Description

In the resource space, one theme that has worked well for us over the last two decades has been investing with management who either come back to an old stomping ground, management who operate spun off assets from prior companies or management that is utilizing a playbook that has yielded a past success. The other theme that has helped us invest in the precious metal space is that grade is paramount. An investment in Silvercrest Metals (SIL CN) has elements of all of the above.

This first came on our radar when we saw that the company brought on a new President (Promoter) who came on board following an open market purchase of 450,000 units last December for $750k. Each unit consisted of a common share and a one-half warrant exercisable at a share price of $2.29 for two years. It is very rare to see an executive in the mining industry write a check to buy stock. Following this transaction, the management, board and employees own 18% of the fully diluted company.

Upon seeing this, we dug into the situation more.

Background:

SilverCrest Metals Inc.is a Vancouver-based junior exploration company focused on the Las Chispas property, which consists of 27 concessions over 1,400 hectacres and is located in Sonora, Mexico. Sonora is an established, stable mining jurisdiction and home to several silver and gold mines, notably First Majestic Silver Corp.’s (FR: TSX) Santa Elena Mine (~25 km south of Las Chispas), and Premier Gold Mines Ltd.’s (PG: TSX) Mercedes Mine (~32 km West of Las Chispas).

The current management team is led by the CEO, Eric Fier, who is a geologist and mining engineer. He has been operating in Sonora for 20 years, including President and COO of the SilverCrest Mines Inc. (not to be confused with Silvercrest Metals) team which discovered, permitted, constructed and operated the Santa Elena Mine, prior to its acquisition by First Majestic in October 2015. Eric has an extensive resume and has been a part of building 10 mines and he has worked in over 30 countries. His daughter Rosy is a geologist and mining engineer and has been working on the project (Santa Elana and now Las Chispas) for roughly 10 years. One of Eric’s sons, Nathan, is a mining engineer and also works on the property.

Eric and his team discovered, drilled, permitted, financed and constructed the Santa Elana mine, which is practically next door to Las Chispas (25 km away). Silvercrest Mines was sold to First Majestic in October 2015. The shareholders of Silvercrest Mines took 23% of First Majestic at the time and the shareholders made approximately 600% over the next 9 months. One month prior to the sale to First Majestic, the management acquired the property now known as SilverCrest Metals. Tjos was spun off as a $5 million market capitalization company with $5 million in cash. The genesis behind this land purchase was that it is 25 km away from Santa Elana and should cost less than $10/ton to ship to the mill which the team had constructed. The acreage was highly prospective and home to a past mine, which had produced 100m oz at 1,700 g/t of silver and 15 g/tonne of gold.

The bottom line to the Silvercrest Mines story was that the Santa Elana mine was finished on time and under budget. It took 4 years from the first drill hole until the mine was brought into production. This is the timeline that Eric and the team are trying to repeat at SilverCrest Metals.

Asset:

The company released its resource for the first time in Feburary. It was an impressive release as the mine is ranked as the 7^th highest grade primary silver deposit globally and 4^th highest grade in the Americas. While the grade is truly remarkable, they’re within the range of historical production in the area. The resource estimate delineated 3.4 million tonnes at 572 g / tonne of silver equivalent, of 62.8 million oz of silver equivalent. Assuming the company mines this at a rate of 1,500 tonnes per day, it would have a 6.5 year mine life with the resource that is already discovered. At the average grade, the ore has a current value of $350 / tonne. The operating costs of the mine sold to First Majestic had an all in cost per tonne of $75. Assuming $100/tonne of operating costs, the mine would generate annual EBITDA of $136 million.

While a 6.5 year mine life may not be that exciting, we should note that there is good upside to the resource. The current resource estimate is based on 5 veins. There have been over 23 veins identified on the property and every vein is still open for exploration. The company has been hitting on 80% of its drill holes and adding ounces to reserves at a rate lower than $0.20 / oz. It is important to note that everything that has been discovered is within 300m of surface and over 12 km of veins are visible from surface. There has been drilling on 9 of the 23 veins. In addition, the majority of the resource and most of the drilling has been done within 250m of surface. Little drilling at depth has been completed.

The 3k tpd mill that the management team built at Santa Elana cost $65m in 2013. The company is currently contemplating a 1,500 tpd mill and most analysts estimate it will cost $65 million. We expect that the return on capital will be extremely rapid as stopes can be put into the ultra-high grade portion of the mine (called Area 51) where the margins per ton are as high as $400.

It is possible that the management could bypass building a mill altogether. Ore from Las Chispas property could be sent on a truck for 45 minutes down the road to the Santa Elena or Mercedes mills (2,000 tpd mill). The grade at Las Chispas is 3x higher than Santa Elena and 2x higher than that of Mercedes and as such it can become a very desirable asset to both First Majestic and Premier Gold. It is worth noting that First Majestic’s 3,000 tpd mill sources about 1,000 tpd from the leach pad at 70 g/t and they mine 1,600 tpd from underground at 260 g/t. The ore at the leach pad isn’t very economic and their mine life is shrinking.

Valuation:

As far as valuation is concerned, we think that over the next 3 years, the company will be able to discover enough ore to prove out a 10 year mine life at a 1,500 tpd mining rate. In total, $70 million in capital may be needed for drilling and the development of the mill. Assuming all of the capital gets raised at the current share price, which is very conservative, the fully diluted share count would increase from 78m shares to 110m. At a 10 year mine life, we could apply a 8-9x cash flow multiple to the mine, which would result in a $8.70-9.80 share price 3-4 years from now.

Catalyst

Catalysts:

-          Ongoing drilling – hope to have another 40-50 holes out by summer

-          August – updated resource

-          Q4 – PEA and another updated resource

-          Financings – remove risk and force buyers to the board