RE: Buy recommendation23 May 2014 15:12
Investmentman1:
The market has failed to realise the significance of Serabi Gold (SRB:AIM) achieving commercial production levels at its Palito mine in Brazil and its success at recovering gold from a second project called San Chico. Investor concerns about the firm achieving its production targets are overblown. The 2,300 ounces of gold the miner produced in the first quarter is less than one tenth of Serabi’s 24,000-ounce target for 2014, which would suggest its forecasts are over optimistic. But investors need to appreciate that Palito is still in the ramp-up phase. Production levels will increase as the year progresses, aided by a contribution from a stockpile of high-grade material exceeding eight grams per tonne gold and development ore from San Chico.
Another investor concern possibly holding back the share price at 5.12p is a lack of clarity on production costs. Serabi tells Shares that all-in costs at commercial output levels will be circa $900 per ounce, dropping to $800 per ounce in time. This implies $400 to $500 per ounce profit margin against the spot gold price of $1,305 per ounce, a lucrative financial return that is highly attractive in today’s depressed commodity market. Finance director Clive Line says Serabi got close to the break-even point with Palito at the end of the first quarter. ‘We’ve always said that the first 24,000 ounces at Palito will enable the company to make some money at $1,150 to $1,250 per ounce gold price,’ he comments. Earnings will really improve once Palito is steadily running at full production and San Chico is operational. Together they are expected to produce 45,000 ounces per year. San Chico will run at half the output volume of Palito but has just over twice the gold grade.
The chart illustrates how Serabi has not yet convinced the market that financial and operational problems have now been fixed. Palito stopped operating in 2008 pending a financial restructuring of the business. Serabi was bailed out in 2012 by Chile-based investment firm Fratelli which has since provided several additional tranches of cash and now owns 51% of the equity. Palito reopened in January this year and debt-free Serabi is now sitting on $11.6 million of cash so has adequate working capital pending the production ramp-up. House broker Peel Hunt says the company has a strong balance sheet and cash-generation potential of more than $20 million in 2015. Its 8p price target implies 56% upside.
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