Selling Puna Operations
In a previous update (see here), we already explained how SSR Mining (SSR.TO, SSRM) was paying the exact Net Present Value of Golden Arrow Resources’ (GRG.V) 25% stake in the Argentinean Puna Operations) as the total deal value (consisting of a cash payment, a share payment and forgiving some internal debt) was almost exactly the same value as the Net Present Value based on a silver price of $16/oz. Our calculations from October 2018 can still be found in this table and report.
Upon the announcement of the deal, we already had the feeling SSR mining was getting the best bang for its buck: it was paying the exact NPV for the 25% stake it didn’t own yet, while that NPV was only based on a mine plan which includes less than half of the total resources at Chinchillas. In other words: it was very realistic to assume Chinchillas would be in production for much longer than the original mine plan envisaged.
Another complicated factor has now been added to the equation: while the original deal was announced at $16 silver (providing fair value to GRG at that silver price), using a silver price of $18 per ounce actually means the fair value of the 25% stake in Puna is roughly 50% higher, at C$65M (using today’s spot price of in excess of $19/oz, the value is even higher). Not only did Golden Arrow not negotiate a series of success payments related to the silver price, it also means SSR Mining is currently paying C$44.4M for something that has a current value of in excess of C$65M (and this still excludes a potential mine life extension), so at the current silver price we would estimate the sum of the cash flows (discounted by 5%) attributable to the 25% owner of Puna Operations to be between C$75M and C$100M.
Why is Golden Arrow such a willing seller?
So why is Golden Arrow so keen to sell? Looking at the balance sheet as of the end of June, the company was running out of cash again despite having raised C$4.74M in March to answer a cash call from Puna Operations. And with almost US$2M in cash payments due on the Indiana, Atlantida and Antofalla properties in H2 this year (followed by required cash payments to the tune of US$4.7M in 2020 and US$6.55M in 2021), it’s understandable Golden Arrow was scrambling for cash.
While we remain optimistic on the exploration potential of those properties, it looks like Golden Arrow has bitten off more than it could chew, and selling Puna Operations was the only feasible way to raise the C$17M to cover the 2019-2021 option payments.
In fact, by just making the cash payments and continuing to bankroll the C$3M in annualized G&A expenses, by the end of 2021, C$25M of the C$28.9M it will receive in cash and stock upon completing the Puna sale will be gone. And should Golden Arrow decide to spend C$3M per year on exploration as well (divided over all high-priority exploration properties), Golden Arrow will have to raise cash again before the summer of 2021.
Bottom line: the incoming cash (and the cash value of the SSR Mining shares) is already spoken for and the majority will end up in the pockets of the property vendors rather than rewarding shareholders that have been investing in Golden Arrow since Chinchillas was discovered.
SSR’s timing isn’t a coincidence
On the one hand, it’s commendable to see SSR Mining made its offer when the silver price was just $15 per ounce, and that it was paying fair value based on the NPV in the mine plan. SSR Mining played it smart and fair, and we have no beef with that strategy. SSR’s management did exactly what every management should do: look after the best interests of the shareholders.
But while the 2019 performance of the mine won’t be exceptionally great, there is a very good reason why SSR Mining is making its move now (even when silver hadn’t started its move yet) and not next year. In its full-year guidance for this year, SSR Mining is guiding for a production of 6-7 million ounces of silver at a cash cost of $8-10/oz. Additionally, SSR is expecting to spend $12M on sustaining capex and $20M in capitalized stripping.
If we would assume both elements are included in the AISC, the all-in sustaining cost per ounce of silver this year will be around $14-15, so one could indeed argue a price tag of around US$33M is very fair for an attributable production of 1.5-1.75 million ounces at a $14-15 AISC.
But here’s why SSR’s timing is coming into play. According to the mine plan, this is the final year of heavy capital commitments. Have a look at the cash flow projections in the Chinchillas pre-feasibility study:
Both the capitalized pre-stripping and the sustaining capex will fall to almost nothing in the next few years. Even if we would assume an average of $5M per year in pre-stripping activities and $5M per year in sustaining capex (which is much higher than the average sustaining capex of $3M per year between years 3 and 8), these expenses will represent just $1.5-2 per produced ounce of silver, and suddenly the AISC drops to $10-12/oz.
