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Wednesday, August 16, 2017 Derek Macpherson

Site Visit: SGI is Systematically Building a Business


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Last week we visited the prolific Plutonic mine, which was recently acquired by Superior Gold Inc. (TSXV:SGI). While the asset itself impressed us, both from an operating and upside potential, we were most impressed by the company’s systematic approach to build a gold mining business. This has manifested itself by first converting Plutonic into a profitable mining operation (as evidenced by Q2 financial and operating results), then starting the process to add near mine resources and reserves (update expected in H1 2018) and now starting to look outside the existing operations then expanding. As well, we believe the addition of the Hermes project, is likely to have a positive impact on output, recoveries and consequently costs when it comes online later this year. Despite a short reserve life, we believe Superior Gold may be undervalued as it trades at 3.1x EV/CF and 4.2 EV/FCF (annualized Q2 results), versus peers that trade at 6.2x 2017 EV/CF.


Current one-year reserve life, not reflective of likely mine-life. One of the concerns investors most likely have is the short reserve life and shorter resource life at the Plutonic mine. Considering this mine has already produced over five million ounces (3rd largest gold mine in Australia), this at first pass might appear to be valid. However, we spent time reviewing some of the data from various areas of the mine and it appears there is an opportunity to expand reserves and resources near existing infrastructure. The company is systematically, reviewing these areas between existing infrastructure with promising drill results, but no previous mining. We note that as part of the business first strategy, this desktop reserve and resource growth program is focused on lower cost areas closer to the portal, where recent mining has been focused. While we do not expect the full mine-life to be reflected in the H1 2018 update, the increased reserve life is likely to close the valuation gap to peers. In our view, the Plutonic could have a 5+ year mine-life at current throughput levels, allowing the company plenty of time to add additional resources from nearby targets, similar to Hermes.

While only a small production increase, Hermes likely to benefit costs. As the company works towards its near-term goal of increasing production to 100k ounces per year, it plans to bring on the Hermes multi-pit open pit mine later this year. While this is likely to only represent a small overall production increase, this higher grade open-pit, is expected to have 95% recoveries (versus 76% overall recoveries in Q2). The addition of this higher recovery material will likely reduce costs both because of higher recoveries but also by filling the mill and spreading fixed costs. We would expect this to benefit the already low AISC (US$1,078 in Q2). We also note that while Hermes, currently has a small resource and reserve, there remains exploration upside along strike and we expect the active drill program to grow resources at this satellite project.

Valuation not reflective of existing operations or expected resource/reserve growth. Based on Q2 operating and financial results, Superior Gold trades at 3.1x EV/CF and 4.2 EV/FCF, versus peers that trade at 6.2x 2017 EV/CF. In our view, this discount is reflective of both short mine-life as suggested by current reserves and resources and the companies short operating history. At its current stage of development, Superior reminds us of Newmarket Gold and Lake Shore Gold, both of which traded at a significant discount to peers, and then re-rated with ongoing operating execution and exploration success, prior to being taken out. While this type of re-rating is possible, we would expect this to occur progressively over multiple quarters, as production gets underway at Hermes and with ongoing exploration success.


Derek Macpherson | VP Mining Analysis
Victoria Ellis Hayes | Associate
 
Red Cloud Klondike Strike Inc.
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Priced as of prior trading day's market close, EDT (unless otherwise noted).
All values in USD unless otherwise noted

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Superior Gold Inc. - TSXV:SGI - 1

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