https://seekingalpha.com/article/2026431-reservoir-minerals-will-freeport-make-its-move-and-acquire-full-ownership-at-timok?source=google_news
Reservoir Minerals - Will Freeport Make Its Move And Acquire Full Ownership At Timok?
Feb. 17, 2014 3:49 PM ET | About: RVRLF, Includes: FCX
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More...)
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Introduction
In this article I'll have a closer look at Reservoir Minerals (OTCPK:RVRLF) which has just released a maiden resource estimate on its Timok property in Serbia, which is subject to an exploration joint venture with senior copper producer Freeport McMoran (FCX). I will start by providing an overview of the project and an explanation how to interpret the resource estimate.
As a lot of people seem to be betting on Freeport making a move to buy out its partner, I will discuss this scenario and why I don't really believe in it. Thereafter I will give a short background on the other exploration assets in Reservoir's stable, where after I will summarize my findings in my investment thesis at the end of this article.
As trading in shares of Reservoir is quite limited on the US exchanges, I'd highly recommend to trade in Reservoir using the facilities of the TSX Venture Exchange where the company is listed with RMC as its ticker symbol. The average dollar volume per day is approximately $400,000, so there's plenty of liquidity for this $225M market cap company.
All images in this article were sourced from the company's website, technical reports and corporate presentation. All direct quotes from press releases and technical reports are written in italics.
Executive Summary
In this article I'll try to calculate the fair value of Reservoir's share of the extremely interesting Timok copper-gold project in Serbia. As there are no economic studies available yet, it's a difficult exercise to determine the value of Timok. I used a very conservative approach based on a fixed value per pound of copper and ounce of gold in the ground.
Timok is very likely one of the highest grade discoveries in the past decade and as such, it deserves a lot of attention. However, contrary to some other junior exploration companies, Reservoir Minerals isn't a one trick pony, as it owns several other promising assets such as the Parlozi zinc-lead-silver project, which is also located in Serbia.
A lot of people are betting on a buyout by Freeport McMoRan, and even though I agree with that point of view in the longer run, I don't think a buyout will happen anytime soon, as I think Freeport would like to have some more reassurance on the resource expansion potential and the economic viability of the Timok project.
I'm not a buyer of Reservoir at the current share price, but the company is on my watch list and I might pick up some shares on a pullback.
The Timok project - a background
The Timok property consists of seven claims in the eastern part of Serbia, in the Balkan area of Europe. As the geological features of the property were extremely enticing, Reservoir was able to attract a quality partner to jointly explore the Timok property. Freeport McMoRan is one of the largest copper miners in the world, has a lot of experience in the quest to find more large copper projects with a decent grade and has been hunting in the Balkan for a while to find the next elephant.
Back in 2010, Freeport McMoRan signed a deal with Reservoir Capital (Reservoir Minerals is a spin-off of Reservoir Capital) whereby it could earn 75% of the Timok property, and an initial 55% by spending $3M in exporation by March 2014. This obligation has obviously been fulfilled, and both companies are now 45/55 partners with Freeport holding the option to increase its interest to 75%. Now Freeport has earned its 55% interest, it may become the operator and may elect to earn an additional 20% interest (75% in total) by (according to the press release in the previous link) 'completing a Scoping Study within four years of reaching the 55%, a Pre-Feasibility Study within eight years and a Feasibility Study within thirteen years. In the event that Freeport decides to withdraw from this second option, its ownership interest in Rakita would remain at 55%, with on-going funding on a pro-rata basis. If Freeport delivers a Feasibility Study and the project goes into production, it would be able to recover Reservoir's share of the cost of the Feasibility Study from 80% of the Company's first cash flow.'
This means that Reservoir Minerals has no further funding commitments until the Bankable Feasibility Study will have been delivered, which I don't expect to happen before 2017.
How should one interpret the resource estimate?
What's very impressive about Timok is that this exploration target was drilled blind. Fortunately some very interesting copper-gold intercepts were intersected which made this blind exploration program a big success. Some encountered intersections were 291.3 meters at in excess of 5% copper (!) and 3.4 g/t gold and longer intercepts of 699 meters grading 0.75% copper and 0.23g/t gold.
In excess of 45,000 meters of drilling has completed, which allowed Reservoir Minerals to compile a maiden resource estimate. This was a very important step for the company as this was the first time it could show its shareholders something relatively tangible instead of just reporting drill intercepts.