And this changes the whole perspective. Selling 1.5-1.75 million ounces of silver at an expected AISC of US$14-15/oz for US$33M is a fair deal. But from next year on, the attributable production will have a much lower cost basis. Using an attributable production of 1.5 million ounces at an AISC of $11 results in a net cash flow of US7.5M at $16 silver and US$10.5M at $18 silver. And that makes the US$33M price tag looks cheap. In an ideal world, Golden Arrow should secure an external line of credit to the tune of C$15-20M, repay the SSR debt and pay off the line of credit from the incoming cash flows at Puna Operations that get upstreamed to Golden Arrow. We don’t know if GRG has secured the right to withdraw its attributable free cash flow from the Puna subsidiary on an annual basis but we would assume so, otherwise the 75/25 joint venture was very badly negotiated in 2015. Also keep in mind the cost of the SSR Mining debt is 15.75% (according to the M&A), so SSR really hasn’t been doing Golden Arrow any favors.
Again, well played by SSR Mining which protected the interests of its shareholders by securing full ownership of Puna Operations.
Investors who invested upon the discovery of Chinchillas are currently sitting at a 48% loss
Shareholders weren’t happy with the deal and Golden Arrow’s share price is currently trading almost 50% lower than before the sale to SSR Mining was announced. The reason for the share price weakness is obvious: shareholders of Golden Arrow Resources (including we) have invested in, and held a position in the company exactly on the premise of being exposed to the silver price. It has been 7 years since the Chinchillas project was discovered and as shareholders were finally positioned to take advantage of a potential increase in the silver price, Golden Arrow’s management team decided to sell the crown jewel at the NPV based on a $16 silver price.
We applaud the entire technical team for making the discovery and rapidly advancing it towards production. Discoveries stand or fall with the quality of the geologists and engineers that need to take a project to the next level, and Golden Arrow’s team has proven it knows what it’s doing. It’s just the monetization phase that we are unhappy with.
We understand the company needs the cash to cover its earn-in payments for two new projects in South America, and the recently announced addition of a Paraguay-based project will also need some money for further exploration. But 7 years ago when Chinchillas was discovered, Golden Arrow’s share price was trading at C$0.28. And now, 7 years later, the current share price is even lower, despite an almost 200% increase of the share count (from 41.8M shares at the end of 2012 after buying back stock from the dissenting shareholder to the current share count of 119M after taking the cancelled shares from SSR Mining into consideration, and almost 124 million shares as of the end of June).
So while the market capitalization of Golden Arrow increased in those 7 years due to an expanded share count, zero shareholder value has been created, as investors who bought in 2012 are currently sitting on a 48% loss as Golden Arrow was trading at C$0.28/share before ànd after the original discovery was announced. So after 7 years of blood, sweat and tears, the share count has almost tripled while the share price has halved and we can’t believe this makes Golden Arrow’s management team happy.
The next image (courtesy of Yahoo Finance) shows the share price performance since the announcement of the Chinchillas discovery in June 2012 until now:
In its August 2019 presentation, Golden Arrow Resources mentions it’s ‘monetizing a discovery’. Too bad shareholders are currently sitting on a 48% loss while that monetization happens.
As such, it’s very tough to understand why Golden Arrow’s management team decided to sell the 25% stake in Puna Operations just when the silver price is gaining some sort of momentum. Was there an issue to repay the outstanding (internal) debt to SSR Mining? Yes. But with Puna up and running, Golden Arrow’s management team could have searched for a credit facility or a convertible debenture to refinance that debt while continuing to offer shareholders exposure to the silver price with a PRODUCING silver mine, rather than falling back on becoming one of the so many early stage exploration companies. After all, finding the best possible deal, that’s what the management team gets its salaries and bonuses for.
According to the management information circular, PI Financial was engaged to get the best deal possible in a sales process and/or securing funding to refinance the debt provided by SSR Mining but was unable to find a better offer. Too bad, and we don’t doubt PI Financial tried hard, but let’s not forget these attempts were initiated in February when the appetite for silver stories was very low. A lot has changed since then, and we would like to point out the conclusion of the fairness opinion.
And we agree again. When the fairness opinion was delivered on July 22nd, from a purely technical and theoretical point of view, it’s a fair offer. We already established that. But it was a fair offer based on the NPV of the project at $16 silver, and virtually none of the Golden Arrow shareholders were invested in the company because they think $16 silver is the best they can get.
An investment in Golden Arrow was a call option on the silver price and with an asset that contains 96 million ounces of silver in the measured and indicated categories and 34 million ounces of silver in the inferred resource category, it’s a head scratcher to see Golden Arrow selling the crown jewels when the silver price was at a multi-year low and just two years into the initial mine life. After all, the joint venture partners believed so hard in the silver price they even used $19.50 silver as a base case scenario in the 2017 pre-feasibility study. To sell the project on a valuation based on a 20% discount on the base case scenario of the official economic study is a slap in the face.
