Sandstorm aims to complete gold purchase agreements with gold mining companies that have advanced stage development projects or operating mines. Sandstorm will make an upfront cash payment to the company and in exchange, Sandstorm receives the right to purchase a percentage of the gold produced for the life of the mine, at a fixed price per ounce. Sandstorm is the only 100% pure gold streaming company. Given the lower risk diversified business model, I have made this the largest holding in the portfolio.
Sandstorm was founded by Nolan Watson (President & CEO) and David Awram (Executive Vice President) who originated the streaming model at Silver Wheaton. They played a leading role in building the royalty company, which now has a market cap of around $14bn and is the largest in the world. Mr Watson was the youngest CFO of a billion dollar company on the NYSE. In 2009, he left to found his own company, Sandstorm Resources, which then split into Sandstorm Gold & Sandstorm Metals and Energy and the latter became the first company to apply the streaming model to the oil sector.
Sandstorm has been able to create value by the efficient allocation of capital. As streams have come online, operating cash flow has risen strongly. Unlike its larger peers, Sandstorm focuses on less well known assets that have significant production and exploration upside. They have now acquired nine gold streams (five of which are producing) and three NSR gold royalties and has a market cap of around $1bn. The streams provide leverage to the gold price and exposure to production rate and exploration upside. In my view, the most important thing about these streams is that Sandstorm only pays around $400-$500 an oz so with the gold over $1700; the company is generating very healthy profits.
Developing and running mines is notoriously difficult. There are often operational issues and many mines suffer from capital expenditure overruns. In addition, sustaining capital requirements and rising costs are some of the other challenges that mining companies when trying to generate shareholder returns. Sandstorm’s role is to provide financial expertise, so the mining company can focus on building and operating the mine.
The advantage of the gold streaming model is that it substantially reduces the risk of investing in mining as Sandstorm has no obligation to contribute additional capital after the upfront payment has been made and Sandstorm’s cash costs are fixed forever. The environment for raising mining finance is tough at present as banks are either unwilling or unable to lend (or the terms are very onerous) and raising equity when share prices are depressed is not desirable. Therefore, there is a huge opportunity for streaming companies to select the best deals they wish to invest in on attractive terms.
Sandstorm has recently reported third quarter earnings, announcing revenues of $15.1 million on gold sales of 9,066 ounces. Cash flow was strong at $10.6 million. Margins decreased slightly on gold sales as the cost per ounce was $408, resulting in cash operating margins of $1258 per ounce. Based on existing gold stream agreements, the forecast for attributable production in 2012 is 31,000 to 34,000 ounces of gold, increasing to over 60,000 ounces of gold equivalent per annum by 2015. The company estimate Free Cash Flow will rise to $85m by 2015 based on $1750 gold. However, this takes no account of future streams. The company is in an early growth stage so there is no dividend at present but this is likely in the next couple of years.
Management aim to continue growing and has $130m cash (pre the Mutiny stream) in addition to an unused $50m revolving line of credit to spend on new streams. This follows a $150m equity financing in September. Sandstorm have stated clearly that they will only invest in politically safe jurisdictions and the current streams are all in Canada, US, Mexico and Brazil. Sandstorm focuses on streaming deals with low cost producers and this gives them an extra margin of safety, should the gold price fall or operating costs rise. On average Sandstorm will invest in one or two projects for every 100 they access so clearly have a strict criteria. Management have stated that they are more deals in the pipeline and are clearly very prudent regarding how much they are prepared to pay per oz of gold, with the average cost below $500 an oz.
The following is an overview of the company’s main assets.
Aurizona Stream (Brazil) – Sandstorm has a 17% interest in Luna Gold’s Brazilian Mine and paid Luna $17.8m in cash and 5.5m shares (pre-consolidation*) of the company upfront. Initially the mine life was projected to be 8 years but Luna now has resources of over 3m oz, which is around 20 years of production. Annual production for 2012 is forecast to be around 60k oz growing to 125k oz in 2013 and there is potential to increase this further in due course. According to Luna’s September 2012 investor presentation they are working on Phase II scoping study suggesting Aurizona has the long-term potential to produce as much as between 300,000 to 500,000 ounces of gold annually. This production upside is not build into Sandstorm’s forecasts.
St.Elena (Mexico) – Sandstorm has a 20% streaming interest in Silvercrest’s, St. Elena mine at $350/oz. They were originally forecast to produce 30k oz for 10 years + but have now expanded and aiming to produce 35k oz in 2012. Sandstorm acquired the stream in May 2009 and made an upfront payment of $12m in cash and 700,000 ordinary shares (3.5m pre-consolidation). Silvercrest have the option to develop an underground mine and Sandstorm will have the right (but not the obligation) to purchase 20% of the gold for an upfront payment equal to 20% of the upfront capex made by Silvercrest plus ongoing payments of $450/oz.
