Gold has surged almost exactly US$1,000 / ounce (oz) since the start of 2023 to an all-time high of US$2,909 and many analysts believe it could go higher still. Bloomberg Intelligence predicts gold could reach US$7,000 over the next five years “with the bullish US stock market coming to an end and the Fed lowering interest rates and increasing the money supply which will favour gold.”
One share that is successfully exploiting this opportunity is AIM-listed Serabi Gold, which owns two producing underground gold mines in Brazil. Chief executive Mike Hodgson was in fine form when I met with him over the month, fresh off announcing a 13% increase in gold production to 37,520 oz for 2024 (including a five-year high of 10,022 oz in Q4 alone) and Serabi’s forecast is for 44-47,000 oz this year with analysts pencilling in around 60,000 oz in 2026, which would represent another production record.
Massive upgrades
Powered by gold’s rise, Serabi is enjoying a healthy earnings upgrade cycle; prior to last May Peel Hunt had forecast its turnover, pretax profit and eps to come in at US$78m, US$15.1m and 18.3 cents, respectively, for FY24 but that has since been increased to US$98m, US$31.7m and 36.1 cents. For this year, this is already expected to rise to sales of US$123m, pretax profit of US$48.3m and eps of 54 cents (42p), leaving the shares looking cheap on a prospective enterprise value / EBITDA of just 3x.
History
Serabi Gold listed in 2005 with a single gold mine, the Palito Complex, in the Tapajos region in Brazil and with easy financing available thanks to the AIM bubble, it unwisely chased scale that wasn’t there, culminating in a near death experience in 2009. That year, current CEO Hodgson was appointed with founder Bill Clough stepping down.
Aided by US$9m raised from a secondary listing on Canada’s TSX and US$5m investment from the Megeve Investment fund, who were enticed by that second gold boom in the early 2010s, Serabi was able to re-start Palito and it has been running at a steady state of 30-40,000 oz per annum since 2015.
Tapajos a “globally significant mineral province”
The Tapajos region, where Palito is situated, is located within the state of Para, Brazil, which is roughly the size of Portugal (90,000 sq. km) and is the country’s number two region for mining activity with improving infrastructure and development incentives including a low tax rate of 15.25%.
The area was in fact the site of a major gold rush from the late 1970s until the late 1990s which, according to the Brazilian Department of Mineral Production, had up to 30 million oz of artisanal production. Amazingly, some reports suggest Tapajos still contains around 1,000 tonnes of gold ore (placing it amongst the world’s largest) although only 7 million oz in hard rock deposits have been defined.
Palito Complex
Serabi’s Palito complex is a 65,000 ha property and has been explored and defined to a depth of around 300 metres through a combination of underground development and drilling campaigns. Starting out in 2005 with a resource base of 405,000 oz, Palito had cumulatively produced 414,000 oz up to FY23, yet resource replenishment, through airborne geophysics and magnetics, geochemistry and mapping, has meant resources have actually increased to 532,000 oz.
Coringa a game-changer
But this is only half the story. What laid the foundations for the life changing share price gains was that in late 2017, a neighbouring asset became available leading to the acquisition of the Coringa gold mine for US$22m. That was funded by an US$8m placing and US$15m investment by private equity firm Greenstone, which is the joint largest shareholder alongside Fratelli, the investment vehicle of the Solari family who also own a large South American retail company. Both parties still hold just over 25% each, with River and Mercantile (2.9%) and Premier Miton (4.2%) also significant shareholders. Hodgson says these shareholders are fully supportive of the decision to remain un-hedged, seeing it as providing maximum upside should the current boom continue.
Coringa high grade deposit
As Hodgson notes, this second asset at Coringa is superior to Palito in a number of ways and I think is exciting enough to be able to power this £109m market cap company into something much larger in the years ahead. It’s a high grade, narrow vein deposit - in other words the gold-bearing veins are thin, typically only a few centimetres wide, but contain a relatively high content of gold of around 6-7 grams / tonne, although last October they hit a record 9 grams!
Total resources are 450,000 oz while it commenced production in July 2022. Coringa initially had one underground mine in operation (Serra) but has since opened a second (Meio) and production is quickly ramping up towards 30,000 oz with Hodgson stating that it’s targeting a further rise to 50,000 oz by 2026.
