With Palladium at Record High Prices, Miner Trading at Just a Fraction of Its NPV

Source: Thibaut Lepouttre for Streetwise Reports   01/05/2021

Thibaut Lepouttre of Caesars Report describes how Generation Mining is “wrapping up a busy year,” including publication of an “excellent” preliminary economic assessment that he expects will be followed by a feasibility study that will “optimize” the company’s returns.

Editor’s Note: Technical analyst Clive Maund on Jan. 5 charted Generation Mining, notes that it is a “palladium stock that is in a strong long-term uptrend,” and “is in an accelerating intermediate uptrend that should take it considerably higher quite quickly, and this intermediate uptrend exists within the vigorous long-term uptrend shown on our 3-year chart.” See the article and charts here.

Introduction

In some cases, a company doesn’t get rewarded for its hard work. While all stars were aligning in 2020 and palladium is trading at record-high prices, Generation Mining Ltd. (GENM:TSX; GENMF:OTCQB; 9GN:FSE) still doesn’t get too much love from the market. The company is trading at just a fraction of the NPV (net present value) outlined in its PEA (preliminary economic assessment), which was using a palladium price of just $1,275/ounce (oz). Applying the current spot price of palladium of in excess of $2,000/oz to the NPV of the project would make the company even cheaper, at just 0.05X the NPV based on spot prices.

“The PEA was excellent and Generation Mining was subsequently rewarded with a CA$5 million investment from Eric Sprott.”

Generation Mining has now completed a very busy 2020, wherein it published a PEA, raised money to further advance the project, hired a COO, completed more metallurgical test work and completed some exploration drilling in the process.

A quick recap of the progress in 2020

Generation kicked off a busy year in January with the publication of the PEA on the Marathon platinum group metals (PGM) project in Ontario. As we had already expected in a report published on the website, this PEA was excellent and Generation Mining was subsequently rewarded with a CA$5 million (CA$5M) investment from Eric Sprott, who was the cornerstone investor in a financing that ultimately allowed the company to raise about CA$10M, after taking fees into consideration—a smart move as it allowed Generation to fill up its treasury and complete the earn-in requirements to obtain an 80% stake in the project and to complete the feasibility study without having to go back to the markets to raise more money.

And just this week, Generation Mining is topping up its treasury with a CA$3.3M flow-through financing priced at CA$0.77 per share. The financing is led by Eric Sprott, who seems to be adding to his existing position in the company.

With the PEA in the bag and the money in the bank, Generation Mining hired a new COO in March. This went unnoticed as the markets were focusing on the impact of the COVID-19 pandemic. A pity, as Drew Anwyll comes with excellent credentials. He was the interim COO and VP Operations at Detour Gold (DGC:TO). Generation Mining won’t just be able to tap his knowledge on building and operating mines; appointing Anwyll as COO provided a credibility boost as Generation Mining is assembling a team that could carry the project across the finish line.

After announcing an excellent update on the metallurgical front, Generation is now moving forward with the second phase of the 2020 metallurgical test work. A pilot plant will process three bulk sample composites from freshly excavated material in the Main Zone, W-Horizon and an old (2012) composite, to optimize the design criteria for a full-scale production plant.

More specifically, the Phase 2 program will further focus on the performance of the flotation circuits, defining the optimal grind size, and just to validate the recovery results that were published earlier this year in August. As you may remember, the updated metallurgical test work has boosted the recovery rates of the main metals by a significant percentage, as the recovery rate of the palladium, the main metal, increased by 4% while the copper recoveries also increased by 3%. Platinum is less important than the palladium, but recovering 84.2% of the platinum content, compared to the 74.5% recovery rate used in the PEA, will have a clear positive impact on the recoverable and payable metal value.

This means Generation Mining has been ticking all the boxes in 2020 and is now gearing up toward publishing a definitive feasibility study. Given the strong palladium price and higher recovery rates for the main metals, we have very little doubt the feasibility study will very likely be even better (higher internal rate of return [IRR] and NPV) than the PEA. But of course, the proof will be in the pudding, and we will have to wait for the publication of the feasibility study (expected in Q1/2021) to know for sure.

But what should we expect from the feasibility study?

Let it be clear the feasibility study won’t be just a “validation of the PEA.” The PGM prices remain exceptionally strong, and whereas the PEA was focusing on providing a scenario keeping the potential construction of the mine “financeable,” the strong palladium price and the financing window that appears to have reopened for mining companies will allow Generation Mining to further optimize its economic model by increasing the plant throughput.

It’s hardly a secret Generation Mining is looking into a development scenario with a higher daily throughput, as the company has been widely signaling this in its public materials. While this will increase the upfront capex, it will also unlock additional economies of scale and reduce the operating cost per tonne and, ultimately, the production cost per ounce of palladium. The higher capex will only have an impact on the financing mix and should actually result in an improved NPV and IRR, but we’ll have to be patient for the feasibility study to see the exact impact.

