2023-08-17 13:45:05 ET
Summary
- Sandstorm Gold Ltd. reported solid Q2 results with record revenue and margins on the back of a meatier portfolio following the Basecore/Nomad acquisitions.
- Meanwhile, we've seen multiple recent developments that have improved the investment thesis, with one notable one potentially bringing a monster asset forward to benefit Sandstorm's attributable sales.
- In this update, I'll look at whether Sandstorm Gold's weaker balance sheet relative to peers is priced into the stock & if it offers an adequate margin of safety to invest.
Just over a month ago, I wrote on Sandstorm Gold Ltd. ( SAND ), noting that the company continued to be one of the most attractively valued names sector-wide. Since then, the stock has struggled to make upside progress, but has significantly outperformed the sector during a 12% sector-wide slump month-to date despite solid Q2 results .
In my view, this outperformance is akin to a beachball being held underwater with the weight of the sector weighing on the stock, with multiple positive developments over the past several months that should have already catapulted the stock back above US$6.00 per share. In this update, we'll take a quick look at the recent Q2 results and recent developments which have upgraded the investment thesis.
All figures are in United States Dollars unless otherwise noted.
Fruta Del Norte Mine (Sandstorm - 0.9% NSR) - Lundin Gold Website
Q2 Results
Sandstorm Gold reported earnings earlier this month, with record revenue of $49.8 million, attributable gold-equivalent ounces [GEOs] of ~24,500, and $38.0 million in operating cash flow with exceptional margins of $1,744/oz. The company has reiterated that debt paydown remains its focus, though it took advantage of weakness in the quarter to repurchase 2.8 million shares for approximately ~$5.07 per share. This solid performance was driven by a large and more diversified portfolio following the acquisition of Nomad and Basecore last year, with new contributions from Antamina (~1,800 GEOs), Caserones (~1,600 GEOs), Blyvoor (~700 GEOs), Bonikro (~1,500 GEOs). We also saw higher production year-over-year from legacy assets like Fruta del Norte and Aurizona, offseting dips in production at assets like Cerro Moro and Chapada which were up against tougher year-over-year comparisons.
Sandstorm Gold - Quarterly Revenue & Average Realized Gold Price - Company Filings, Author's Chart Sandstorm Gold - Quarterly Contribution by Mine (GEOs) - Company Filings, Author's Chart
In addition to the larger portfolio and increased diversification shown in the above chart from these new assets that have begun contributing, Sandstorm benefited from a record average realized gold price, helping to offset a pullback in copper prices and zinc vs. the year-ago period. However, while the quarterly results are important and it's nice to see margins and revenue trending in the right direction, the more important figure to watch for royalty/streaming companies is developments across the portfolio which will ultimately contribute to future production and growth and sustain a royalty/streaming company's portfolio for the next decade or two. Fortunately, in Sandstorm's case, its weighted average mine life is much higher with exposure to several large-scale assets (Antamina, Caserones, Chapada) and its development portfolio offers similar long-life quality with key assets in Robertson, Greenstone, Platreef, and Hod Maden, in addition to further out opportunities like MARA, Hugo North Extension and potentially Lobo-Marte).
Let's take a closer look at some recent developments below:
Recent Developments
Beginning with positive developments, there have been several over the past quarter, with Equinox ( EQX ) continuing to make progress at Greenstone (where Sandstorm holds a gold stream) which will pour first gold within 12 months. Notably, the project remains on budget and schedule thanks to help from an all-star team in G Mining Services. Elsewhere, Blackwater (0.21% NSR held by Sandstorm on portion of pit) has reiterated an H2-2024 gold pour despite a minor delay due to wildfires as well, a positive development if it's expected to be a smaller contributor. And of course we can't forget SSR Mining's option to take a majority stake in Hod Maden which de-risked this asset and put it on course for 2027 production with a well-financed operator with Turkiye experience set to take over the reins. However, arguably the biggest news was Glencore's ( GLNCF ) decision to take full ownership of MARA in a $475 million deal (in addition to a royalty), increasing its ownership from 25% three years when the JV was established to 100%.
