In valuation terms, for companies engaged in the gold exploration business, the market draws the distinction between the pure exploration plays and resource development projects and will attribute enhanced valuations to those with a defined timetable to production. Well, that’s the theory anyway but the lines are often blurred.
One thing is for sure though; in the current high price environment for gold, the returns from production are becoming increasingly attractive. And this will play in the favour of those with production in their sights. And if that production can be achieved at reasonable cost, where a well-defined high quality resource exists, then better still!
This brings us onto the subject matter of this article, Kryso Resources.
Kryso Resources owns 100% of the mining rights to the Pakrut gold project in Tajikistan. In April this year, Kryso released its latest mineral resource estimate stating that Pakrut contains 3.58Moz of JORC-compliant gold. Of this 1.49Moz is “measured”, reflecting the higher quality of exploration work done to prove up the resource and ensure good quality feed into the process in due course.
The value in this stock for investors is clear. We believe the market hasn’t yet recognised quite how close Kryso is to realising its ambitions. When it does, we expect the company to undergo a significant market re-assessment delivering a rating more appropriate to a company with a very substantial resource and a short term goal of significant gold production.
Some Key Statistics to begin with….
Assessing the value of Kryso requires initial understanding of some key facts about the company and its stock.
Kryso is debt-free with cash of around US$16.6million as of December 31st 2010
At 14p Kryso’s current market cap is approximately £37million with 266.91million shares outstanding.
In April 2011 Kryso announced JORC-compliant reserves of 3.58Moz of gold.
Kryso’s Management and Operations in Tajikistan
Listed on AIM (LON:KYS), Kryso’s operations are spread across two projects in Tajikistan:
1. Pakrut gold project – The flagship project with reserves of 3.58Moz of JORC-compliant gold. Kryso is now targeting production here in 2013. Additionally the company has identified further targets for exploration within its Pakrut license. For the sake of this Value Proposition, we will focus our attention on this project.
2. Hukas Ni-Cu nickel and copper project – While most attention has been paid to Pakrut, work has continued at Hukas Ni-Cu in the form of a topographical survey, geological mapping and surface sampling. Kryso has two years left on a seven year exploration license.
Within Tajikistan borders 93% of the land is mountainous with altitudes ranging from 300m to 7500m. Nearly half of the country is at an altitude in excess of 3000m. The country offers excellent geological prospects and has numerous precious metal mines.
On the face of it Tajikistan may not appeal as the ideal environment in which to do business. The country underwent a civil war from 1992-1997, which was damaging to its infrastructure. It is also considered the poorest of the 15 ex-Soviet states and features towards the bottom of the global corruption index.
But one should take care with general assumptions, particularly when viewed from far flung locations without the benefit of local knowledge. As far as mining operations are concerned, such risks are best assessed in relative terms.
Moreover for Tajikistan, in general there are signs of improvement and increased stability. NATO’s intervention in neighbouring Afghanistan has brought international attention to bear on Tajikistan. With this has come economic development and security assistance. Tajikistan is seeking WTO membership and has joined NATO’s Partnership for Peace programme. Electricity output was expanded in 2009 with the completion of the Sangtuda-1 hydropower dam and the Sangtuda-2 is due for completion in 2012. An even larger dam, at Roghun, is being constructed and, if finished, it will be the world’s tallest.
While general stability and reliable power matter a great deal to Kryso, Tajikistan’s relationship with China is most significant to their operations. The Chinese have provided the Tajik Government with substantial infrastructure development loans to improve roads and electricity transmission.
It’s not hard to work out why; a landlocked neighbour, potentially rich in minerals, Chinese expectations are pragmatic as always. Tajikistan will be a significant supplier of raw materials including precious metals. This could also provide Kryso with direct access to a major market.
In this context Kryso’s approach to working in Tajikistan seems sensible. The company has a policy of employing key staff locally and has gone to great lengths to embed itself in the country. According to Kryso's website, Mr Abuali Imatov, a Director and shareholder (owning 7.1million shares), is a “prominent local businessman”, who has played a key role in the management of numerous companies established in Tajikistan with foreign investment. Tajiks also occupy key management positions.
