Hochschild Mining PLC (LON: HOC) – Reissued the production guidance as  Inmaculada operation hit full-capacity.

Hochschild Mining Plc (LON: HOC) is a Mining Company, which focuses on Gold and Silver deposits. The Company has been operating over the past 50 years, and has operations in the region of Argentina, Chile, and Peru. It currently operates with one underground mine in the southern part of Argentina and three underground mines in the southern part of Peru. For all its underground operations, it leverages cut and fill mining method, and all are epithermal vein mines. The ore is processed into silver-gold concentrate. In 2019, it produced 270 thousand attributable ounces of gold and 16.8 million attributable ounces of silver. The Company is headquartered at Lima, Peru and is having offices in Argentina and London as well. Presently, it is listed under FTSE-250 index of the London Stock Exchange.

(Source: Presentation, Company Website)

Industry Outlook Dynamics

The Gold investment is an efficient way of preserving the purchasing power as the one ounce of gold cost has risen from US$20.67 in 1993 to US$2,000 in 2020. However, in present times, Gold has also been outperforming the major asset classes, in terms of return. Therefore, it is provoking a fundamental shift in asset allocation. The Covid-19 pandemic further exacerbated these concerns by dragging real interest rates into negative territory. Moreover, the dollar depreciation should support the surge in gold prices for the foreseeable future.

In 2020, the onset of the Covid-19 pandemic has made Gold’s relevance as a hedging tool even more prominent, which accelerated the price performance. The Gold prices increased by ~17% during the H1 2020 and soared by an additional ~10% in July. Meanwhile, the Gold-backed ETFs and similar products (Gold ETFs) reported the eighth consecutive month of positive flows. The Covid-19 pandemic may bring structural shifts to asset allocation, and there are strong fundamentals to support the Gold investment in the longer term.

The chart below shows the performance of Gold Futures Price over the past 3 years, which was trading at around US$1,897.60/oz on 5 October 2020, reflecting around 35% growth over the last 3 years.

(Source: Refinitiv, chart created by Kalkine Group)

Growth Catalysts

• Central banks have been adding to the gold reserves since the financial crisis. Presently, the official reserves are more than 5,000 tonnes higher than they were in 2009. The central banks own nearly 35,000 tonnes of Gold, equivalent to ~17% of worldwide above-ground stocks.
• Record inflows into Gold-back ETFs should continue to offset the demand weakness in other sectors.
• Reduced opportunity cost of holding Gold with persistently low-interest rates would bolster the demand for Gold being a source for long-term returns.
• Uncertainties arising from US-China trade tension and Brexit, followed by dented economic indicators after Covid-19 outbreak, has further encouraged investors to reconsider Gold as a traditional hedging tool in times of turmoil.
• Moreover, the economic downturn has devalued the Forex market, which is compelling investors to switch to more tangible metal resources.

Key Risks

• The gradual resumption of economic activities and receding apprehensions of Eurozone disintegration could dent demand for gold to hedge related risks.
• The long-term price performance is dependent heavily on retail purchases, which makes demand a critical factor for long-term growth. According to the global demand trends report from WGC, the Gold demand in H1 2020 declined by 6% against the last year comparatives. The jewellery demand plunged 46% (year on year) in H1 2020 as consumers were deterred by the high price and with a reduction in the disposable income. Similarly, the bar and coin investment declined sharply in Q2 2020 due to Covid-19 led lockdown.
• The scale and continually evolving nature of coronavirus pandemic are causing unprecedented disruption to the supply chain. It can lead to reduced gold production as small-scale refineries and fabricators also halted their operations during H1 2020.
• With travel restrictions, logistical and supply concerns can deplete the dealer inventories for coins and small bars.
• Supply from gold producers can decline as only US$4.4 billion was spent on exploration in 2019 against US$11.8 billion in 2012. Consequently, there were only three gold discoveries in 2019 as compared to 42 major gold discoveries in 2000. In short, there would be less gold, if a lesser amount is invested on exploration.
• The allocation to gold could go down if real interest rates rise dramatically.

Gold Outlook

Gold can act as a genuine diversifier tool in an investment portfolio for a long-term due to the attributes pertinent to scarcity, highly liquid and uncorrelated asset nature. Moreover, it has been proven over time that beyond merely a safe-haven asset during the high-risk time, it can also be an asset to outperform and generate positive returns too. Such dynamics are likely to persist amidst high political and economic uncertainty, battered stock and bond markets, and historically low interest rates scenario.

Overall, the Gold industry landscape is going through an unparalleled wave of change, which is arising from various aspects, such as demand patterns, regulatory changes, innovation, and the entrance of new participants. Furthermore, the resurgence of coronavirus cases denting equity market sentiments with speculations regarding another round of lockdown, which would eventually attract investors towards the Gold, as a safe-haven investment.

Growth Prospects and Risk Assessment

HOC is focused on generating long-term shareholder return through the transparent delivery of key minerals. With ore sorting and mine digitalisation, the Company expects to generate more value from its mining and exploration projects. Meanwhile, the demand for silver is projected to rise by 16.8% in 2020 from 2019, which should be supported by strong demand in the electronics sector. Adjacently, it has increased the budget for brownfield exploration to US$37 million and greenfield budget to US$ 9 million, which shall support the future development by discovering low-cost resources and drill a balanced portfolio of opportunities. 

