "UPDATES" AT BOTTOM OF WRITE-UP]
Yukon-Nevada Gold Corp:
(YNG.TO; NG6 (Frankfurt); YNGFF):
.25
12-Month Target Price: $1.00 (+300% / 4x)
24-36-Month Target Price: $2.50 (+900 % / ~10x)
Company Web Site: https://www.yukon-nevadagold.com/s/Home.asp
Company Power-Point: https://www.yukon-nevadagold.com/i/pdf/YNG_10_05_17.pdf
Sell-Side Research Coverage: None
Summary:
- Yukon-Nevada (“YNG”) is a deeply under-valued US-based small-cap gold miner with operations in Nevada, USA and British Columbia, Canada
- YNG is in the later phases of a turnaround:
- Company was previously mismanaged, leading to loss of environmental permits and a liquidity crises
- Today, company is newly-recapitalized and under the leadership of a proven turnaround CEO:
- In 2009, a Swiss group along with Eric Sprott put $60 million into YNG and installed new management
- Most operating permits have been re-instituted and YNG is executing on a court-supervised consent decree that spells out all of the remaining steps that YNG must take to become fully-compliant; YNG currently permitted to run at 75% of capacity, with remaining permits expected soon; note that future environmental liability is capped and constrained by the limits specified in the consent decree
- YNG re-commenced operations in October 2009 and recently achieved 150k oz/year operating rate
- Under low-risk expansion plan (based on the re-starting of existing mines and the milling of stockpiled ore), YNG’s production will grow from 150k oz per year over the next 12 months to ~400k oz in 2012 at a cost of ~$450 per oz
- No new equity issuance will be required to finance growth
- Company is currently finalizing $40mm loan and forward gold sale to finance re-opening of existing mines
- Free Cash Flow is expected to be over $75 million over the next 12 months at current metals prices, rising to $250-300 million-plus by the end of 2012 at current metal prices
- This is against an adjusted market cap of approximately $145mm
- Market does not yet appear to be aware of the progress of YNG’s turnaround:
- Company is currently net-debt-free trading at an adjusted market cap of $145 million—or 2x NTM free cash flow, and <1x expected 2012 FCF
- Mid-cap gold miners typically trade for 10-15x operating cash flow
- YNG is also trading at a market cap per resource oz of gold of approximately $35 per oz compared to a peer average of $150-200 per oz (peer group comprised of Alamos Gold, Aurizon Mines, Centamin Egypt, Kingsgate, Kirkland Lake, Mineral Deposits, Capital Gold and Semafo)
- There are multiple upcoming positive catalysts for YNG (see below) that will unfold over 2H 2010 that should quickly lift YNG closer to fair value
- Near-term price target of $1.00, or 6x NTM FCF should be realized fairly quickly as market becomes aware of the progress of YNG’s turnaround
Note: If YNG were re-valued to simply trade on a market cap/resourceoz in-line with its peer group, YNG would currently be valued at$1.25-1.50/share
- Longer-term price target of $2.50 represents <10x 2012E FCF at current metals prices
Upcoming Catalysts:
The following catalysts will all be material positives for YNG andwe believe have a very high likelihood of materializing when and asdescribed:
- July 2010—Announcement confirming achievement of operational steady-state production of 150k oz per year at a cost of approximately $450/oz
- 3Q 2010—Completion of $40mm debt issuance/forward gold sale to finance expansion of Jerritt Canyon operations with the re-starting of the SSX/Steer underground mine (operations to re-commence in early 2011)
- 2H 2010—Announcement of multi-year contract/JV with Newmont Mining (NEM) and/or Barrick Gold (ABX) and/or other regional producers for purchase and processing of stockpiled medium-grade ore through YNG milling and roasting facilities
- 2H 2010—Announcement of drilling results as YNG executes on its planned $5 million 2010 exploration program on its Jerritt Canyon property
- 2H 2010—Announcement of settlement of 2 lawsuits brought by former employees and outsourced engineering firm, both of which were terminated by current CEO (note that bid/ask for the two settlements currently at a combined total well under $10mm; initial hearings have all been going in YNG’s favor)
- Q4 2010—Announcement of updated 43-101 resource estimate which should substantially increase YNG’s resource base, while converting a large portion of existing resources into reserves