This maiden resource estimate showed a total resource estimate of 65.3 million tonnes of mineralized ore at an average grade of 2.6% copper and 1.5g/t gold in the inferred category. To put this in perspective; most copper-gold projects have a grade of less than 1% copper and 1g/t gold. Using a copper price of $3.25/lbs and a gold price of $1250/oz, the rock value per tonne of the Timok project is close to $250/t which should guarantee the viability of this project. The total resource estimate stands at almost 3.8 billion pounds copper and 3.15 million ounces of gold, which already is an impressive result.
As there have been no economic studies, it's not easy to put a value on this project, and the best way to 'calculate' the fair value of Timok is by using an in situ valuation. In the following table I will provide the respective values of the copper and gold using a different value per pound or ounce in the ground. I admit this is completely arbitrary, but at this stage of the project, it's the only assumption we can make. As the entire resource still is in the inferred category, I remained conservative with my values per ounce or pound. The numbers are based on Reservoir Minerals retaining a 25% interest in the property (950M lbs copper and 790,000 ounces of gold attributable).
Copper value (cents/lbs)
Total amount
Gold value ($/oz)
Total amount
0.5
4.75M
10
8M
0.75
7.1M
20
16M
1.00
9.5M
25
20M
1.25
11.9M
30
24M
1.5
14.3M
40
32M
Based on an in situ value of 1.5ct/lbs in the ground and $40/oz, Reservoir's share of the Timok property is estimated at $46.3M. This looks disappointing, but keep in mind this is a conservative assumption as the resources are still inferred. Should the joint venture partners be able to keep the grade stable but expand the resource base by 50% and meanwhile upgrade it to measured and indicated, these would be the results for a valuation based on 3-5 cents per pound of copper in the ground and $50 per ounce of gold.
Copper value (cents/lbs)
Total amount
Gold value ($/oz)
Total amount
3.0
43M
4.0
57M
50
60M
5.0
71M
Even by using 5cts per pound of copper and $50/oz of gold, the in situ value points in the direction of a fair value of $131M. Does this mean Reservoir is overvalued? Not necessarily. Because the entire resource is high grade and because Freeport is its joint venture partner, I am convinced the pounds and ounces deserve a premium, and I'm also convinced a scoping study or PEA would show very interesting economics. This means that Reservoir Minerals should trade at a premium, and a $225M valuation is indeed a bit optimistic in this current stage (as we have no information about the viability of the project), but as the Reservoir/Freeport JV continues to de-risk the project, it could be worth much more. That's why I'm looking forward to any economic study on this project, as I think it might positively surprise a lot of investors as the resource model is based on an operating cost of $46/tonne (keep in mind the rock value is approximately $250/tonne, and the recoverable rock value per tonne will be close to $200/t based on a 90% recovery for copper and 75% for gold).
Keep in mind the inferred resource estimate of the high-grade zone with an average grade of 9.6% copper and 5.9g/t gold is one of the highest grade copper-gold resources in the world.
Will Freeport buy Reservoir out?
The main question is whether or not Freeport will make a move to acquire 100% of the asset and if that's the case, will Freeport pay several hundreds of millions of dollars?
Let's start with the current situation. Freeport owns 55% of the project, and it could acquire another 20% by completing a feasibility study and bringing the project into production. If Freeport would make a move to acquires Reservoir's interest now, a price tag of $330-350M for a 45% interest isn't really paying through the nose. However, the executives at Freeport's headquarters will obviously use a trade-off analysis to determine if it would make sense to reach the 75% mark first. I think it would, as by increasing its interest to 75%, Reservoir's stake gets diluted and on top of that, Freeport will have more certainty about the eventual size of the deposit as well as the economics of a potential mine there.
However, if Freeport continues to intersect thick copper-gold intercepts, it will obviously increase the resources and thus the NPV which might make Reservoir's stake more valuable. So the guys at Freeport will have to play this round of poker quite smart.
I personally do believe that Freeport will eventually consolidate the ownership of the asset to simplify the structure, but I think this will only happen after the results of a PEA/Scoping study and/or another resource increase. I think this move will occur after Freeport sees there's potential for 7-8 billion pounds of copper at Timok, which is not unthinkable.