But those other elements won’t remain unchanged. As explained above, the updated metallurgical test results indicate the average recovery rate for palladium, copper and platinum increased, and this means more payable ounces (and pounds) will be produced at virtually no additional cost. Additionally, the PEA was based on commodity prices that appear to be outdated by now, as gold is trading higher, while the palladium price is trading much higher than the level used in the PEA.

Applying these spot prices to the amount of payable metals as defined in the PEA (Note: this excludes the improvements on the metallurgical front!) results in an increase of the undiscounted pre-tax cash flows of in excess of US$1.6 billion, and north of CA$2 billion.

Generation Mining obviously won’t use spot prices in the feasibility study, but the tables above indicate how much additional value could be unlocked at Marathon should the current metal prices prove to be resilient. And just as a reminder, using a palladium price of $1,900 in the PEA (keeping all other metal prices unchanged) resulted in an after-tax NPV5% of CA$1.54 billion, with an IRR of almost 46%.

There also still is exploration upside on the property, but those potential additional resources won’t be included in the mine plan and we consider potential additional resources to be the icing on the cake at this point. If the market is currently valuing Generation Mining at less than 0.10X the NPV at $1,300 palladium, adding more tonnes won’t move the needle at this point.

The feasibility study will start the clock

The completion of the feasibility study won’t just provide a more detailed, reliable and credible look under the hood of the project (including the updated economics using a higher throughput and perhaps a slightly higher palladium price), but it also starts the clock for Sibanye Stillwater (SBSW:NYSE), the vendor of the Marathon PGM project.

As you may remember from the original acquisition agreement, Sibanye-Stillwater has just one opportunity to exercise a claw back right. Upon the completion of the feasibility study, and once Generation makes a positive production decision, Sibanye has a one-time option to decide within 90 days if it wants to earn a majority stake in the Marathon PGM project. Should Sibanye elect to do so, it will have to pay 31% of the total capex (bringing its total to 51%) and will subsequently have to cover that portion of the remaining capex.

So, if the capex in the feasibility study comes in at CA$600M, Sibanye will have to cover CA$186M in capex and 51% of the remaining CA$414M (CA$211M), or a total of about 66% of capex.

From a NPV and IRR perspective, it will make a lot of sense for Sibanye-Stillwater to exercise this option. However, the Marathon project is very palladium-dominant, while Sibanye’s other operations appear to be more platinum-heavy. So rather than it being a question of economics and returns, the decision by Sibanye will likely be based on whether or not it wants to increase its exposure to palladium in its product mix.

An additional (small) complication is that Generation Mining has already completed the earn-in to reach 80%. We asked CEO Jamie Levy what happens if Sibanye-Stillwater gets diluted down now until the completion of the feasibility study, but subsequently decides to exercise its right to get to a 51/49 joint venture. According to Levy, Sibanye-Stillwater would have to make a payment equal to three times the exploration expenditures it was required to contribute before subsequently exercising the back-in right.

In other words, if Generation now spends CA$2M, to which Sibanye doesn’t contribute a dime, Sibanye will be required to make a CA$1.2M payment to Generation Mining (three times 20% of CA$2M) before it can exercise its claw-back right. So even if Sibanye doesn’t contribute its 20% right away, we probably shouldn’t read too much into it.

Conclusion

As of the end of September, Generation Mining had a working capital of in excess of CA$12M and the cash inflow from the recently announced flow-through financing will likely allow Generation Mining to end the year with an unchanged cash position. Additionally, a total of 11M warrants (9.8M at CA$0.45 and 1.3M at CA$0.28) are expiring on July 9, 2021. These warrants are now in the money and should they all be exercised, Generation Mining will receive almost CA$5M in proceeds.

This puts Generation Mining in an excellent position. It has already established an 80% stake in Marathon and can now just wait for the results of the feasibility study and then wait to see what Sibanye’s plans are. Should Sibanye not exercise its right to earn back a 51% stake in the project, perhaps Generation Mining will be able to acquire the 20% it doesn’t own yet?

Thibaut Lepouttre is the editor of the Caesars Report, a newsletter and mining portal based in Belgium that covers several junior mining companies with a special focus on precious metals and base metals. Lepouttre has a Bachelor of Law degree and two economics masters degrees that have forged his analytical approach to the mining sector. Considered a number cruncher, Lepouttre focuses on the valuations of companies and is consistently on the lookout for the next undervalued mining company.

Disclosure:
1) Thibaut Lepouttre: The author has a long position in Generation Mining. The author’s company has a financial relationship with Generation Mining. The author determined which companies would be included in this article based on his research and understanding of the sector. Additional disclosures are available here.
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