Gold price looking weak and small cap miners suffering

2013 will be the first year since 2000 that that the price of gold will be down, and down pretty significantly with a 30% drop year to date, the biggest fall since 1984.

The yellow metal has been the traditional inflation hedge and it hit an unprecedented $1920 in 2011 as fears hit a high given the crazy amount of money printing that central banks like the UK and U.S. put in place after the 2008-2009 financial crisis. Today gold sits at $1,203 after the Federal Reserve’s FOMC announced the start of tapering of the asset purchase programme from $85 billion to $75 billion a month starting in January. Chairman Ben Bernanke said the bond-purchase program could come to an end by end 2014.

With less dollars being printed by the Fed, the potential for inflation which has not yet materalised in the United States seems even less certain and sights are set on gold at $1000 an ounce. Bad news for gold producers with many of the big names lumbered with cash depleting flagship projects and high costs of production now retrenching. Even worse for the small producers, who are struggling to raise cash to meet obligations.

Take Avocet Mining, a company I’ve been following for a few years – a hero to zero stock if ever I saw one!

It is a West African focused gold mining and exploration company with its primary operations in Burkina Faso and Guinea. It has one gold mine, Inata, in northern Burkina Faso. The deposit at Inata presently comprises a Mineral Resource of 3.46 million ounces and a Mineral Reserve of 1.85 million ounces. Inata poured its first gold in December 2009 and produced approximately 167,000 ounces of gold in 2011.

The shares were trading at 286p in 2011, now they are 9p after a 25% fall on Friday.

The company first ran into problems in mid 2012 when it announced gold production for 2012 was to be cut from 160,000 ounces to between 135,000 and 140,000 ounces as a result of excavator problems, ore processing issues and lower grades than expected. They also lowered production guidance for 2013 to around 150,000 ounces. 2012 cash cost guidance was increased from $800-850 an ounce to over $1000 an ounce. With 2013 forecast to be $900 – $950.

The company was lumbered with a hedge which has cost them a lot of debt to deal with and put them in a precarious financial position given the news this week.

On Friday the nasty RNS below was released. It looks very much like equity investors are going to be wiped out by the banks since as ever they will get their pound of flesh for the latest bail out. What a dreadful board of directors! Too complacent that the gold price would be $2000, now if gold heads towards $1000 in 2014 which it may well do if tapering accelerates where does it leave the company!!!

As a consequence of lower than expected production in Q4 2013, Avocet Mining PLC (‘Avocet’ or the ‘Company’) now expects 2013 production at the Inata gold mine (‘Inata’) to be 115,000-120,000 ounces compared with previous guidance of 125,000-130,000 ounces.  The Company has also commenced a business review of options to maximise the value of its assets.

The deterioration in Q4 production has led to higher unit costs and lower cash generation and has been caused largely by breakdowns in mobile and plant equipment. There is a requirement for capital expenditure to refurbish the processing plant and mobile fleet and also to complete construction of the blinding circuit.  In addition, there is a need for maintenance processes to improve, having suffered from a cash squeeze during 2013. Q4 production was also affected by two minor pit slope failures which generated additional volumes of waste material and slowed production at a time of low excavator availabilities. The plant shutdown for refurbishment of the SAG mill, which was noted in the 2012 Annual Report, is now expected to halt gold production for up to four weeks in H1 2014.

In August, when the gold price was approximately US$1,300 per ounce, the Company announced an eight year Inata life of mine plan and positive cash flows in every year, based on pit shells run at US$1,200 per ounce and mining costs of US$1.75 per tonne. With the potential for a lower gold price environment over the coming years, the Company has estimated the cash flows of a four year life of mine plan based on pit shells run at US$950 per ounce, with mining costs of approximately US$2.15 per tonne. This estimate (“the estimated LOMP”) includes higher capex to refurbish the mine fleet and the four week plant shutdown. The effect of pit shells based on a lower gold price is to improve cash generation at lower prices by reducing the proportion of waste mined and increasing the grade of ore mined, albeit over a shorter mine life.

The estimated LOMP indicates that in 2015-2018 Inata should generate cash flow before financing of approximately US$180m, based on an assumed gold spot price of US$1,200 per ounce.  However, this plan shows negative cash flow in 2014 and a requirement for further short term funding in 2014, amounting to between US$20 million and US$30 million, depending on the extent of refurbishment costs, whether a decision is taken to adopt contract mining, and the level of production in 2014. The further funding requirement would be in addition to the remaining funds from the Ecobank loan facility, which was drawn down in November by the Company’s 90% subsidiary, Société des Mines de Bélahouro SA (‘SMB’). The loan is for 30 billion Francs de la Communauté Financière d’Afrique (‘FCFA’), the legal currency of Burkina Faso, which is currently equivalent to US$61 million.

Of the Ecobank loan funds, US$29 million was used to buy back SMB’s gold hedge with Macquarie Bank Limited and US$3.4 million was paid in tax to the Burkina Faso authorities. Approximately US$18 million is expected to be used as working capital during November and December, due to weak gold production and a build-up of creditors in preceding months when the mine was required to deliver a high proportion of its production into the hedge at $938 per ounce.

Group cash balances at year end are forecast to total approximately US$15 million, which  is less than the US$16 million loan repayment (including accrued interest to the 31 December 2013 loan maturity date) owed to an affiliate of the Company’s largest shareholder, Elliott Associates. The Company has informed both Ecobank and the Elliott lender about the anticipated additional funding requirement and estimated LOMP, and intends to conduct discussions with both lenders in parallel with the business review.

Further work is needed to confirm the conclusions of the estimated LOMP.  In parallel with this, and its discussions with lenders, the Company has initiated a business review to consider options for maximising the value of its assets for the benefit of shareholders, namely:

• At Inata, evaluating options to ensure the mine is optimised and adequately funded for 2014, thus enabling it to generate significant cash flow for subsequent years, including contractor mining, which should alleviate the need for extensive mobile fleet capex and deliver improved availability and productivity;
• The Souma deposit, located 20 kilometres from Inata, which currently has a Mineral Resource estimate of 0.8 million ounces: treatment of economic Souma material at the Inata plant is assumed in the estimated LOMP; and
• The Tri-K project in Guinea, which currently has a Mineral Resource estimate of 3.0 million ounces and is awaiting the issuance of an exploitation permit for a heap leach operation treating oxide ore.  This resource also has the potential to facilitate the development of a larger, longer life carbon in leach operation, which would encompass the much larger fresh ore resources. Evaluation of both processes is in progress.

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