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Dundee Precious Metals: A Low-Cost Producer With Solid Growth Potential

 December 10, 2012 02:20 PM


(By Mani) Dundee Precious Metals, Inc. (TSE: DPM), a junior gold producer, should see strong production growth at low costs over the next five years, delivering increased margins and free cash flows.

The company's operating interests include its 100 percent owned gold-copper Chelopech mine in Bulgaria, the Deno Gold mine in Armenia and Namibia Custom Smelters (Tsumeb) in Namibia. Dundee also owns a 100 percent interest in the Krumovgrad development stage gold project. Dundee also holds interests in a number of developing gold properties located in Bulgaria, Serbia, and northern Canada through stakes in listed entities.

Dundee has low-cost assets (sub $450/oz. gold cash costs), which are set to deliver strong production growth over the next few years, while the Krumovgrad project is expected to deliver further strong growth from 2015 if the necessary permitting can be obtained in time.

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"Dundee sports some solid growth potential, with the company expected to grow its production base from 250 Koz. currently to about 300 Koz. (gold equivalent) over the next five years on our numbers," CIBC analyst Leon Esterhuizen said in a client note.

The current production base generates strong cash flows, which, coupled with a strong balance sheet, should go a long way to fund this growth. The environmental risk at the company's Tsumeb smelter is a key risk that needs to be effectively managed to ensure the smelter and Chelopech can be run at maximum capacity.

"Dundee has a stable operating base at the lower end of the global cost curve and generates strong cash flows that will go a long way towards funding its growth plans," Esterhuizen said.

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Toronto-based Dundee faced a number of operational challenges during 2012, but measures have been initiated to address the causes. The production base is now stable and is set to return to growth from 2013 onwards.

The company's expansion project at Chelopech is tracking on time, and the Tsumeb smelter upgrade has also been making good progress. The current production base generates strong cash flows. Dundee delivered operating cash flows of $122 million in 2011 covering its capital expenditure of $118 million.

The bulk of the company's growth will come from its Krumovgrad project in Bulgaria, which is expected to commence production in 2015. The existing asset base is also expected to deliver increased output over the next couple of years with a number of other potential growth initiative, which could add further growth in the medium term to a possible 400 Koz./annum level.

"These additional growth initiatives should provide positive news flow over the next year or two," the analyst said.

In addition, Dundee is in a fairly sound financial position, with no immediate financing requirements. It had net cash of $48.7 million at Sept. 30, 2012. The bulk of the debt is repayable over a five-year period starting in June 2013.

"We believe its balance sheet also has capacity to take on additional debt. This, coupled with the company's ability to postpone its capital expenditure at Krumovgrad (albeit at the expense of growth), should keep it from having to come to the market, even if commodity prices drop sharply from current levels," Esterhuizen wrote.

Key catalysts over the coming quarters will be the progress with its growth initiatives at Chelopech and the permitting progress at Krumovgrad. The environmental upgrade at the Tsumeb smelter, scheduled for completion by the end of 2012, is the key to increasing output levels at the smelter. Hitting the year-end timeline on the project will be a big tick in the box for the company.

Also, the appeal against the environmental impact assessment (EIA) at Krumovgrad will be a key catalyst for the advancement of that project, which could have a material impact on the project timeline. Once the final appeal is dismissed, the company can proceed with construction of the mine.

"The company has received positive outcomes for a number of related permitting issues over the past year and we therefore expect the same positive outcome as far as this final appeal is concerned," the analyst said.

Although Dundee's revenue stream is dominated by gold, its multiple revenue streams should give it some protection against gold price downside. Silver is seen as a by-product and is used to offset costs.

As a result, the company should give investors good exposure to gold price upside while a strong silver market will help in keeping unit costs in check.

"We normally value the TSX-listed gold producers at 2013 P/CF multiples of 3x to 11x. Given its strong balance sheet and growth potential, we value Dundee using a 9x P/CF multiple for a C$12.50 price target. This delivers an implied return of 51%," Esterhuizen added.

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