Orosur Mining — San Gregorio stabilises as Colombia takes off

Key to Orosur’s future in Uruguay is finding more gold in, under, and around the location of past producing assets as well the discovery of fresh new orebodies across the Isla Cristalina belt, in which it has a dominant land position. The potential for new discoveries, as well as the definition of new resources and reserves near to and underneath old open pits, is huge and only limited by the company’s financial position. Orosur has mined over 1.5Moz from its numerous open pit and underground operations at San Gregorio. Under previous management, it appears that this was not always undertaken in an orderly and responsible fashion. As a result, the application of modern and systematic exploration techniques are being applied by Orosur’s current management team to identify those areas of mineralisation that were previously missed, and which may potentially lead to far more gold being discovered as mining practices become increasingly focused on the underground extraction of ore. We also note that the Uruguayan government has granted Orosur an exemption on royalty payments (equal to 3% of sales) for the period April 2017 to March 2018. This is a definite positive, demonstrates a healthy relationship between the two parties and potentially bodes well for any permitting needed by Orosur as it looks to expand exploration in country.

It has been unfortunate that Orosur had to announce the deferral of 2koz of gold from its H118 production to the second half of FY18. However, it should be stressed that this was not due to an unexpected decrease in gold grades or any failure of the technical processes that feed into the mine planning process. The shortfall in production was simply due to the failure of long-hole mining machinery used underground. While this could be argued as avoidable, it is a far better reason for a production miss than any of the previous points mentioned.

As a result of the failure of its long-hold mining equipment, Orosur has narrowed its guidance and now expects c 30koz to be produced in FY18 vs previous guidance for 30-35koz produced. C1 equivalent cash cost guidance remains unchanged for FY18 at US$800/oz to US$900/oz.

With increasing investment into exploration-stage mining plays in South America over the past couple of years and the opening of new regional offices in Ecuador by some 27 different companies, including the likes of BHP, Orosur has elevated the importance of its exploration-stage Colombian Anza project. This project is associated with the same type of tectonic processes that formed the more notable discoveries in Ecuador and Colombia. The reasoning for Anza’s elevated importance appears justified on viewing preliminary drill results, which indicate a strong presence at decent concentrations of both gold and base metals. The potential in Colombia is fast becoming evident, and to this end Orosur is potentially open to joint venturing on Anza and seeking further funding to significantly progress exploration. Exploration in Colombia runs alongside ongoing mining at its longstanding San Gregorio mine in Uruguay.

Orosur is well into its fully funded Phase 1 exploration programme (started October 2017) at its high-grade precious and base metals Anza project, located in the middle-caucus region of northern Colombia. The first assay results have been received with all holes intercepting mineralisation, indicating that the project has good potential to allow for a maiden mineral resource to be defined and, most importantly, for a far more precise understanding of both the geology and geological structures that govern the mineralisation known to be present. While Anza has been drilled before (most recently by previous owners Waymar Resources), questions remain as to what type of geological model best explains the high-grade precious and base metals occurrences that have either been observed in outcrop or drilled at depth. Previously, it was thought that mineralisation at Anza could hint at a volcanogenic massive sulphide deposit which can host, inter alia, significant tonnages of high grade metal sulphides rich in base metals such as copper, zinc or lead, as well as associated amounts of gold and silver. However, it is thought now that the mineralisation being encountered during drilling is epithermal in nature, narrow veined and potentially associated in regional setting with a much larger porphyritic system. Anzá is in the most prospective district in Colombia, the Colombian Gold Belt, where most of the largest gold deposits have been defined, close to Continental Gold’s Buriticá project located along strike to the north from Anza. The APTA target represents <10% of the total Anzá area. Anzá’s potential has yet to be tested given the identification of four high-priority targets with coincident geochemical and geophysical anomalies. Orosur´s exploration programme aims are as follows:

Only partial drill results representing 30% of the samples to be analysed from the first two holes (MAP54 & MAP55) was sent to SGS Laboratory in Medellin, with the following table containing the results released by Orosur to date.

MAP54 was drilled in the central area of the APTA project and appears to have been drilled to confirm the data contained within previous drill holes located nearby. Orosur has not indicated whether MAP54 confirms old drill data or not. Nonetheless, the assay results presented in the above exhibit show promising precious and base metal concentrations across meaningful and potentially economic mining widths. Of course, further drilling is required to confirm the potential for a high grade precious metal/base metal resource, and Orosur expects to release more drilling information over both Q318 and Q418 as it progresses through its fully funded 15,000m drill campaign.

During H118 mining was focused at the SG UG West development. This operation has been the mainstay for San Gregorio’s gold production since November 2016. As mining at SG UG West is expected to conclude during H218, development of the SG Central deposit (see below) has started with the development of an underground access ramp.