- Last resource update by the Company was based on drill results through 2007 using an assumed gold price of $520/oz
- Updated 43-101 will be run using a 3-year average gold price of $1,000 (making a much larger portion of their mines economic, and thus expanding recoverable resources and reserves) and will also include drilling results from the last 3 years plus results from YNG’s current $5 million drill program
- Note that YNG has historically converted resources into reserves at a 120% rate
- 2H 2010 / 1H 2011—Potential re-initiation of sell-side research coverage. Note that several analysts used to cover YNG prior to the management turnover and permit suspension in 2008/2009. Current management believes that some former analysts would consider picking up coverage again after YNG announces that they have returned to 150k oz production (note that there is significantly less visibility on this specific catalyst and it is beyond management’s control)
Background:
YNG’s Jerritt Canyon property based in Nevada, USA has produced 8million oz of gold since 1981. Prior senior management was weak and in2008, production was suspended as a result of environmental violationsand a lack of liquidity. As just one example of prior management’sincompetence, the Jerritt Canyon property at the time of shut-down wasoperating with over 500 employees while current management is runningnearly the same throughput was fewer than 150 employees.
In early 2009, a Swiss shareholder group saved YNG from declaringbankruptcy by injecting an emergency overnight financing. Over thenext several months, this same Swiss Group along with Eric Sprott ofSprott Asset Managementput nearly $60 million into YNG, fired the old management team andengineering firm that was assisting with operations and brought in a newCEO named Robert Baldock who has a 30-year track record of overseeingturnarounds in the mining sector. Since taking over, new managementhas paid down the Company’s debt, made key maintenance investments toupdate machinery and equipment and come to a court-overseen consentdecree with the Nevada Division of Environmental Protection (NDEP) thatallowed the re-start of its facilities in October 2009.
Jerritt Canyon is located just Northeast of the prolific CarlinTrend in Nevada. One of its key assets is its roasting capacity usedto process sulfide ore. Currently there are only 3 roasting facilitiesin Nevada, owned by YNG, Barrick Gold and Newmont. There will likelynever be another roasting facility permitted in Nevada due to theirlack of popularity with environmentalists. With roasting capacitylimited, producers tend to process only their highest-grade ore, whilestockpiling their low and medium-grade ore. In NEM and ABX’s case,they have over 100mm tons of ore combined sitting in Nevada that maynever get processed that is listed on their balance sheets as assets.Eventually they will be forced to write-down that ore as liabilities ifthey cannot demonstrate to their auditors that there is any chance ofprocessing it in the foreseeable future (there are also environmentalclean up costs associated with it). Although under prior management YNGoften processed ore on a tolling-fee basis for Newmont, currentmanagement is focused on securing a long-term profit-sharingore-purchase contract to acquire additional mill feed stock.
Operations
YNG’s wholly-owned Jerritt Canyon property is 120 square miles with 3current / former operating gold mines—the Smith mine, SSX/Steer andStarvation Canyon. The Jerritt mill is engineered to produce 6k tonsof ore per day. Currently permits are in place for ~4.3k tons per dayof ore throughput. YNG is currently completing stacking tests thatshould soon allow permitted throughput of 6k oz/day, which is thecurrent engineering-rated capacity. Over the next 12 months, YNG plansto process 3k tons per day (at an average grade of 0.15-0.20 oz/ton,translating to >150k oz/year), with roughly half of the ore comingfrom YNG’s Smith mine and the other half coming from a stockpile of oreon YNG’s property. Over the next few years, as YNG’s SSX/Steer andStarvation Canyon properties come online, YNG would like to be supplying50% of production from its own mines, or roughly 3k tons per day,which would still leave capacity of at least another 3k tons per dayfor entering into JV/purchase transactions to process and roast andsell the low-to-medium grade stockpiles of neighboring mines such asfor Newmont and Barrick. Management is confident of being able to signsuch an agreement by year-end 2010.
