Charles Gibson, from his vantage point in London, has a unique view of mining companies in Africa. Gibson is the head of mining for Edison Investment Research, which writes unbundled investment research on a range of companies from its offices across Europe, New Zealand and Australia. In this exclusive interview with The Gold Report, Gibson talks about some hidden mining gems in Africa.
The Gold Report: We have a scenario where the price of gold has held up and is trading at about $1,775/ounce (oz), but the share prices of large caps aren't comparable. What is the reason behind that?
Charles Gibson: Typically, large companies are valued in relation to their margin, the difference between the price they sell gold and the cost at which they mine it. There was a period of margin expansion from about 2009 to 2011 where, by and large, the share prices of big producers did very well. The gold price was rising and costs were under control.
In late 2011, however, this dynamic reversed and the gold price started to tail off at the same time as costs began to pick up. Then there was a period of margin contraction. That's what's caused the share prices of the majors to fall.
TGR: Would you factor in the general malaise in the stock market?
CG: Commodities can dance to a very different tune than the broader economy as a whole and the broader stock market. There's been margin expansion and margin contraction. It won't go on forever. There is a very close correlation between revenue per ton and costs per ton for mining companies and there are lots of different ways to explain that. But if the commodity price moves, the likelihood is that the cost base will move at some point. That works both downward as well as upward. Commodity price and cost base don't work exactly in time with each other, but by and large the broad direction is similar. That tends to temper the upside, but it also saves a little bit on the downside as well.
TGR: Given the unremarkable performance in some of the large caps, should investors be looking at small to mid caps for value and growth?
CG: It's not a question of being small, mid or large cap necessarily. The key question for investors at the moment is: Which companies have costs under control? Perhaps that is due to the jurisdiction they're in or because of a particular cost basis. If companies have access to hydroelectric power, for example, that often acts as a buffer against rising prices. When costs are under control, margins are under control and companies can benefit from rising commodity prices.
TGR: What's your view on precious metals prices going forward?
CG: There's a very strong correlation since 1959 between the U.S. monetary base and the price of gold for fundamental reasons. After the first two rounds of quantitative easing (QE), the implied gold price from that correlation was $1,350/oz. That's where we were until about a fortnight ago when Ben Bernanke announced QE3, which at the moment is open-ended. Our long-term gold price of $1,657/oz goes through 2013. If QE3 continues to 2014, you're looking at $1,887/oz and by 2015 it's more than $2,000/oz.
I stress that this is not a day-to-day trading price. It is the fundamental long-term price. To paraphrase John Maynard Keynes, "Markets can stay irrational longer than you can stay solvent."
TGR: It'll be interesting to see what happens in November with relation to QE3. Let's talk about some names that you're following in Africa.
CG: Pan African Resources Plc (PAF:AIM; PAN:JSE) is a stock worth looking at with an asset in Barberton, South Africa. However, this is greenstone gold—not conventional South African Witwatersrand gold—in this case, with a 10-year life. It has had a 10-year life for the last 100 years, roughly speaking. It's a very tight little management structure. It produces about 100,000 oz (100 Koz) every year and has done that for as long as anyone can remember.
Pan African announced its full-year results last week showing earnings nearly doubling compared to the prior year and more than doubling compared to the half-year stage. That is strongly suggestive of a cost base that is well under control.
It also just made a major acquisition of Evander Gold Mines Ltd., which it is buying from Harmony Gold Mining Co. (HMY:NYSE), this time in the Witwatersrand Basin. Pan African's management has good prior knowledge of operations of Evander. A lot of the board has worked there. Pan African has been able to buy it at a low price. It will be very accretive. The mining plan indicates that it could double Pan African's earnings in the short term.
TGR: I'm looking at Pan African's stock chart right now. It's trading near its 52-week high. There aren't many North American-based gold producers that could say that.
CG: Pan African's share price is a testament to the tightness of the management structure and the fact that the company has been able to deliver on its promises half year in, half year out. It has supportive shareholders. There are few substitutes for a good track record in mining circles and Pan African has a very good track record.
I'd like to talk about Aurizon Mines Ltd. (ARZ:TSX; AZK:NYSE.MKT), too.
Casa Berardi on the Cadillac Fault in Québec is the major asset. Its management has an exceptional track record of delivery. It has roughly 160 Koz/year o...
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