Valuing Royalty Companies - Sailfish Example

When I first looked at Sailfish Royalty I thought they weren't large enough in scale to operate effectively as a royalty company and that their assets were too speculative.  I've recently taken a deeper dive and found the company to be more interesting.

Sailfish, $FISH on the TSX venture exchange, has a market cap at the time of this writing around $82 million CAD.  They a small number of assets.  This seems like a good time to expound on valuing royalty companies.

I'd love to hear from others how they value Royalty companies.  My methods are a work in progress.

Valuing Royalty Company Assets

The true value of royalty companies is the present value of their future cashflows.  Let's break that down a little.

Producing Mines

Cashflow.  If a miner mines 100 ounces of gold today and a royalty company has a 2% Net Smelter Royalty (NSR) on that mine the royalty company gets 2 oz of gold.  The miner's gold reserves (Proven & Probable) also go down by 100 ounces.  Today an ounce of gold is worth $1838 US dollars, so 2 ounces is $3676.  Thus, it is very easy to calculate the value of cashflow today for producting assets.  For simplification I like to convert all weird royalties into the equivalent NSR amount.

We can also assume a producing mine will likely produce in the future the reserves (Proven and Probable) and its resources (Measured and Indcated).  You can adjust for recovery ratios and that not all of its resources will convert to reserves.  But you should also adjust on the upside for inferred converting to measured and indicated, and for new discoveries from exploration drilling.  History has shown that using P&P + M&I typically underestimates by a considerable amount the final ounces the mine will produce, but it's good to be conservative.  

What about present value?

Imagine you had a 100oz bar of gold in a safe deposit box in your bank.  Ten years from now what is that bar of gold worth in today's dollars?  We don't exactly know what gold will sell for ten years from now, but throughout time an ounce of gold has bought a fine men's suit.  Thus, for our purposes we can act like the purchasing value of gold stays the same over time with some random noise fluctuation thrown in.  With gold you can do some hand-waving and ignore inflation.  You do give up inflation adjusted returns that you could have had putting your money elsewhere, but we can compare potential returns later after we value something.

Now, you could build a spreadsheet and estimate mine production by year and do a proper Discounted Cash Flow (DCF), and that would be great.  It's probably the best you can do, even though it will be wrong as you don't know future metal prices or future mine production with certainty.  Instead, you could just take resource & reserve royalty ounces at current metal prices and be almost as accurate with a whole lot less work.

Production Project value in US Dollars = (Proven oz + Probable oz + Measured oz + Indicated oz) * roaylty rate * current market price per oz

Development Assets

I'm throwing anything with a 43-101 or JORC maiden resource, PEA, PFS, or Feasability Study into this group.

The Pebble mine in Alaska has a lot of ounces of metal in the ground.  If we used the producer metrics above it would turn out badly.  Why?  Pebble is very unlikely to become a mine, and if it did become a mine it will be many years in the future.  There are a lot of projects like Pebble with resources that never become mines.

Development Project value in US Dollars = Production Project Value * percentage likelyhood of becoming a mine * (1 - artibrary discount percentage)

The arbitrary discount percentage includes a discount for time and for any other uncertainty or negative factors you want to throw in outside of likelihood of becoming a mine.  For example, in Venezuela the country might nationalize mining assets and invalidate all royalty claims, big discount percentage for the chances that happen.

I also like to apply an adjustment for projects that have likely exploration upside before going into production. If there are drills still turning on the project and it is open along strike or at depth the resource is likely to grow and grow soon.

Pre-Resource Exploration Projects

Great Bear hasn't released a maiden resource but they have done a LOT of drilling.  SolGold's Porvenir project has released maybe 5 drill holes.  What would we do if a royalty company had a royalty on one of these?  Well, we'd use some rules of thumb to guess at a resource size, then we'd discount the probability it becomes a mine and increase the arbitrary discount percentage to help account for the risk of being way off on the resource estimation.

Pre-Drilling Exploration Projects

Rick Rule likes to call these "Consolidated Moose Pasture".  Maybe they have some geologic modeling, surface sampling, geophysics, or are near producing mines.  If it hasn't been drilled odds are it's worth $0 and a royalty on it is also worth $0.  For most royalty companies ignoring all pre-drilled projects is best.  They cost the royalty company nothing and they likely have no value.

But there are exceptions.  EMX is in the royalty generation game.  They have a lot of assets that haven't been drilled yet but probably will be.  I've found the best way to value these is just to assign an arbitrary dollar value to one or a whole group of them, and to make that value conservative.

