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Argonaut Gold: A High-Quality Name With Upside Potential

 December 12, 2012 12:27 PM


(By Mani) Argonaut Gold Inc. (TSE: AR) has been one of the best-performing gold stocks in 2012, rising about 30 percent year-to-date, and there is further possible upside due to a strong growth profile.

Reno, Nevada-based Argonaut Gold was founded in 2009 by the former management team of Meridian Gold, which was acquired by Yamana Gold in 2007 for C$3.5 billion. Argonaut raised C$150 million to fund the acquisition of Castle Gold whose main asset was the operating El Castillo mine in Durango, Mexico. Argonaut recently completed its acquisition of Prodigy Gold Inc.

Argonaut has two heap leach gold mines that are expected to produce 137 thousand ounces (koz) at $581/oz in 2013, and production could grow to 400–500koz/year by 2017.

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"While the shares have had a strong run so far in 2012, we believe there is further potential to create value in the project portfolio and that shares could re-rate to premium Tier II multiples over the next 12–24 months," RBC Capital Markets analyst Sam Crittenden wrote in a note to clients.

Argonaut's three heap leach projects have the potential for relatively low-cost, organic expansion through increasing the contract mining fleet and pad expansions, which could add 70–100koz/year.

Based on a gold price assumption of $1,700/oz over the next two years, Argonaut could generate positive free cash flow and fund the development of San Antonio and Magino.

"We expect a significant amount of free cash flow to be generated from El Castillo and La Colorada because in spite of low grades, they are low-cost, profitable operations with minimal capital requirements. The use of contract miners reduces sustaining capex," Crittenden said.

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Annual production is expected to grow of 33 percent over the next five years, taking production up to 400koz in 2017 from 103koz in 2012. El Castillo and La Colorada provide the base of about 150koz/year, and San Antonio could add 70koz/year starting in 2014 while Magino could add 180–200koz/year starting in 2016.

"We model a 10,000tpd operation at Magino; however, we believe the deposit could eventually support a larger operation and add 50–75koz/year above our estimate," the analyst said

Argonaut shares are currently trading at a P/NAV multiple of 0.8x, which is a premium to the North American Tier III gold producer average of 0.7x and a discount to the North American Tier II gold producer average of 1.1x.

On a price to 2013 estimated cash flow per share basis, Argonaut shares are trading at 10.7x, which is in line with to the North American Tier III average of 10.7x and a premium to the North American Tier II producer average of 9.7x.

"We believe that as Argonaut grows annual production toward 250koz over the next two years, there is potential to re-rate to a higher P/NAV multiple," Crittenden said.

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