Fortuna's Silver Lining in Argentina

10/04/2019 5:00 am EST


Adrian Day

Chairman and CEO, Adrian Day Asset Management

Fortuna Silver (FSM) has announced the start of pre-production mining at its Lindero gold project, another milestone towards first gold pour in the first quarter of 2020, explains Adrian Day, editor of Global Analyst.

In building the mine, Fortuna experienced a modest delay and cost overrun, largely due to unusually heavy rains which flooded the road to the site. But the mine is well on its way to completion, 70% complete as of the end of August.

Guidance is for the mine to produce 145,000 to 160,000 ounces of gold in its first 12 months remains, and representing nearly half of the company’s free cash flow by 2021, after the ramp-up is complete.

Earlier in September, Fortuna issued a convertible debenture with interest of 4.65%, raising $40 million. The funding was not necessary to complete construction at Lindero, but Fortuna, a very conservative company, wanted a minimum of $50 million cash on hand until Lindero is successfully producing.

Fortuna has three strong mines (long-life and a high-grade silver mines in Peru and Mexico, respectively, in addition to Lindero), a strong balance sheet, and technically strong and conservative management.

The problem is that Lindero is in Argentina. The opposition is expected to win October’s election handsomely, bringing concerns that the country will see higher inflation, export controls, and another debt crisis.

All this has real impact; Fortuna’s VAT refund after mine completion may turn out to be considerably less, in dollar terms, than what it paid, for example, while inflation will lead to higher wages at the mine, and most important export controls may limit what it can take out of the country in dollars. Since it has more-or-less completed its construction costs, it is now in no need of pesos in the country.

In addition to the realty is the perception which will affect investors’ willingness to hold companies heavily exposed to the country. Unfortunately, this could get a lot worse before it gets better, so we expect Fortuna to trade below comparable valuations for other growing producers.

Already undervalued, the stock is discounting most of the risks. At this price, it is trading at only 85% of book, with a cash-flow multiple of 7.5 times. Fortuna is a buy and a strong one. We do expect further volatility as the Argentina situation develops, so you should be ready to trim positions on rallies, and add on any shocks that may come along.

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