However, it appears that the mining of SG Central will require further refinement to the mine schedule as parts of this mineral resource are understood to be uneconomic at current gold prices, especially at depth and to the east due to narrowing thicknesses of the ore body and also a reduction in the gold grade. As a result, Orosur’s mining consultant, SRK Peru, is revising the mine schedule to focus on extraction of the most profitable parts. These are stated to be in the shallower (ie upper) reaches of SG Central orebody.

As can be seen from the above exhibit, SG Central is planned to be accessed from the mining operation at SG UG West via a 250m development access ramp which is under construction. We also highlight the company’s ongoing assessment to mine the (pink shaded area) crown pillar shown in the exhibit above. Crown pillars are put in place when mining close to the floor of open pits (as in this example), or where a section of a mine needs to be protected from the effects of mining elsewhere.

The historic Veta A open pit mined 29,000 ounces of gold at an average grade of 3.1g/t. Of most significance however, is that mining was stopped as the Veta A mineralisation appeared to run under the previous and now reclaimed tailings storage facility. This same tailings storage facility is no longer used and has been remediated and returned to nature, as has the historic Veta open pit. As such, all ground settlement should have ceased and mining beneath this TSF is now being considered due to the extension of the Veta A orebody thought to run beneath it. Exhibit 3 illustrates the potential mineralisation Orosur is looking to delineate an economic ore reserve from.

The current reserve estimate in place for Veta A is 9,440ozs (ie 122,328 tonnes at 2.40g/t Au), and Orosur intends to undertake further drilling to achieve “a significant increase in reserves following a positive drilling campaign that proved the continuity and extension of the ore body over 140m from the current defined reserves.’’ From the following drill results, it appears that the claims by Orosur that further mining at Veta A could capitalise on the highest-grade gold resource currently delineated at San Gregorio.

Exhibit 4 is a summary of drill results obtained from drilling across the Veta A and indicates that the potential for extensions at depth to known mineralisation is strong.

We have made the following changes to our model:

We have published our annual mining review (Unlocking the price to NPV discount published November 2017), and as a result our gold price assumptions have changed. For the background to these changes please read page 79 onwards from the aforementioned report. Our revised gold price assumptions follow in Exhibit 5.

Factoring in all our revisions, we now value Orosur’s shares at £0.17, using a US$/£ forex rate of 1.38 to convert its US dollar denominated earnings. While this represents a hefty 41% decrease over our previous valuation published October 2017, it nonetheless still provides a considerable 56% upside to the company’s current share price. The decrease in our valuation results predominantly from our long-term revision of expected yearly production, with 35koz estimated now as compared to 40koz previously. This has also resulted in the downward revision of our financial estimates (FY18e and FY19e EBITDA of US$12.2m and US$14.0m vs US$17.5m and US$18.7m before; see Exhibit 6 for more details).

We expect Orosur’s ongoing significant exploration programmes over its mining areas, both new and old, to provide for a visible increase in reserves. As and when these reserve estimates are formalised and released to market, we foresee a potential increase in our long-term production assumptions, which would represent an upside risk to our estimates and valuation.

H118 gold production was 15,677oz, a y-o-y decrease of c 7%. Operating cash costs for H118 were US$886/oz, a y-o-y increase of 13%, with all-in sustaining costs up 25% y-o-y from US$1,422/oz to US$1,135/oz. The average price received year to date for each gold ounce sold was US$1,277/oz. All told, Orosur ended H118 slightly in the red reporting a net loss of US$0.542m.

The increase in AISC was due to Orosur’s significant ramp-up in exploration drilling needed to aid delineation of new mineral resources and ore reserves, and also included development capital of US$1.704m in Q2 (ytd: US$6.164m).

Looking towards the end of FY18, Orosur’s expected year-end capex is estimated at around US$8m to US$9m. We include the upper end of this guidance in our model and valuation. We estimate an operating cash cost figure per H218 gold ounce produced of US$875/oz, which is towards the upper end of the company’s own guidance of US$800/oz to US$900/oz.

Orosur ended H118 with cash on hand of US$2.1m, and net cash of US$0.3m. The company’s debt comprises a small Santander overdraft, which was fully drawn down during H118 due to the prolonged equipment failure that led to a 2koz deferral of gold production to H218. Orosur also classifies some equipment leasing as debt, but this amounts to no more than US$0.4m. We note Orosur has successfully renewed its Santander arrangement, making a further US$1.5m credit line available in case of unforeseen set-backs.

We assume an average gold price across all four quarters in FY19 of US$1,263/oz, factoring in our cost, capex and working capital assumptions, Orosur should be able to repay its Santander credit line and finish FY19 comfortably in the black. Our current estimate for end FY19 net cash is US$1.1m.