The unsung beneficiary of this deal is Sandstorm Gold, which has an option from several years ago to convert its 0.25% NSR royalty at MARA into a 20% gold stream at ongoing payments equal to 30% of the spot price of gold. And with Glencore taking full ownership of MARA with Newmont (NEM) and Pan American (PAAS) selling out and a 4-year construction period, this is an asset that now looks like it could start producing by 2029 given that I don't imagine Glencore would have rushed to buy out the minority and major partner's stakes if it had no interest in developing MARA in a timely manner. Plus, the attractiveness of MARA which is one of the best copper assets globally on grade and scale is that it benefits from lower capex risk because of the benefit of existing infrastructure (concentrator plant, tailings dam with 7 years of capacity + the exhausted Alumbrera open pit for in-pit tailings disposal), and a concentrator transportation system.
MARA Unlevered Free Cash Flow Profile - Yamana Presentation
As the chart above highlights, MARA is expected to be a cash flow machine, and will produce 500+ million copper-equivalent pounds from copper, gold, silver, and molybdenum, with its gold production expected to average ~130,000 ounces over the first six years. This is a huge deal for Sandstorm which can lock up a 20% gold stream, and importantly the payments are staged if Glencore elects to move the project forward, meaning that Sandstorm doesn't have to suddenly come up with the $225 million payment all at once, meaning it can use cash flow from assets set to come online and its existing portfolio to help pay for this, as well as room on its revolver ($168 million at quarter-end ahead of its focus on debt paydown). For those wondering how significant this is to Sandstorm, MARA would provide attributable production to Sandstorm of ~26,000 ounces on average in Year 1 through 6 at a cost of just ~$570/oz assuming a $1,900/oz gold price.
MARA Project - Yamana Investor Day
As I've discussed in past updates, this was one reason Sandstorm was so undervalued and the extreme negative sentiment seemed overdone because its peak guidance of ~125,000 GEOs did not include MARA , did not include Platreef expansions (Phase 2 and 3), did not include Heruga and Hugo North Extension at Oyu Tolgoi, and didn't include any upside from Blyvoor where estimates appear to have been throttled back for this asset's long-term production profile. Plus, no upside was being allotted to smaller assets that could contribute over the next decade like Woodlawn, North Telfer, Gualcamayo DCP ($30 million payment on commercial production & 1.5% NSR), Bayan Khundii, or Lobo-Marte.
This is important because if we look at just the major assets set to come online in addition to MARA (pink bar), Sandstorm had the potential to add ~90,000 GEOs per annum in addition to its existing attributable production profile from these assets in 2029/2030 near peak production (Hod Maden, Platreef Phase 2, Greenstone, Robertson).
Sandstorm Gold - Future Growth (GEO Basis) Per Asset - Company Filings, Author's Chart & Estimates
Finally, while not as significant as a development as the move to better capitalized operators at MARA (Glencore) and Hod Maden with SSR Mining ( SSRM ), we saw positive commentary regarding Hounde during Endeavour Mining's ( EDVMF ) Q2 2023 Conference Call, where Sandstorm holds a 2.0% NSR. For those unfamiliar, this is a very high-margin asset and one of Endeavour's largest mines in Burkina Faso, with the mine producing ~295,000 ounces at $809/oz last year. As noted in Endeavour's recent earnings release, drilling below the Vindaloo deposit "confirmed the continuity of mineralization along three mineralized zones, extending over 600 meters along strike." This has opened up the potential for a high-grade underground resource at Vindaloo Deeps, a positive for an asset that has continued to deliver for Sandstorm with impressive reserve replacement, suggesting this asset could produce well into the 2030s (current M&I resource is ~4.7 million ounces).
Vindaloo Main, Vindaloo South & Vindaloo Deeps - Endeavour Mining Presentation
Elsewhere, in Ecuador, Lundin Gold ( LUGDF ) reported more solid step-out drill results at Fruta del Norte South ("FDNS") and Bonza Sur, including 7.1 meters at 11.54 grams per tonne of gold, 5.1 meters at 7.59 grams per tonne of gold, and 8.8 meters at 4.53 grams per tonne of gold. These point to resource expansion potential and appear to have identified a series of subparallel mineralized veins at FDNS that show similar hydrothermal alternation to Fruta del Norte, a 5.0 million ounce reserve base at ~8.7 grams per tonne of gold. Meanwhile, drilling at Bonza Sur is following up on a promising geochemical anomaly. So, with Sandstorm having a 0.90% NSR on the district that is now seeing its most aggressive exploration program since the Aurelian Resources days, the mine life extension potential here looks promising (giving investors great visibility into future contributions to Sandstorm), and Sandstorm represents an inexpensive way to get exposure to a possible new discovery in this district.