Black Fox (Canada) - In late 2010, Sandstorm acquired two streaming deals from Brigus Gold. They made an upfront payment of $56.3m and will pay $500/oz for the right to buy 12% of the gold production from the main Black Fox mine plus an additional 10% on the life of mine production on the of the Black Fox extension. Brigus is forecast to produce 80k oz in 2012, increasing to 110k oz next year. In October, Brigus repurchased 4% of the gold stream for $24.4m, so Sandstorm will now be entitled to 8% of production. They have an option to repurchase a further 2% until the end of 2012 for $12.2m.
Bachelor Lake (Canada) – In January 2011 Sandstorm paid Metanor $20m in exchange for a 20% streaming interest with an on-going purchase price per oz of $500/oz for the life of the mine. Initially the mine was forecast to produce 60k oz per annum, however, studies showed this was possible at only 66% capacity. The mine is likely to produce around 30k oz in 2013 before rising to 60k in 2014. There is scope for expansion and production could increase to 75-80k pa.
Summit Mine (USA) – Sandstorm paid $4m upfront and has the right to pay 22% of the life of the mine at a cost of $400/oz. This is a non-core asset but Summit will produce 10-12,000 oz pa an initial 12 year period, so Sandstorm would receive around 2,400oz.
Ming Mine (Canada) – In August 2010 Sandstorm paid Rambler Metals and Mining $20m in exchange for 25% of annual production until 175,000 oz gold, and 12% of the life of mine gold produced thereafter. Ming is forecast to produce 10k oz in 2012 and 13k oz pa from 2013 onwards. There is no ongoing cost per oz for the gold delivered from the Ming Mine. Rambler has guaranteed that within 24 months of starting production they will have produced and sold a minimum of 24,000 oz of gold or Sandstorm can have a partial refund of the upfront deposits. Sandstorm is also entitled to receive minimum cash flows from the gold stream of $3.6m in the first and second years and $31m in the third year.
Serra Pelada (Brazil) – This is Sandstorm’s latest stream and is a high quality high grade gold-platinum-palladium deposit that should be in producing gold by Q4 2013 and platinum by end of 2014. Sandstorm has bought 1.5% of gold production at $400 oz and 35% of all platinum production at $200 oz for the life of the mine. Sandstorm made an upfront payment of $60m for the stream in September 2012. Until 1 April 2015, Colossus has the option to repurchase up to 50% of by paying $48.75m, which would decrease Sandstorm’s entitlement to 0.75% and 17.5% respectively.
Deflector (Australia)- Sandstorm has just announced an agreement to purchase 15% of the life of mine gold produced from Mutiny Gold’s deflector mine at a per oz price of $500. Sandstorm will make an upfront payment of US$38 million to acquire the stream.Like some of the other streams Mutiny has an option to buy back 50% of the stream within 36 months. Deflector is a high-grade gold and copper deposit located South Murchison, Western Australia. Mutiny are aiming to initially produce 55,000 ounces pa over a 7.5 years but there is potential to expand from this level. Using a discounted cash flow valuation method, assuming a gold price of $1,700 and production of 50,000 oz from 2014, rising to 75,000 oz until 2023 gives a value of $71m. I believe this is an attractive deal as this is one of the first streaming deals to be done in Australia, which is a politically stable country.
On a Free Cash Flow multiple of around 18x for 2013 and 13x for 2015 Sandstorm does not look cheap. However, this is a discount to larger peers such as Royal Gold and Franco Nevada, which trade on multiples of 17x and 20x for 2015. As Sandstorm continues to grow and announces more accretive streams, I would expect this gap to narrow. It is my view that Sandstorm will be trading on the same multiple within the next 2-3 years. Encouragingly, the top 5 institutions own around 27% and management also have sizeable holdings.
Over the next few years gold attributable to Sandstorm will rise from 30,000 to over 60,000 oz and this does not take into account expansion from existing mines and new deals that are in the pipeline. At present the majority of production comes from Canada, whilst 33% comes from the Aurizona mine in Brazil but this will reduce substantially over the next few years. I have total confidence in the management team and expect them to continue growing the business over the next 5 years. Given the positive outlook for the gold price, this is an excellent buy and hold stock and should be a core part of a portfolio for investors looking for exposure to precious metals without the operational risks that mining companies face. For disclosure, this is my largest personal holding.
* Earlier this year the company did a five for one share consolidation.