believe it reasonable for Chesapeake's share price to trade up to C$37.50. Page 2 of 2. Top Pick CKG.pdf. Top Pick CKG.p
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11 JANUARY 2011
Barry Allan , 416.860.7650
[email protected] Ryan Hanley, Associate 416.860.8337
2011 TOP PICKS – Metals & Mining
2010 Was an Excellent Year for Metal Prices; We Expect 2011 Will Be As Well Prices for most metal products are near all-time highs, with gold and silver prices reaching new historical highs. The dynamics behind record-high precious metal prices have been the continued acceptance of gold and silver as legitimate asset classes coupled with unprecedented uncertainty regarding the future of the Euro and US dollar. Low interest rates, demand by central banks, and a lack of major sources of new supply have all helped support precious metal prices. For 2011, we expect gold and silver prices to continue to set new records. With the element of seasonality taking effect, slightly lower prices are anticipated mid year before returning to record levels by the end of 2011. An overall price of $1,400/oz for gold is anticipated in 2011, with a comparable silver price of $25.45/oz. At these price levels, the mining industry would remain buoyant and enjoy record cash flow levels, and investors should consequently continue to be drawn to the sector.
ALSO LOOK FO R HIDDEN LEVERAGE TO SILVER AND COPPER We believe a consistent theme for 2011 will be the impact of high silver and copper prices on bottom-line performance. While many gold producers have historically downplayed the impact of by-product credits on financial performance, with record prices for copper and silver, by-product credits are likely to be an important contributor to cash flow and earnings, becoming an important element with regard to share price performance. While our chosen top picks for 2011 are development companies where there is no actual annual production, we believe companies with silver and copper byproduct credits may outperform pure gold producers, being an important contributor to share price performance.
JUNIOR PRO DUCERS AND DEVELOPMENT CO MPANIES SHOULD CO NTINUE TO BE THE FOCUS OF INVESTO R ATTENTION Overall share performance of producers of gold and silver will likely be dominated by companies with smaller market capitalizations compared to senior, well established producers – a reflection of investor appetite for a higher degree of risk. In addition, the evolution of ETFs for both gold and silver provides investors with a low-risk option to gaining exposure to the rise in metal prices without taking on the added risks of operations or geology. In an environment of greater leverage to better metal prices, new discoveries along with material additions to reserves and resources, and development of new mines should be the hallmarks of good share price returns in 2011. Our Top Mining picks for the year reflect a focus on developing assets. Two major new discoveries of gold in 2010, Rubicon Minerals and Sandspring Resources, will be expanded and advanced towards production. However, the deposit types are at opposite ends of the spectrum – Rubicon is a high-grade underground resource, while Sandspring is a lowgrade open-pit resource. Similarly, Chesapeake Gold’s huge gold resource will continue to be de-risked through refined engineering and development enhancements consistently adding underlying value. At current gold prices, all three of these projects have robust indicated economics. By comparison, Geologix Exploration has good exposure to higher copper prices. While the indicated economic potential of the project already looks positive, there is the potential to materially expand the known resource. Finally, not all mines go well. In 2011 we expect Minefinders’ production to suffer as it wrestles with correcting a torn leach-pad liner and as it deals with lower-than-expect ore grades from known reserves. Unfortunately 2011 will be a transition year for Minefinders, and while it has a silver component, overall performance is not expected to be good.
This report has been created by Analysts that are employed by Mackie Research Capital Corporation, a Canadian Investment Dealer. For further disclosures, please see last page of this report. w w w . m a c k i e re s e a r c h . c o m
T or ont o 4 16. 86 0. 7 60 0
M ont r e al 51 4. 3 99. 15 00
V anc ouv er 60 4. 6 62. 18 00
Cal gar y 4 03. 21 8. 6 375
Re gi na 30 6. 5 66. 75 50
S t . A l ber t 78 0- 46 0- 64 60
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CHESAPEAKE GOLD CORP. CKG-TSX: $12.90 — BUY TARGET PRICE: $37.50; PROJECTED RETURN: 190.7%
John McClintock , 416.860.7613
[email protected]
Metates Represents the Future of Precious Metal Mining SUMM ARY – FO CUS O N LEVERAGE IN 2011 AND FUTURE MINES In-line with our belief that precious metal equities in 2011 will be dominated by junior producers and best-of-breed development-stage precious metal companies as investors seek a higher degree of risk and leverage to rising precious metal prices, we believe Chesapeake should benefit from these market dynamics.
HIGHLIGHTS – STRATEGIC ASSET FOR SENIO RS AND INTERM EDIATES A significant precious metal asset in a mining-friendly jurisdiction: Chesapeake is a precious metal development company focused on developing its flagship Au-Ag-Zn Metates project in Durango, Mexico containing 29.3mm oz Au eq (19.79mm Au oz and 528mm oz Ag), as well as 3,750mm lbs Zn using MRCC commodity prices. Large resource supports a sizable production potential: Using the Metates June 2010 PEA and comparable projects, we see the potential to produce an annual average of 1.1mm oz Au eq (746,000 oz Au and 19.93mm oz Ag) at total operating cost of US$361/Au eq oz net of Zn byproducts (114.7mm lbs) for 20-years, subsequent to a US$3,460 million capital expenditure. Chesapeake is a strong take-out candidate: With the production profile of senior and intermediate gold companies set to decline 17% between 2015 and 2017, while operating costs increase 5%, we estimate if every company within out Mackie Research Capital coverage universe added a Metates-sized project by 2015, production would still decline 13% and operating costs increase 3%. Using industry investment criteria, still yields an above average return: Applying commodity prices of US$945/Au oz, US$15.75/Ag oz and US$0.60/lb Zn, an acquisition cost of US$1,416 million (based on our target price of C$37.50 per share) and 25% leverage with a 6% interest rate, we calculate an IRR of 6.2%, which is better than the historical average of 5.4% for leveraged post-acquisition IRR’s for similar precious metal projects. Using the average leverage post-acquisition IRR of 5.4% would imply an acquirer could pay up to C$44.87/share for Chesapeake.
TARG ET VALUATIO N – LOTS OF VALUE We use a sum-of-parts discounted cash-flow valuation to achieve a NAVPS of $75.00 based on a 10% discount rate. At a valuation level of 0.5x NAVPS based upon the trading range of similar-stage projects, we believe it reasonable for Chesapeake’s share price to trade up to C$37.50.
Courtesy of BigCharts.com Key Risks As typical with most development companies and large capitalintensive mining projects, we see the most significant risks to an investment in Chesapeake as, but not exhaustive of: fluctuations in commodity prices, exposure to the inherent risks associated with developing and processing of mineralized material to produce metals in a cost-effective manner, the ability to continue to secure financing to develop and construct the Metates project, and permitting risk.
Corporate Profile Chesapeake is a precious metal development company focused on developing its flagship Au-Ag-Zn Metates project located in Durango, Mexico that contains 29.3mm Au eq oz (19.79mm oz Au and 528.79mm oz Ag) plus 3,750mm lbs Zn. The company is headed by Randy Reifel, who is well known throughout the Canadian mining world for the discovery and development of the San Martin and El Sauzal deposits, which were sold to Glamis Gold Inc. in 2002 for US$220 million. Also, Mr. Reifel currently sits on the board of Goldcorp Corp. (TSX:G − TP:C$75.90, BUY) as a Director.
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