Valuing Royalty Companies - Great Bear

For those in the mining investing space the big news lately is Newmont acquired Great Bear Resources and their Dixie project in the Red Lake district of Canada.  This makes it much more likely that a mine will get built sooner rather than later and will be built at large scale.

But Newmont didn't buy out Great Bear Royalties Corp.  $GBRR.V.  The company owns a 2% NSR on the entire Great Bear project, and nothing else.  Interesting.

If this is your first time reading one of my articles valuing royalty companies you might want to click on home and flip through some of the previous ones for discussion on how I have arrived at some of the methodology.  But anyway, on to the show.

$GBBR.V currently has 29.8m fully diluted shares outstanding and trades at $6.25/share CAD.  That gives a market cap of $186m CAD, which is about $146m USD.

We start with our rule of thumb that in production royalties are worth their share of measured and indcated ounces at current spot prices.  This is similar to how an ETF like $GLDM might be valued by the ounces of gold they have stored in a vault.  Only with royalty companies that vault is underground in a mine.

The simple measure doesn't give the royalty company credit for indicated ounces, future exploration, or gold price appreciation on the upside.  On the downside it doesn't count in that gold prices might fall, that there is a discount rate for future cashflows, that not all of the indicated might get mined, etc.  Despite these and many other shortcomings this simple measure has proven quite predictive and robust.

Great Bear doesn't have a resource yet, and isn't in production yet.  So this complicates the simple measure.  But they have done a lot of drilling and did just get bought for a large amount of money by a major mining company.  I've heard resource estimates from 8 million ounces of Gold (Au) to 12 million ounces of Gold (Au).  So let's assume those are the eventual numbers in production and estimate the value of the royalty at a future date when the mine is in production with that resource size.

So if you buy now at $146m market cap and hold on until the mine is in commercial production the royalty might be worth 2-3x what the company trades at now.

But we have to discount that value based on the time value of money while you wait until the mine gets built, and for the risk that the mine won't get built.  They could discover a rare endangered tree squirrel that would stop the environmental permit.  They could find the gold is actually bound to a never before discovered mineral Kryptonite and even Superman couldn't extract it economically.  

Let's assume it takes 5 years from now to do the feasability studies, environmental studies, get the permits, and build the mine.  Frankly that's fast tracking mines of late.  At an 8% compound discount rate 5 years would discount the project by 46%, and that's before mine risk. Let's round that to 50% (assume there is a 4% risk it doesn't become a mine if you wish).   If you assume 7 years the 8% discount rate comes out to 71%, let's round that to 75%.  Or maybe you decide gold price also appreciates over time so you use 4% discount rate over 5 years, 21% discount, which again we'll round to 25%.  

All table amounts are in USD.

With a fully diluted market cap of $146m USD you can start to see the type of assumptions the market is placing.  If there's a larger resource and a mine comes to market quickly and the price of gold holds or goes up a bit you can do well, but if the resource is on the smaller end of expected.

Of course really a royalty is worth the present value of its future cashflows.  So let's build some DCF tables.

If you assume the 8 million ounces at a 20 year mine life of 400,000 ounces per year, 5 years from now goes into production, and an 8% discount rate you end up with an NPV on the royalty of $95m.  That's less than the current market cap.

What if we bump it up to 600,000 oz per year for 12,000,000 ounces total.  Well, you get to about the current market cap:

If you use a 4% discount rate with the 12Moz resource at 600koz annual production you start to get an NPV higher than the current market cap.

So, there's a wide range of valuations depending on your assumptions.  Where does that leave me personally as an investor in the royalty space?  It leaves me thinking Great Bear Royalties Corp is fairly valued in the market and watching on the sidelines.  With what we know today I'm a buyer at $3.75 CAD per share, half todays market price.  I'm also a buyer at todays prices if I think the timeline to production is accelerated, the resource is larger than expected, or if the production rate of the mill is much higher.  

As an aside companies with a single royalty don't make a ton of sense.  Someday either another royalty company will buy $GBBR.v or $GBBR.v will buy some more royalties.  The fact that companies like Franco Nevada or Wheaton would love to have a royalty like this probably puts a floor under the $GBBR.v stock price.  But I don't see other royalty companies wanting to pay up to a premium on today's valuation for $GBBR.v when they can go acquire other assets at cheaper relative valuations.