Equinox Partners Precious Metals, L.P. - Q4 2021 Letter
Dear Partners and Friends,
PERFORMANCE & PORTFOLIO
Equinox Partners Precious Metals Fund gained +14.1% in the fourth quarter of 2021 and lost -11.6% for the full year. By comparison, the GDXJ junior gold mining index gained +11.3% during the quarter and declined -21.3% for the year to date.
mining in west africa
With over 15m ounces of gold mined annually, West Africa likely edged out China as the top gold producing region in the world last year. The rapid growth of gold production in West Africa over the past twenty years is due to companies bringing projects on time and on budget in the region. West Africa’s geology, topography, community support, and contractors have made mining in the region surprisingly predictable, as the following chart makes clear.
Source: Orezone presentation
Given the sizeable investment in the region, gold investors have been closely following the series of coups that have swept West Africa over the past nine months. Since May of last year, the governments of Mali, Guinea, and Burkina Faso have been removed in military coups. While the political situation in each of the three countries is unique, the coups are related. First, they are a result of waning resolve on the part of the French to provide a security guarantee in francophone West Africa. Second, the coups in Guinea and Burkina Faso are imitating the “successful” military coup in Mali. This second point is reinforced by the fact that the three coup leaders knew each other and trained together.
With West Africa accounting for 15% of all gold mined last year and about 30% of our gold mining portfolio at year end, we are closely following the facts on the ground. Thus far, the impact of the coups on our mines has been negligible. None of the mines in which we are invested were shut down, nor supply chains distrusted, or their expatriates evacuated. This initial operational continuity is not surprising. Gold is the largest tax generator and foreign currency earner for these countries. Moreover, the new governments are in real need of financial resources, especially Mali and Burkina Faso where they are engaged in a fight with Fulani Jihadists based in the Sahel.
As France and the United States have taken a step back in the region, Russia has become more active. Russians are helping the Malian government through the deployment of the Wagner Group, and Russia is also making a similar play for more influence in Burkina Faso. Russian involvement in the region raises a series of important geopolitical questions as well as operational questions for mining companies.
At this point we still don’t know the extent to which the French and Americans are willing to cede influence to the Russians in West Africa. There is, however, good reason to believe that the Russians will be more successful than the French were at fighting the jihadists. We are also encouraged by the shared interest of the mining companies, citizens, and governments in both Mali and Burkina Faso. Given this alignment of interests, the possibility that our mines are shutdown or expropriated remains remote in our opinion.
top 5 Year-End holdings
West African Resources
In each of the second, third, and fourth quarters of 2021, WAF increased production and lowered its all-in-sustaining cost per ounce (AISC) sequentially. This resulted in strong free cash flow generation and reduced debt. By the end of Q3 ‘21, WAF’s debt balance was down to $65m and the company was in a net cash position. This operational success was not lost on the market as the stock ended the year up 20%.
On October 25th, WAF announced the acquisition of the nearby Kiaka deposit from B2 Gold for $100m in cash and a royalty on the first 4m ounces of production. This attractively priced acquisition adds ~6m ounces of resources to WAF’s assets. While Kiaka’s head grade is much lower than the company’s Sanbrado project, the two assets are only 45km away. When Kiaka goes into production, WAF will be the second largest gold producer in Burkina Faso. Specifically, the Kiaka acquisition, along with the previously purchased Toega asset, has positioned WAF to be a ~400,000 oz per annum producer by 2025.
To finance the acquisition of Kiaka and to start the construction of the necessary roads and camps, WAF raised $90m in the fourth quarter of 2021. The largest single factor weighing on WAF’s share price is West African politics, as we detailed earlier in this letter.
Endeavor Mining
Endeavour produced ~1.5m ounces of gold from seven West African assets at an ASIC of less than $900 per ounce in 2021. With a 25m ounce resource base and a successful brownfield exploration program, we expect Endeavour’s production and resources will continue to grow over the balance of this decade.
The company’s strong FCF generation is being used to simultaneously finance share buybacks, dividend growth, debt reduction, and production growth. Naguib Sawiris, who owns 19% of the company and sits on the board, deserves much of the credit for Endeavour’s capital allocation strategy. He pushed the company to make countercyclical acquisitions in 2020 and then allowed the return of capital as the environment normalized.
Last November, the management team outlined their 5-year exploration objective of discovering another 15-20m ounces at a cost of less than $25/oz. If Endeavor can deliver on this goal, the company will have a reserve base to comfortably support 3m ounces of annual production—twice its current production.