Over the next 12 months, if YNG is successful at producing in excessof 150k oz at their targeted cost of under $450 per ounce, cash fromoperations would exceed $105mm and FCF would approximate $75mm. Overthe next 24-36 months, if YNG successfully re-opens its SSX/Steer andStarvation Canyon mines along with an ore-processing arrangement withone or more of its neighbors, then daily throughput should average 6ktons at average grades of 0.20 oz/ton, which would result in annualproduction of close to 400k oz (including regularly scheduledmaintenance stops). (Note that YNG is considering restarting its wetmill for the processing of oxide ore, which would add additional millthroughput capacity of 5k tons per day—this would be upside to theassumptions described immediately above).
YNG also owns a mine at Ketza River in the Yukon Territory ofBritish Columbia. Ketza River is a former producer with much of itsinfrastructure in-place that was closed down in 1990 when it becameun-economic to mine (at ~$300 gold prices). In May 2010, YNG raised$10mm of flow-through financing for Ketza River and plans to commitanother $11mm out of FCF to have a 60k oz/year mine up and running bysometime in 2012 (note that Ketza River was producing 100k oz/year whenit was closed down in 1990). The mine would have a cost profile ofless than $300 per ton and would be capable of generating approximately$50mm of annual FCF. This would bring 2013 production for YNG to400-450k oz, assuming no contribution from incremental oxide processingcapacity, acquisitions or contributions from further successfuldrilling and mining on YNG properties.
Conclusion:
Yukon-Nevada is substantially under-valued but no one is yet payingattention. Many investors were burned by prior management and arestill stewing. In addition, the market cap is small and with largeinsider ownership (greater than 60%), there is limited float. There isalso no sell-side research coverage. Because of these factors, thereis a window of time for opportunistic investors to perform theirresearch and come to a view on YNG. This window is likely to begin toclose in July when the company announces it has achieved steady-stateproduction of 150k oz. The reward for moving in early on YNG could besubstantial, as a non-demanding multiple of under 10x 2012/2013 FCFwould suggest a 10-fold return for the stock over three years.
UPDATES:
July 24, 2010
Some recent news on YNG, all generally supportive of thesis:
July 22: Company announces hiring of new Chief Geologist andoutlines 50k foot drilling program for 2010, designed to extend therun-rate of 150k ounces of production (fed by their own mines, asopposed to purchased-ore from neighboring mines) from 4 years to 7-8years(https://www.yukon-nevadagold.com/s/NewsReleases.asp?ReportID=410285&_Type=&_Title=Yukon-Nevada-Gold-Corp.-Announces-The-Recommencement-Of-Exploration-Drillin…) (Note: I believe their is still a second press release expected inJuly confirming they have achieved 150k oz of run-rate production intheir mills)
July 20: Boutique firm Byron Capital Markets launches on YNG with a Strong Buy and
.50 price target
July 13: YNG announces $25mm forward gold sale financing to Eric Sprott’s Sprott Asset Management (https://www.yukon-nevadagold.com/s/NewsReleases.asp?ReportID=408905&_Type... )
July 6: Boutique firm Hallgarten & Co initiates coverage of YNG with a $1.50 price target
Variant View:
As described above, the market has not revisited YNG since itsdifficulties under prior management. It is only due to the fact thatwe meet so many small-cap gold mining management teams each year thatwe were fortunate enough to be introduced to YNG’s new management,otherwise we would be in the dark as well as to the progress they aremaking
Note however, that upside case requires successful execution bymanagement that at times may face set backs and not progress in astraight line.
The gold price is near an all-time high in US$ terms and couldeasily face a 10-20% correction beginning at any time. Note thatdespite having a substantial margin-of-safety, it is not uncommon forsmall-cap gold mining stocks to sell off, sometimes significantly, onany pull-back in the price of gold.
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