Long story short, I do believe Freeport will buy out Reservoir Minerals (or purchase its stake in Timok), but I don't expect this to happen this year, as Freeport will very likely want to de-risk the project further before coughing up $300M+ to acquire Reservoir Minerals.
The other irons in the fire
Reservoir Minerals isn't a one-trick pony, and has several other exploration assets in Europe and in Africa. In this paragraph I'd like to highlight some of the other promising exploration assets.
1. Deli Jovan
The first one is the Deli Jovan gold project, which is currently subject to a joint venture agreement with London-listed Orogen Gold. The property was subject to a limited drill program in the fall of last year which returned intercepts such as 0.5 meters at 102g/t gold and just over 5 meters at in excess of 3g/t. Whilst these results don't excite anyone, it's encouraging to see gold mineralization has been intersected, and further exploration work is warranted.
(click to enlarge)
According to the company (see first link of the paragraph), there is evidence of mining dating from the Roman times at Deli Jovan, and more recently, the mine was operated until the second world war. According to historic reports, the average grades were between 10 and 100g/t of gold mined from veins with an average width of 2.5 meters.
There are no official reports about the total production at Deli Jovan, but historic estimates are using a total historical production of 625,000 ounces of gold.
2. Parlozi
A second project I'd like to highlight is the Parlozi silver-lead-zinc project which is also located in Serbia. The mineralization was -according to the NI43-compliant technical report - actually discovered during the roman times and over the course of the subsequent two millennia other exploration has taken place. I specifically like this property because there's a historic resource estimate of 6.5 million tonnes containing in excess of 26 million ounces of silver and almost 900 million pounds of zinc and lead for a total in-situ value of $1.25B. The property has recently been opted to Midland Minerals which can, according to this press release earn a total interest of 75% in the property by satisfying the following conditions, as stipulated in the letter of intent. 'Midlands may spend $4.5 million in exploration over four years to earn an initial 51% interest in the project, of which the first year expenditure of $500,000 is a firm commitment. Thereafter, Midlands can earn an additional 14% interest over two years by obtaining a Mining Exploitation Permit from the Serbian Government and a further 10% (for a total of 75%) by completing a Bankable Feasibility Study within two years of obtaining the Mining Exploitation Permit.'
I specifically like the fact that the Parlozi project has a historic estimate (compiled by Yugoslavian geologists, so there are no estimates based on NI43-compliant guidelines), and the confirmation drilling by Reservoir Minerals seems to confirm the historical work as the company drilled 8 meters at almost seven ounces per tonne of silver and 11.5 meters at in excess of three ounces per tonne in the past. On the negative side, there is a 3% NSR payable to the Serbian government, which limits the potential to fund capex in a later stage by selling a royalty on the project.
And besides the old adits and shafts on the property, the local logistical infrastructure is every mining company's dream. According to the technical report, Parlozi is readily accessible by asphalt road from Belgrade and each prospect area on the property can be accessed by forest roads, which are directly connected to the asphalt roads. There's a railway located just six miles away from the property and this is extremely important because I think the end-product of a potential mine at Parlozi will very likely be a silver and zinc concentrate, and railing will probably be the most cost-efficient route.
Investment Thesis
Even though most of the attention goes to the extremely exciting Timok discovery, it would be wrong to look at Reservoir Minerals as being a one-trick pony. The company could best be described as a prospect generator as it has successfully signed joint venture agreements with other companies to explore on Reservoir's properties. I'm especially in awe of the Parlozi silver-lead-zinc project in Serbia, as this specific project looks very interesting.
A lot of people are speculating on Freeport buying Reservoir out. I think this will very likely happen in the future, but I'm not counting on it to happen within the next 12 months. Even though the current resource estimate stands at 3.8 billion pounds of copper and in excess of 3 million ounces of gold, I think Freeport will want some more reassurance about the potential to expand the property and about the economic viability before consolidating the ownership of the asset. So whilst I don't think Freeport will acquire the remaining 45% of Timok in 2014, I think it's definitely something which is bound to happen in a later stage.
I have no intention to buy Reservoir Minerals at the current share price, but I would very likely initiate a position at a lower share price of around $3.5-4 should the share price ever reach those levels again. I'm convinced the Timok project will be a mine one day, as it has sufficient pounds and ounces, and it's one of the highest grade copper-gold discoveries in the past years and maybe the past decade.
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