Additionally Kryso’s board includes Chinese representatives from the company’s two major shareholders China Nonferrous Metals International Mining Company Ltd (29%) and Golden Max Group Ltd. (13%).
Pakrut
The Pakrut gold project lies in the southern portion of the Tien Shan Gold Belt, a prolific area of gold projects. The Tien Shan Gold Belt contains the world’s second largest known gold resources after the Witwatersrand in South Africa. It extends from near the Aral Sea through to Mongolia. It is about three and a half hours drive from Dushanbe, the Tajik capital.
LLC Pakrut, a wholly owned subsidiary of Kryso, has a 6,300 hectare exploration and trial mining license until April 2014 in Pakrut. In their 1st September update the company advised that LLC Pakrut has applied for a licence that will allow it to mine up to a maximum rate of 660,000 tonnes per annum for 20 years. All environmental, geological, reserve and ministerial approvals for the application have been obtained and the application is currently awaiting final Tajik government approval at presidential level.
Progress at Pakrut has been impressive. Since 2005 Kryso has drilled 27,250metres. Significant mineral intercepts were found at 15 of the 16 drill holes it created. A bankable feasibility study was released in October 2010. This was followed by a second report in April 2011, which increased the estimate of JORC-compliant reserves of gold to 3.58Moz. These figures are broken down in the tables shown.
Next steps at Pakrut and additional exploration targets
Kryso has estimated it needs approximately US$108million for development of mining operations at Pakrut. The plan is to raise this through debt financing. In their latest update they also announced that The Beijing General Research Institute of Mining & Metallurgy ("BGRIMM") is in the process of finalising detailed designs for construction of the Pakrut mine and Kryso is ready to begin mobilising further equipment to site and upgrading the road to the project. In addition, the Company has issued a tender for the construction of the mine and received in response proposals from four large Chinese construction companies. The Company is now in the process of negotiating the terms of the bids with each of the four construction companies.
The Company had anticipated that construction would commence at Pakrut during the second half of 2011 and that production would begin by the end of 2012, however this timetable has been impacted by the fact that it is taking longer than expected to receive the Pakrut mining licence from the Tajik government. Issue of the mining licence is required before the finalisation of mine finance and commencement of construction can occur. The recent developments suggest that Kryso is now targeting the commencement of production in 2013.
In addition to Pakrut Kryso has also identified five additional targets within its licensed area for prospecting. These include;
- Eastern Rufigar
- Central Rufigar
- Upper Rufigar
- Sulfidnoye
- Surmyanoye
These targets do open up the possibilities of further significant finds. In the company’s latest update they announced that a total of 18 drill holes have been completed within Kryso's Pakrut licensed area so far this year, and five core drill rigs are currently operating. Two holes have been drilled at Pakrut, six holes at Eastern Pakrut, four holes at Central Rufigar and six at Upper Rufigar. Currently three drill rigs are operating at Pakrut, one at Eastern Pakrut and one at Central Rufigar.
Kryso’s model for extraction
Helpfully, Kryso has published its forecasting model for mining operations at Pakrut. The first bankable feasibility study was completed by the Beijing General Research Institute for Mining and Metallurgy (“BGRIMM”) in October 2010. They estimated the mine life would be 14 years with average gold production of 82,000 ounces per annum over the first 4 years
They also anticipated that the life-of-mine operating costs would be US$377/oz.
At a US$897/oz gold price the project is expected to have:
- NPV (10%) of US$121 million
- IRR of 40%
- Payback period of 3.0 years
At a US$1,250/oz gold price the project is expected to have:
- NPV (10%) of US$227 million
- IRR of 58%
- Payback period of 2.7 years
These figures are before tax and any allowance for anticipated debt financing. Although Kryso believes that optimisation of the project prior to construction is expected to result in improved economics, they have not stated explicitly how this will be achieved.
