Serabi Gold PLC – Encouraged by the improved gold production, while the improved gold prices shall support revenue growth.

Serabi Gold Plc (LON: SRB) is a mining company based out of London, which is engaged in the activities for production and exploration of gold in the Brazilian region. The Company holds 100% interest in Palito Mining Complex and also have interests in recently acquired Coringa Gold Project located in the northern Brazil-based Tapajos region. The Palito Mining Complex includes over 50,800 hectares of land with gold production of around 40,000 ounces per annum. The Coringa project covers about 13,000 hectares with a production capacity of approximately 38,000 ounces per annum. The Company funds future development activities and exploration activities through operational cash flow capabilities. SRB shares are listed on TSX (Toronto Stock Exchange) with a ticker SBI and on LSE (London Stock Exchange) with a ticker SRB.

(Source: Annual Report, Company Website)

Growth Prospects and Risk Assessment

The Company has a strong cash position to pursue near and long-term business growth opportunities. The relentless development in Coringa project, ore sorting improvements at the Palito plant and exploration programmes at Palito, São Chico holds the significant growth potential for the future. Since 2005, the Company has produced over 305,000 ounces of gold, while they are continuously focusing on expanding the resource base. Moreover, the largest two shareholders – Fratelli and Greenstone have been a long-tern supporter of Serabi and provides experience management guidance for strong operational performance and growth. In future, the Company aims to produce 100,000 ounces per annum of gold and generate a lucrative return for shareholders.

However, there are certain risk and uncertainties to business growth. 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. The Global Covid-19 pandemic could result in the suspension of operations and increase the labour absenteeism, and thus, the operation costs. Moreover, there are several financial risks associated with fluctuation in the foreign exchange & interest rates, availability of adequate working capital, and credit defaults.

Industry Outlook Dynamics

In November 2020, gold-backed ETFs and similar products reflected first net outflows in the past 12 months and second-largest monthly outflows ever. As the gold price has its worst monthly move of -6.3% to US$1,763/oz, Gold ETF holdings also plunged 107 tonnes in November. The Gold prices lingered below US$1,900 per oz since lack of additional US fiscal stimulus kept the US dollar firm. However, the Covid-19 pandemic has led to unparalleled money printing and low-interest rates globally, which shall put gold on track for registering its best year in a decade as it appeals investors as a hedge against currency debasement and inflation. In Q3 FY20, global Gold demand dipped by 19% year-on-year to 892 tonnes, as consumer sentiments remained depressed. This represented the lowest quarterly demand since Q3 2009. The YTD demand was 2,972 tonnes, which was 10% lower against the same period in 2019.

In terms of growth catalysts, the 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. Furthermore, central banks have been adding to the gold reserves since the financial crisis.

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. However, as the gold prices and uncertainty have the inverse correlation, there is a risk that lower uncertainty with lockdown easing might cause gold prices to consolidate around US$1,800 to US$2,000/oz.

The chart below shows the performance of Gold Future Prices over the past 3 years, which was trading at US$1,865.50/oz on 1 February 2021, reflecting around 29.09% growth over the last 3 years.

 (Source: Refinitiv, Kalkine Research)

However, 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. Moreover, the 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. Also, the allocation to gold could go down if real interest rates rise dramatically.

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.

After understanding the industry dynamics, we will analyse some key fundamental and shareholders statistics of Serabi Gold Plc.

Recent Developments

On 22 January 2021: The Company announced that Sao Domingos project (recently acquired) had released its first exploration drilling result, with the completion of the first three diamond drill holes and a strong set of intersections recorded. Further, it continued success with ore body extension drilling at the SaoChico deposit.

Production Update (for the fourth quarter of 2020 (Q4 FY20), as on 15 January 2020)

(Source: Company Website)

• The Company reported a small improvement in the Q4 gold production of 30 ounces compared with the previous quarter (Q3 FY20). Therefore, the total annual production was 32,003 ounces, which was down from the previous year.
• During the quarter, the total ore mined was 46,275 tonnes at 5.24 grams per tonne of gold, an increase from the previous quarter and the same period of the last year.
• In December 2020, the Company generated more than 3,000 ounces production, representing the best monthly result since April 2020.
• In Q4 FY20, it generated 43,440 tonnes of milled ore with an improvement in overall average grade of 9% (compared with Q3).
• During the quarter, the Company has completed its 3,353 metres of horizontal development, which was up by 10% from the previous quarter and the highest since operations commenced. Therefore, during the year, it developed more than 12,200 metres.
• At the end of December 2020, the cash was around USD 8.1 million, with no funds drawn down in Q4 from the convertible loan arrangements.
• In 2021, the Company expects the production from the current Palito Complex operations will be in the range of 33,000-36,000 ounces. Further, in 2022, the production is expected to be around 45,000 ounces.