Additionally, the official book value of Puna Operations on the Golden Arrow balance sheet was C$52.1M as of the end of June, so even from an accounting point of view paying the book value for Puna Operations would result in a 20% higher valuation compared to the C$44.4M consideration.
What now?
Should Golden Arrow cancel the transaction? Theoretically, yes. But considering the C$1.75M break fee that would be due if Golden Arrow walks away and considering SSR Mining has provided an internal line of credit, Golden Arrow has basically crossed the Rubicon without having a reserve bridge to fall back on.
At the very least, Golden Arrow should (have) negotiate(d) milestone payments that give the company an additional monetary bonus during a period of high silver prices. But seeing how an asset with a NPV of C$65M (excluding exploration potential and the potential to extend the mine life at Chinchillas, and excluding any value for Pirquitas) gets sold for a consideration of C$44.4M is just sad and not in the best interest of the shareholders as even the book value of Puna Operations is higher than the sale price. Even a 1% NSR (uncapped) would be sufficient to make the deal much more attractive as this would expose Golden Arrow to both a higher silver price and the potential to extend the mine life. At 7 million payable ounces of silver per year and a silver price of US$19.20, Golden Arrow would receive US$1.34M per year (C$1.8M) in royalty payments. That would cover over half of the company’s G&A expenses.
And we’re not alone with the opinion SSR Mining is underpaying for Puna. Why else would Golden Arrow be trading at just C$0.145 while the implied net value of the offer is C$0.24 per share? It really isn’t because shareholders are so impressed with the deal and shareholders are willing to sell at C$0.15 and lower rather than sitting on a company with C$0.24 in cash and stock (giving zero value to the other assets in the portfolio).
Another reason for the discount to the implied value could be found in Golden Arrow’s desire to keep all of the cash and SSR Mining shares in-house. If anything, Golden Arrow should distribute at least a sizeable chunk of the SSR shares to the Golden Arrow shareholders (this is very unlikely due to the aforementioned cash payment commitments in 2019-2021 and the entire cash + stock position will be spent before the end of 2021). And oh, the amount of SSR Mining shares owed under the Puna Operations sales agreement will only be established when the transaction closes. So the Golden Arrow shareholders have already missed out on the share price increase of SSR Mining since the transaction was announced on July 22nd.
Additionally, Golden Arrow’s management should pledge to not issue any bonuses to themselves for completing this transaction. After all, the share price is currently trading 48% lower than when Chinchillas was discovered, so there’s no reason for bonuses to be distributed as zero shareholder value has been created (in fact, considering the current share price is trading 48% below the pre-discovery announcement, a lot of value has been destroyed for long-time shareholders). Considering the financial statements of Golden Arrow show C$1.45M has been spent on G&A in just the first six months of the year (excluding regulatory fees and travel expenses), Golden Arrow’s staff will hardly have to eat peanut butter sandwiches if this would be the second year without bonuses payable. The G&A does not include the Puna Operations G&A as Golden Arrow is not consolidating its interest in Puna.
We realize the transaction will very likely go through anyway, and nothing we say will matter. We are just very disappointed Golden Arrow is basically ‘giving’ away the only cash flowing asset in its portfolio at the NPV based on a silver price of $16 without including any contractual provisions to provide additional compensation in case of A) a higher silver price and B) a longer mine life.
We realize that our votes against the sale (we have assembled shareholders representing in excess of 300,000 shares of Golden Arrow to vote against the deal) won’t be sufficient to block the deal as Golden Arrow has retained a proxy solicitor to assemble votes in favor of the deal. But at the very least, we hope a portion of the shareholders will vote against the sale of Puna Operations to SSR Mining at the current valuation just to show the management of Golden Arrow Resources the easy way out isn’t necessarily the best way out.
SSR Mining will be laughing all the way to the bank upon completing the purchase and may even have to record a one-time ‘bargain purchase’ income on its 2019 results.
The shareholder vote is scheduled for September 16th, proxies must be submitted by 10 AM Vancouver time on September 12.
Disclosure: The author has a long position in Golden Arrow Resources and is voting against the proposed transaction. Golden Arrow Resources is not a sponsor of the website. The author has a sizeable long position in Blue Sky Uranium, and a small long position in Argentina Lithium and Energy, two other Grosso Group companies. Blue Sky is not a sponsor of the website but was a sponsor until December 2018.