One point worth noting is that the last time the price of gold was at US$1,250/oz was in September 2010. In the current climate most analysts expect gold to keep rising as international investors continue look to gold to preserve their wealth from the attrition of global economic conditions. As long as the price of gold remains high, this disparity between the forecast model and gold’s spot-price will continue play to Kryso’s significant advantage.
Metallurgical Testwork
In June Kryso engaged BGRIMM to complete additional column leaching metallurgical testwork on low grade ores at the Pakrut deposit to ascertain whether these ores are amenable to processing using a heap or dump leach pad. The results of this testwork are also expected before the end of the calendar year.
Bringing in SRK
In the recent update the company also advised that in August Kryso appointed SRK Consulting China Ltd ("SRK") to carry out the following work with respect to the Company's Pakrut project:
Review and assess the ore body resource models and provide an updated JORC compliant resource estimate;
Use mining design software to simulate the mining models and convert qualified resources into JORC ore reserves using the existing resource model and feasibility study; and
Complete a resource and reserve assessment to review and assess all other technical aspects of the project, such as mine assessment, mining methods, ore dressing experiments, ore processing plant scheme, design of tailings storage facility, environmental and production safety issues, and mine economy amongst others.
SRK completed a site visit in August and the results of the resource assessment and JORC ore reserve estimation are expected to be available before the end of the calendar year.
China Nonferrous Metals International Mining Company Ltd and Kryso
On 23rd November 2010 China Nonferrous Metals International (“CNMIM”) invested £11million into Kryso for 73.33million shares, taking a 29% stake in the company. This deal was done at 15p a share and is extremely significant for the future prospects of Kryso.
CNMIM is owned by China Nonferrous Metals Company Limited (“CNMC”). CNMC, one of China’s largest state owned mining and engineering companies, was founded in 1983 and is a pioneer in Chinese investment in overseas mining. In recent years the company has been on a globally aggressive expansion spree, funded by insatiable Chinese demand for raw materials. CNMC has at least 36 domestic and 26 overseas investments. Of particular note is its ownership of over 20 million tonnes of resources, 14 mines, 5 smelters and 4 overseas listed companies across Asia, Africa and the Middle East
CNMIM, itself, was established in 2002 and is a developer of nonferrous metal mineral resources and is involved in investment, mining operations, geological surveys, trading and technical consulting services. CNMIM has projects in Zambia, Tajikistan, Kyrgyzstan, Australia, Laos and China. Three of CNMIM’s investments are in publically listed companies.
Most of the value of this deal to the development of Kryso is obvious. According to Kryso’s management CNMIM bring both substantial technical expertise and experience as well access to capital to enable the development of Pakrut. Strategically this makes sense.
However there is another interesting feature of this deal. Under the agreed terms CNMIM was also issued 73.33million warrants entitling the company to subscribe for a further 73.33million ordinary shares at 21p.
CNMIM has three years within which to convert the warrants. If and when CNMIM choose to exercise these warrants is a matter for that company to decide, although we acknowledge that the combination of having such a strong partner with such a significant interest is bound to generate some debate as to their ultimate ambitions. However, the depth of their interest also speaks volumes with regard to Kryso Resources inherent value.
In an investor presentation on June 22nd, Kryso’s management pointed out that CNMIM place “great value on maintaining the public listing of its investments, including possible progression to larger trading platforms. This strategy aims to ensure diversified funding and liquidity options for the further development and growth of its investments”. We feel this is relevant, given the outstanding Kryso warrants held by CNMIM.
The strike price for the warrants is also encouraging, anticipating 33% growth in Kryso’s stock above the initial investment.
Capital requirements for Pakrut
The importance of CNMIM’s investment in Kryso is most apparent in its transition from explorer to producer. This process is costly and can represent one of the greatest business risks an explorer faces. Even with evidently exploitable assets, it is by no means a given that an explorer will be always able to raise sufficient capital to allow mining or drilling operations to begin.