Cases Study - Sailfish Assets

It's worth noting Sailfish's current market cap is around $82m CAD, or about $65m USD.  If that cap closed towards my estimate of value overnight you'd make a pretty penny.  If that gap closed in a decade you'd make about a 10% return.  Only $28m of that value is from production projects where the value estimates are even a little useful.  The rest is highly speculative in both directions.  The projects could continue to not get deveoped or they could start construction.  There is a lot of exploration upside, but some of that exploration upside is included in my valuation and might not happen.

Personally I am not invested in Sailfish, but I am keeping an eye on them as developments at any one of these projects could change their value significantly.  An invsetstor with strong insights or opinions on one or more of these projects could end up with a very different valuation than I did that could make this an interesting investment for them.

Tocantinzinho

This project by El Dorado gold is in the Tapaos Region I previously wrote about and like a lot.  In Dec 2020 El Dorado had P&P reserves of 1,781,000 oz Au and 2,029,000 M&I oz Au resource.  The early studies of the project all assume El Dorado would pay the $5.5 million USD to reduce the royalty to 1.5%.  El Dorado has listed the asset as non-core in Oct 2020, which  means they are probably pursuing selling it, which is suprising as they build a 72km road to the project and the economics look great to me.  Back in 2019 it was fully permitted minus a couple of minor permits to expand the access road, it's not clear if those permits were renewed.  I don't really understand why El Dorado didn't proceed with the project.

Production Project Value = 3,810,000 project oz * 0.015 royalty rate * 1838/oz + $5.5 million buydown = $110 million USD
Development Project Value = $110 million * 80% chance it becomes a mine * (1 - 20%) discount for having to wait for Eldorado to sell it = $70.4 million USD

I see limited pre-production exploration upside so I leave Adjusted Development Project value unchanged.  Others might think this has less of a chance of becoming a mine than I do.

San Albino Core

Mako mining has already stockpiled ore with an estimated 3-5k oz Au equivalent in it and have started processing it a couple weeks ago.  So I give them 95% chance of being a regularly producing mine.  They have 178,600 oz M&I Au and 303,700 oz M&I Ag as of October (and a large Inferred we like but give them no credit for).  Sailfish has a 3% NSR on this portion of Mako's property.

Production Project Value = 178600 * 0.03 * 1838/oz + 303700 * 0.03 * $27.30/oz = $10 million USD

Development Project Value = $10 million USD * 0.95 = $9.5 million

Between the inferred being infill drilled now and the statement that "San Albino remains open along strike in both directions and downdip" from Mako along with their current drill programs I am going to add 85% of their inferred with the expectation that the number will actually likely be larger as exploration bring in more ounces.

Adjusted Development Project Value = $9.5 million + 93,400 * 1838/oz * 0.03 * 0.85 + 153,600 * 27.30/oz * 0.03 * 0.85 = $14m

Mako Exploration

Make is exploring on 18,817 hectares (188 sq km).  Sailfish has a 2% NSR royalty on 134.5 sq km portion of that.  Los Conchitas, which is adjacent to San Albino and would use the same mill has had over 26,000m drilling alraedy had Mako has plans to drill 73,000m more over the next two years with drills already turning now.  Drill results indicate it is likely similar to San Albino but larger.  I'll throw Los Conchitas and the rest of their exploration area and say they can find a San Albino's worth of gold throughout it and there is a 60% chance of it being mined.

Wild Value Guess = 272,000 * 0.02 * 1838/oz  * 0.6 + 467300 * 0.02 * 27.30/oz * 0.6

Spring Valley

Sailfish has various NSR rates from 0.5% to 3%.  We'll guess they have an average of 2% over the main minable area.  In 2004 it had M&I of 4Moz.  Waterton Capital was drilling it again in 2018.  It's low grade 0.63g/ton open pit type resource. Nevada is a great jurisdiction and it's next to a producing mine by a large mid-tier producer.

Production Project Value = 4,000,000 * 0.02 * 1838/oz = $147 million

Development Project Value = $147 million * 0.50 (chance it becomes a mine plus some discount for time) = $73m

El Compas

1.5% NSR on a producing mine. Before being taken into production it had 2,939,000 oz Ag equivalent Indicated (more than that again inferred, which is nice).

Production Project Value = 2,939,000 * 27.30/oz * 0.015 = $1.2 million.
[edit: original math misplaced the decimal place and had $12 million instead of $1.2 million]

Moonlight

2% NSR on some land next to Spring Valley.  Hasn't  been drilled.  Estimated value $0.

La Cigarra

The La Cigarra project has a large resource but has been stalled for quite awhile now. Sailfish's claims are on some property surrounding the stalled project. Estimated current value $0.

Gavilanes

Sailfish owns 100% of this property and is the "operator".  It has a historical resource that if you include the inferred is pretty decent sized.  Silver is back in vogue, maybe somebody will pick this up.  Estimated value $1m.