 (Source: Presentation, Company Website)

 (Source: Refinitiv,chart created by  Kalkine Group)

However, the Company is also exposed to various risk and uncertainties. The Global Covid-19 pandemic could result in the suspension of operations and increase the labour absenteeism, and thus, the operation costs. Moreover, the financial performance is highly dependent on the Gold price, and the Gold market is cyclical and sensitive to the economic changes and numerous factors, which are beyond the Company’s control. Furthermore, the business needs to adhere to the stringent environmental and compliance guidance, failure to adhere to those policies can have an adverse impact on output and cause legal actions as well.

Key Fundamental Statistics

Key Shareholders Statistics

Recent Developments

23 July 2020, Hochschild Mining announced the appointment of Jill Gardiner as an Independent Non-Executive Director.

Key Performance Indicators

(Source: Annual Report, Company Website)

Financial & Business Development Highlights – H1 FY2020 (30 June 2020)

(Source: Interim Report, Company Website)

• In the first half of the financial year 2020, due to lower production of gold and silver, the revenue declined by 35%. However, the Company witnessed a 28% rise in gold prices and 8% rise in silver prices somehow offset the impact of declined production.
• The Profitability margin for the period declined as the output in the first half was impacted due to Covid-19 related stoppages, while cash balance remained decent.
• The Company witnessed an increase in net debt as on 30 June 2020, but the balance sheet remained strong despite Covid-19 crisis.
• HOC took the swift response to unprecedented circumstances across the Company and implemented more strict health protocols.
• The Company restarted production at Inmaculada on 28 July 2020 and is expected to achieve full capacity in August end.
• Full brownfield exploration plan is projected to be completed by the end of FY2020, while drilling programmes remained on target across all operations.
• The Company announced maiden resource for northwest British Columbia based Snip project and set for further greenfield programmes in the US, Canada and Peru in H2 FY2020.
• The Company reduced LTIFR (Lost Time Injury Frequency Rate) and domestic waste generation and achieved ECO score of 5.74/6.

Financial Ratios – Strong Liquidity Position versus the Industry Median

Reported profitability metrics, the EBITDA Margin for the first half of the financial year 2020 stood higher than the industry median, reflecting better control over expenses as compared to the industry. On the liquidity front, Hochschild Mining Plc’s current ratio was higher than the industry median of 1.86x, reflecting sufficient current assets to pay short-term obligations. On leverage front, the debt-equity ratio was 0.30x, which was lower as compared to the industry median of 0.57x, reflecting that the company is less leveraged as compared to the industry.  

Share Price Performance Analysis

(Source: Refinitiv, chart created by Kalkine Group)

On 5 October 2020 (before the market close, at 9:40 AM GMT+1), Hochschild Mining Plc shares were trading at GBX 205.60, down by 6.29% against the previous day closing price. Stock 52-week High was GBX 326.80 and Low of GBX 80.40, respectively.

From the technical standpoint, shares were trading well above the short-term support level of 200-day (GBX 187.91) simple moving average prices, which reflects an uptrend in the stock.

14-day RSI is currently supporting an upside move (around 33 level), which means the stock price could increase in the short term.

(Source: Refinitiv, chart created by Kalkine Group)

In the last one year, Hochschild Mining Plc share price has delivered ~12.71% return as compared to ~ negative 9.80% return of FTSE-250 index, which shows that the stock has outperformed the index during the last one year.

Valuation Methodology: Price/Cash Flow Approach (NTM) (Illustrative)

Peers used in the valuation methodology (NTM P/CF)

(Source: Refinitiv, chart created by Kalkine Group)

Business Outlook

HOC has a strong financial position which shall provide substantial resilience for crisis management. Moreover, the Inmaculada operations is already back to full production, while there is an attractive opportunity with strong free cash flow generation to pursue early-stage projects and M&A strategy, and thus, generate the significant shareholder return. Adjacently, full brownfield exploration plan is expected to be completed by FY20 end. The Company is also looking forward to upgrading the current resource base and discovering new potential resources as they plan to drill further in Peru. In Chile, the BioLantanidos rare earths project has progressed well and on track to deliver a feasibility study in Q1 FY21. Regarding the greenfield programme, Snip project in British Columbia has achieved a maiden resource for the deposit and second drilling campaign has now commenced. In FY20, the Company expects to produce 280,000-290,000 gold equivalent ounces and 24-25 million silver equivalent ounces, at All-in sustaining costs of US$1,250 to US$1,290 per gold equivalent ounce.

Meanwhile, the increasing wealth in the East and increasing adoption of Gold within the investment portfolio have substantially changed the perceptions of Gold. It can act as a genuine diversifier tool in an investment portfolio for long-term due to the attributes pertinent to scarcity, highly liquid and uncorrelated asset nature.

However, as Gold has moved sharply higher in the past few months, the price may experience some consolidation in the near term. Nevertheless, if quantitative easing and other factors encourage investors to treat Gold as money, the potential for Gold price outperformance is extremely high over the next five to ten years. Therefore, we believe that the fundamentals of the Gold bull market are still intact from a long-term perspective though short-term consolidation can be expected with demand downturn and supply chain disruption.

Over the course of 4 years (FY15 – FY19), the company’s revenue surged from USD 469.15 million in FY15 to USD 755.68 million in FY19, compounded at an annual growth rate (CAGR) of ~12.66 per cent.

Considering the improved operational performance, decent cash position and support from the valuation as done using the above method, we have given a “Buy” recommendation on Hochschild Mining Plc at the current price of GBX 205.60 (as on 5 October 2020, before the market close at 9:40 AM GMT+1), with lower double-digit upside potential based on 10.59x Price/NTM Cash Flow (approx.) on FY20E cash flow per share (approx.).  

*Dividend Yield may vary as per the stock price movement.

*All forecasted figures and Peer information have been taken from Refinitiv, Thomson Reuters.

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