As mentioned, Kryso estimates that it will need US$108million to bring the Pakrut project to production. As is often industry practice, the company is aiming to finance this development through debt finance. Where a lot of Kryso’s peers are exposed to the vagaries of the health of financial markets, thanks to their involvement with CNMIM, they have secured a Letter of Intent from the China Export Import Bank ("China EXIM Bank") to provide 70% of the required funding.
The details of this LOI are worth noting. Under its terms the 70% funding offered by the CEIB will be provided on a matched basis. So for each US$1 spent the CEIB will pay US70cents; meaning Kryso only has to have in place the remaining US30cents, on an incremental basis.
Additionally CNMIM has arranged for its parent company, CNMC, to act as guarantor on the money loaned. Although this does not provide a guarantee that CEIB will advance any money, we believe this is still a useful indicator increasing the likelihood that this will be the preferred route for financing.
News contained in the 1st September update was that the Export-Import Bank of China is currently carrying out due diligence on the Pakrut project and representatives from China EXIM Bank are due to arrive in London in September to meet with the Company and it's advisers; they will then to travel to Tajikistan for a site visit.
Capital requirements for continued exploration
The Commencement of mining operations is not Kryso’s only focus. They are also continuing exploration work at the Hukas Ni-Cu project as well as additional targets in Pakrut, in particular at Rufigar.
According to Kryso’s annual report for 2010, the company has sufficient funds available for these activities, without need to raise additional money. This is reflected in the US$16.6million of cash shown on the balance sheet as of December 31st 2010.
Valuing Kryso
At 14p, Kryso has a market-cap of around £37million. The major business risks appear to be financial (their ability to raise sufficient capital for Pakrut), operational (ie developing an operating mine) and geopolitical (operating in Tajikistan). Together these justify a degree of a discount against a fuller valuation, with commensurate increases in underlying value as discrete progress is made.
With 3.58Moz of JORC-compliant gold under their control we believe there is a compelling case for a substantial revaluation of the company. We have compiled the following table to give an indication of the range that might fall in (we have assumed a GBP/USD rate of £1/$1.6).
|
Method
|
Benchmark calculation |
Equivalent Market Cap |
|
|
Historic benchmark valuation of gold mining stocks
|
Aggregate $35/oz |
£78,312,500 |
|
|
Kryso’s internal benchmark based on peer review
|
Aggregate $64/oz |
£143,200,000 |
|
|
Edison Research benchmark taken from “Gold; valuation benchmarks are obsolete; Sector Report, January 2010” |
Measured $340/oz Indicated $159/oz Inferred $34/oz |
£392,856,875
|
|
|
|
Current Market Cap: |
£40million |
|
Conclusion
This is an exciting time for anyone involved Kryso Resources. The company is well down the path of transition from explorer to producer. They are in control of a vast gold deposit and there is still potential for more discoveries and resource expansion.
The backing of CNMIM is extremely important. Raising US$108million might well prove to be a great hurdle to overcome for a company of Kryso’s size in the current climate. However the sheer scale of their resource, plus the support of CNMIM gives Kryso enormous leverage. Having a guarantor on 70% of their funding requirement should also make the securing of finance an easier task.
Although the funding deal from the China Export Import Bank has yet to be confirmed, given the ongoing process and engagement and the substantial “resource in ground” valuation that Kryso should attract; all the indicators point to the high likelihood of a positive outcome.
Right now the proposition for investors centres on progress being made towards the initial production goal in 2013. The discount available in Kryso’s current value is reflective of this and there is certainly enough headroom on the upside.
If all goes to plan, then ultimately the price will catch up with the reality of events as they unfold and as each significant milestone is achieved, it will likely be accompanied by its own re-rating event.
Whether using the historical average of $35/oz, Kryso’s peer review estimate of $64/oz or the Edison Investment Research Benchmark, from where the share price currently sits, they all suggest a significant multiple of the current market capitalisation.
However, how much more valuable will the company be when funding is secured, mine construction completed and production finally underway!!
Would you like to find out more about Kryso Resources??
You are invited to an Investor Presentation
Kryso Resources Management will be presenting to Investors
at
"The Counting House" Cornhill London
on 14th September
To reserve your place click here
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