Risks
There's no shortage of criticism of the Sandstorm investment thesis, with worries from the viability of the Mercedes Mine where Sandstorm holds gold and silver streams (given its high operating costs), the company's debt levels, and some critics have even highlighted legal challenges as a potential reason for uncertainty. While I discussed the risks to the thesis in great detail in past updates, I will briefly address some recent concerns below:
Beginning with the most insignificant of these risks, which is $8 million in severance claims that remain outstanding (which Sandstorm believes are without merit) related to former employees of Colossus Minerals (where Sandstorm held a stream), this is hardly a cause for uncertainty. For starters, $8 million is a trivial amount to Sandstorm, even if the courts decided in the third party's favor, and the company has disclosed these claims as far back as its 2019 Annual Report, so this is hardly some new development that's suddenly sprung up. It's also rich that this is highlighted as a point of uncertainty for Sandstorm (a possible $8 million on a ~$1.5 billion market cap), yet the same critic deemed First Majestic Silver's ( AG ) tax dispute risk of ~$390 million on a ~$3.0 billion market cap as insignificant enough to highlight First Majestic as a Buy at $16.90 per share in Q1 2021.
On the point of Mercedes where Sandstorm holds gold and silver streams, there's no question that this asset hasn't delivered as expected under Equinox or Bear Creek Mining ( BCEKF ), and Q1 sales of ~12,500 ounces at $1,670/oz AISC certainly doesn't inspire much confidence. However, to call this a key asset is a stretch, with this asset making up less than 4% of NAV. Plus, AISC will look much worse when an asset is producing well below its planned production levels (~12,000 ounces per quarter vs. ~17,500 ounce quarterly implied production based on guidance), with Q1 affected by what was already planned lower grades, exacerbated by development delays because of contractor equipment availability. So, with feed grades well below the reserve grade (2.91 grams per tonne of gold vs. 3.75 grams per tonne of gold), it's not surprising that Q1 was an ugly quarter for Bear Creek.
Mercedes Mine - Q1 2023 Mined & Feed Grade vs. Reserve Grade - Company TR, Company Filings
However, Bear Creek noted it has implemented more productive mining methods since Q1 with a switch to room and pillar mining at San Martin and sub-level caving and sub-level stopping at Mariana. This should result in less dilution, and we've already seen a significant tick up in developments rates in Q2 (30% better than Q1 at 1,353 meters) to set up a better second half of the year for the asset. Finally, mining rates are expected to double in the much higher-grade San Martin deposit once more faces are available, with grades here over 80% above the reserve grade at ~6.6 grams per tonne of gold. Hence, I don't believe the underperformance of Mercedes in the most recent quarters is a major risk to the Sandstorm thesis when it's being judged on an unusually weak quarter and this represents just one of 40+ producing assets in its royalty/streaming portfolio, with this set to grow to 45 assets by 2026 (Blackwater, Greenstone, and Platreef nearing construction completion).
Elsewhere, on the debt side, there's no question that Sandstorm has elevated debt relative to its peers, but I believe the market has largely discounted this after the ~45% correction in the stock. This is because Sandstorm currently trades at a fraction of the cash flow multiple of its peer group, trading at less than 0.90x P/NAV and below 10x FY2025 free cash flow estimates (~$170 million) vs. many of its peers that trade at closer to 20x FY2025 free cash flow. Hence, with the company diligently working to pay down debt, its debt being quite manageable for a company of its scale with its margins, its cash flow set to increase materially in the next 18 months once construction-stage mines come online, and this already priced into the stock, the current net debt position is hardly a risk to the thesis. If the stock were trading at $9.00 and closer to fully valued, this might be a different story.