Step increase to 100,000 oz
Coringa has superior economics both in terms of lower cost-per-ounce and also a 3x better conversion of resources into reserves. And having struggled for years when prices were low, Hodgson notes how the worm has turned as this asset is largely behind the free cash flow that is forecast to almost triple to US$23.3m this year with net cash expected to balloon from US$11.1m to US$34.3m. Hodgson says this will be put to good use with its exploration budget slated to hit a record US$9m this year and next as the group targets a doubling in its resource base to 2 million oz.
This is expected to provide the platform for the next step increase in production to 100,000 oz per annum by 2028 but I suspect that with several junior gold players having recently been taken over, such as Shanta Gold (by Saturn Resources in late 2023) and Centamin (by AngloGold Ashanti last November in a £1.9bn deal), Serabi’s own days of independence could be numbered.
Lower cost mine
Crucially, while Palito’s breakeven costs were around US$2,000 / oz, paydirt at Coringa was only US$1,400, making for an average US$1,740 last year. Serabi has enjoyed a huge stroke of luck at Coringa because the original intention was to build a second processing plant (alongside an existing one at Palito) costing US$40m (because the alternative would have meant trucking the ore 200 kms along dirt tracks to be processed at Palito, which would have been uneconomic). However, fortunately for Serabi, Brazil has experienced an agricultural boom for growing soya and the Government has beefed up local infrastructure by building a paved and gravel national highway between the two mines, which Serabi is now carpet-bagging off to shuttle its trucks back and forth.
Ore sorter boosts grades 1.6x
As a result Serabi’s only major capex at Coringa has been a new crusher and ore sorter machine (c. US$8m), which separates the gold (a white coloured ore) from the waste granite, which is red. The contrast in colours ensured very low ore loss (just 3%) while the process results in average feed grades increasing by a factor of 1.6x to around 10-11 grams / tonne. Hodgson says further efficiencies are planned in the medium term to reduce the percentage of “fines ore” - that is low-grade, low density ore that can’t go into the ore crusher / sorter - from around 35% to just 20%.
Average grades to rise
With this new ore sorter having only been in use a few months, Coringa can look forward to higher average grades and improved output of gold in 2025. Eagle eyed subscribers may, though, have spotted a potential stumbling block up ahead given that when both mines are at full tilt the company will hit capacity constraints of 60,000 oz per annum. As Hodgson notes the obvious short-term solution is to pare back production at Palito to leave more room for the more profitable Coringa ore but longer term (and once its exploration program has delivered another 1m oz) Serabi will build new capacity with 100,000 oz by 2028 a realistic goal.
Scale economies to reduce costs
One potential area of concern has been the increase in average costs per oz from just under US$1,100 / oz in 2019 to around US$1,740 / oz in 2024 as Serabi was not immune to the post Pandemic inflationary pressures that have affected virtually every mining company. Nevertheless, the rising gold price has more than mitigated this issue while Hodgson says the anticipated growth at Coringa is expected to lower costs to the high US$1500s this year.
For the group as a whole, labour is the highest component (43% of total) because the assets are in the middle of nowhere and Serabi has to build accommodation blocks. Labour is also expensive given that Brazilian laws dictate maximum seven hour shifts (two thirds on/ one third off roster) versus 12 hours in Australia. Site costs are 14%, mine operating costs (including consumables such as cyanide ) are 13% with maintenance 12% and power (electric + diesel) 10%.
Copper opportunity
The gold story alone should be enough to whet investors’ appetites but interestingly there’s also speculative appeal through an emerging copper opportunity. Back in May 2023, with the group at risk of losing some exploration licences due to inactivity, it signed an alliance with Brazilian metals giant Vale, which brought in US$5m for new drilling. Half of that has been spent drilling an exciting copper porphyry prospect at Matilda, which found encouraging grades of over 0.2% as well as delineating a shallow mineralised zone with an exploration target range of between 21-81 million tonnes at 0.28%-0.4% copper. While the Vale alliance has now ended and it’s still early days, the sharp rise in copper towards all-time highs provides hope that a new partner with deep pockets can be found.
Net cash to balloon
In spite of the recent rise the shares are inexpensive on an EV / EBITDA of around 3x. With Peel Hunt expecting net cash to balloon to a massive US$136m by 2028, providing additional fuel for exploration as well as potential returns to shareholders, I am a buyer.