Trading Update (for the three and nine-month periods ended 30 September 2020, as on 13 November 2020)

(Source: Company Website)

• The Company has shown a slight improvement in the third quarter of 2020 as compared with the second quarter, with strong cash flow generation.
• However, Gold production for the year to date (till 13 November 2020) has been slightly lower than the originally forecast.
• Operating profit was at the same level as for the prior quarter and represented an increase of 100% as compared to the same quarter in 2019. Moreover, it represents a 90% improvement in the year to date (till 13 November 2020) against the same period last year.
• For the third quarter of 2020, EBITDA increased by 36% year-on-year to US$6.3 million.
• In 2020, the average gold price of US$1,707 received on gold sales.

Financial and Operational Highlights (for the six months periods ended 30 June 2020 (H1 FY20), as on 14 August 2020)

(Source: Company Website)

• In the first half of FY20, the revenue slightly declined for the period, while revenue in Q2 FY20 increased as gold price realised improved in both the H1 and Q2 FY20 period compared to FY19 data for the same period.
• The Company witnessed an increase in cash cost and AISC (All-In Sustaining Cost), while EBITDA for Q2 FY20 improved by 89% and 24%, respectively.
• The Company repaid the outstanding loan of USD 6.9 million from Sprott in full and concluded an agreement with subscribe for Convertible Loan Notes of USD 12 million.
• The gold production for Q2 FY20 remained strong with 8,504 ounces, while total production for H1 FY20 stood at 17,524 ounces.
• The Company has mined ore of 43,519 tonnes in Q2 FY20, with the gold of 5.85 g/t (grams per tonne), and 44 ROM (run of mine) ore was processed through the plant, with average grade gold of 5.91 g/t.
• In the Q2 FY20 period, the Company completed the horizontal development of 3,004 metres, which is the highest development metres to date.
• SRB is continuously advancing Coringa's licensing process and is actively looking to secure financing packages to fund plant assembly and site developments.

Financial Ratios

Share Price Performance Analysis

On 1 February 2021 (before the market close, at 9:20 AM GMT), Serabi Gold’s shares were trading at GBX 86.10, down by 0.46% against the previous day closing price. Stock 52-week High was GBX 118.40 and Low of GBX 42.00, respectively. From a technical standpoint, 14-day RSI is supporting the upside potential.

In the last two years, Serabi Gold Plc share price has delivered a positive return of around +124.68% return as compared to +27.70% return of FTSE-AIM index and nearly +12.18% return of FTSE All Share Industrial Metals index, which shows that the stock has outperformed the benchmark index and the sector.

Valuation Methodology: Price/Earnings Approach (NTM) (Illustrative)

Business Outlook Scenario

The strong gold prices supported the Q3 FY20 results, while the cash generation remained robust with cash flow from operations of US$5.75 million. Moreover, the operating profit registered 100% growth over Q3 FY19. Furthermore, the relentless development in Coringa project, ore sorting improvements at the Palito plant and exploration programmes at Palito, São Chico holds the significant growth potential for the future.  Overall, the Company has demonstrated flexibility, commitment, and resilience to weather the prevailing storm and is in a good position to emerge stronger in the future. production from the current Palito Complex operations now expected to be in between 33,000 to 36,000 ounces in FY21, while it should increase to 45,000 ounces in FY22.

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.

As per decent FY21 production guidance, operational conditions improving towards normal levels, robust financial & liquidity position, higher profitability margins, lower leverage ratios, and support from the valuation as done using the above method, we have given a “Speculative Buy” recommendation on Serabi Gold at the current price of GBX 86.10 (as on 1 February 2021, before the market close at 9:20 AM GMT), with lower-double digit upside potential based on 6.32x Price/NTM Earnings (approx.) on FY21E earnings per share (approx.). 

 

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

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