Sandstorm - Net Debt - Company Website
Finally, addressing the per share argument, it is accurate that Sandstorm did not see growth in cash flow per share even if cash flow increased year-over-year ($42.1 million vs. $33.2 million), declining from $0.16 to $0.17 in Q2 2023. However, judging a company on per share growth post-acquisition (negative impact of a higher share count) when several of the most meaningful components of that acquisition have not yet been realized seems deliberately obtuse. This would be the equivalent of pointing out that Equinox has not seen per share growth following its Premier acquisition when the key asset is still in construction and not yet contributed any cash flow (Greenstone) or worrying that Fortuna Silver ( FSM ) has struggled to grow cash flow per share when its real reason for acquiring Roxgold was Seguela, not Yaramoko.
Relating this back to Sandstorm, there are multiple assets that will deliver significant growth in cash flow per share and gold-equivalent ounces sold per share post-2024. However, they're in construction today, which made it a little difficult for them to generate cash flow in Q2 2023. So, for one to point out that cash flow per share has not increased would imply that one is unaware of these massive projects (Platreef, Greenstone, Robertson) that will contribute over 20,000 GEOs combined per year and closer to 30,000 GEOs once Platreef Phase 2 kicks in, or that one criticizing cash flow per share growth felt it was more convenient to leave this out to fit a narrative. And as I noted in my previous update, gold-equivalent ounce sales per 1,000 shares held will begin a new uptrend starting this year and progressively increasing over the rest of the next decade, and I have conservatively not include upside opportunities like Bayan Khundii, Lobo-Marte, Gualcamayo Deep Carbonate Sulphides [DCP], North Telfer, Woodlawn, and other smaller assets.
Sandstorm Gold - GEO Sales Per 1000 Shares Held & Forward Estimates - Company Filings, Author's Chart Sandstorm Gold - Current Multiple vs. Historical Cash Flow Multiple (FASTGraphs.com)
To summarize, while there's no question there are risks here, I think there are far worse balance sheets in the sector, far worse reward/risk setups, and I would argue that these risks are more than priced in with the stock trading at an enterprise value of ~$1.90 billion with the potential to generate upwards of $200 million in annual free cash flow post-2026 be and debt-free if gold prices can cooperate. A debt-free royalty/streaming of this scale should command a free cash flow multiple closer to 20 (implied value of $4.0 billion), which certainly points to a significant long-term upside for patient investors. And one of my favorite setups is growth + room for multiple expansion, which is exactly what Sandstorm offers today. This is because the stock can be purchased at a depressed cash flow and P/NAV multiple with significant room for multiple expansion to its historical average and even further expansion to its peer group with the benefit of significant production growth.
Summary
Sandstorm put together a solid Q2 report and while its debt pay down in the period was slightly lower than I expected ($8.0 million), the company has made it clear that it will prioritize debt repayment over buybacks in the future. In the company's defense, I can understand why it might want to buy back shares during the fire-sale on June 12th related to the GDX deletion mistake, which was arguably the best time to buy back shares other than mid-March 2020. Unfortunately, the continued focus on debt levels overshadowed what was a very productive quarter for multiple key assets, including a new well-financed partner at Hod Maden in SSR Mining, the consolidation of MARA by Glencore, continued exploration success at multiple assets where Sandstorm holds royalties, and confirmation that construction at Greenstone, Blackwater, and Platreef is progressing well.
Given that Sandstorm remains in the penalty box and a laggard over the past year vs. its royalty/streaming peers, I continue to see this as a rare opportunity to buy a high-margin business at a deep discount to fair value. Not only does it trade at a discount to all of its peers on a cash flow and P/NAV standpoint despite industry-leading diversification from a NAV standpoint and exposure to several world-class assets (Fruta Del Norte, Blackwater, Platreef, Antamina, Hod Maden, Greenstone, Caserones, Oyu Tolgoi, MARA), but it has a stronger registry of mining partners following its recent acquisitions, and this isn't even remotely reflected in its share price. So, with Sandstorm Gold Ltd. remaining on the sale rack and its investment thesis strengthened, I continue to see this as a top-5 reward/risk bet sector-wide.
For further details see:
Sandstorm Gold Royalties: Recent Developments Upgrade Investment Thesis