During 2021, the company generated $586m in FCF and achieved a positive net cash position. With 2022 capital expenditures projected to fall, Endeavor’s FCF should surpass $800m this year. Despite the strong operational and financial performance, the company continues to trade at 0.9x P/NAV. The largest single factor weighing on WAF’s share price is, again, West African politics.
K92
K92’s deposit in the highlands of Papua New Guinea just keeps getting better. In 2021, K92 set a production record of 100,000 ounces and achieved a run-rate of 120,000 ounces in the fourth quarter. These figures, while impressive, reflect just a fraction of the property’s long-term potential.
In 2021, the company discovered completely new mineralization with similar grade and continuity to the high-grade zones which it is currently mining. We expect the company will soon put out a new resource that will reflect these excellent drill results. This positive reserve update will not include the early-stage exploration of its Blue Lake porphyry-style mineralization, which provides additional upside optionality.
The company is aware that its production run rate is far too low given the size of the orebody it is mining. Accordingly, K92 is expanding its mill with the goal of operating at 1,400 tpd in Q3 of 2022. If and when the company receives additional permits, it is in a position to quickly double its operations to 2800 tpd.
The property which K92 is mining was originally owned by Barrick. Barrick sold the property because it didn’t believe the mineralization was sufficient to support a world-class orebody. That assessment looks increasingly mistaken, and K92’s share price has just begun catching up to the company’s enormous potential in our opinion.
MAG Silver
MAG Silver is the 44% owner of the high-grade, large-scale Juanicipio silver project in Zacateca, Mexico. The quality of the Juancipio project is beyond dispute, and Fresnillo—one of the world’s largest silver producers—is a proven operator. That said, the Juancipio JV has been plagued by a series of delays that have weighed on MAG’s share price over the past 18 months.
The Juancipio mine was scheduled to begin production in late 2020. Management now anticipates commissioning to start in mid-2022, bringing the project delay to over a year and a half. The latest setback is a result of the state-owned electric monopoly notifying Fresnillo that it was delaying the mine’s grid tie-in for six months.
While the JV is awaiting approval for the grid tie-in, Fresnillo has been processing a limited amount of material at two of its nearby mills. The cash flow generated from the milling will help mitigate additional costs from the delay. MAG still had to raise $46m of additional equity as well as take out a revolving debt facility in the fourth quarter to offset the delay. Post the capital raise, MAG has $75m in cash. This should be sufficient to fund the company through 2022, but the additional dilution was an unwelcomed surprise.
Despite the growing number of setbacks, the Juancipio JV remains a top-tier silver asset that has the ability to increase production to 8,000 tpd within a few years of initial production. During 2021, the company released a few exploration holes on the JV property from its 2020 exploration program that confirmed the continued depth of two of the asset’s major veins. The JV has historically been very frugal with exploration dollars, but we expect the JV to continue to outline a pathway to a larger reserve base in order support an expansion to 8,000 tpd. At this point, we believe the JV’s mill must reach commercial production for the shares to rerate.
Bluestone Resources
Bluestone’s Cerro Blanco is a highly economic open-pit project in the south of Guatemala with 3.3m ounces of gold equivalent at 1.6 grams/tonne. We expect the $300mm project to generate an IRR of more than 40%.
The obstacle for this project to move forward is permitting, not financing. Bluestone’s largest investor, the Lundin family, has made it clear to the market that if the permitting is secured they will lead the financing. The Lundin’s support is particularly valuable given their impressive track record of delivering projects in difficult jurisdictions. They were, for example, recently able to finance, build, and put into production the relatively larger Fruta del Norte project in Ecuador.
Trading at approximately a third of NAV, the market is clearly not anticipating the near-term permitting and financing of the project. Nor is the market giving Bluestone credit for exploration upside at Cerro Blanco. If and when the permits for an open pit at Cerro Blanco are secured, we expect Bluestone to rerate quickly. Given the level of support from Guatemala’s Giamante administration and the local community, we think the permits are likely a 2022 event.
Sincerely,
Equinox Partners
[1] Sector exposures shown as a percentage of 12.31.21 pre-redemption AUM. Performance contribution is derived in U.S. dollars, gross of fees and fund expenses. P&L on cash is excluded from the table as are market value exposures for derivatives. Unless otherwise noted, all company data is derived from internal analysis, company presentations, or Bloomberg. All values are as of 12.31.21 unless otherwise noted.
Endnote: Unless otherwise noted, all company-specific data derived from internal analysis, company presentations, Bloomberg, or independent sources. Values as of 12.31.21, unless otherwise noted.
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Prior performance is not necessarily indicative of future results. Any investment in a fund involves the risk of loss. Performance can be volatile and an investor could lose all or a substantial portion of his or her investment.
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