27th July 2020 JANUS ANALYSIS

Nine [Rings] for Mortal Men*… Now it’s Silver’s Turn

• Collated nine Silver stocks as BUYs, for near-term capital appreciation

• Interpret that we are within late “Euphoria” Stage of Minsky’s credit cycle
• Gold & Silver movements corroborate, that a near-term spike very likely
• Au/Ag provide no safe-haven during a “mean-reversion event”
• FRES, HOC, EXK, CDE, HL, AXU, SSR, PAAS, BCM

We live indeed in historic times; our collective memories are so short that within
20-years of the Dot.com Bubble we are re-visiting PE’s approximately double the
long-term average, with put/call ratios matching levels last seen in March 2000.
Repeated instances of “irrational exuberance” has led market theorists, such as
James Dines, to observe that Bubbles (i) “are somehow invisible to the masses”,
and in particular, “are invisible to those inside the Bubbles”; and that (ii) the axiom
“it is different this time” always applies. One could go further and suggest that
Bubbles are, in fact, only visible in retrospect. The “obvious” valuation discrepancy
has absolutely no bearing on whether stocks rise or fall in the short-term.
Which is the reason why, those relying on fundamental valuation metrics are
always too early to call the top; collective investor behaviours sustain markets for
far longer, pushing them higher than anyone expects. It’s pertinent in this context
to note that the greatest theoretical returns of any Bubble reside in the final thrust.
The concluding 25% of the timeline accounts for ~80% of the capital gains, with
the final seven percent of the timeframe typically accounting for ~50% of capital
appreciation; and is why, when the market mean-reverts, nobody Sells in time.
Dines also believes that for a precious metal thrust to be sustainable, the
movement of the gold and silver market must corroborate each other, for added
validation (aka Dow Theory). The common reason against buying silver revolves
around the perception that it is purely an industrial metal, no longer a monetary
medium; an argument we have long abided by, and propagated. However, Silver
has climbed 85% in three months, benefitting from money spilling over from the
nascent rush in gold, clearly above the ~$1,900 resistance level. Although Gold
blue-chips have been trending higher for a year, Silver has been a laggard, but we
believe it is more likely to outperform in the short-term.
On that basis, buying silver stocks may seem mercantile, but follows our thematic
that the market continues upwards on the presumption that additional monetary
accommodation by Central Banks (at the behest of political caprice) will be
forthcoming. Current investor actions are, therefore, logical on the basis that,
whatever future trouble arises, resultant Central Bank actions will support equity
prices. We are entering that “new paradigm” typical of Bubble peaks.
We preface all the above by the observation that Gold and Silver equities are
climbing in tandem with the market, that they offer almost zero diversity (from a
CAPM perspective) or “safe haven” status. It’s present rise is a celebration of
market excess, even among PGM producers, with collapsing demand and global
Gaius L.L. King surplus, one fund manager claiming they had the lowest PE globally, despite
mandatory mine closures! We intend to Sell as soon as “profit taking” commences.

*
J.R.R. Tolkien
 Silver Buys

Just for a bit of fun, we have decided to enclose selected market commentary
throughout the note, as evidence of mass-media exhorting punters how febrile
the market is; implying that if you don’t invest now, you will miss out! A historical
record that should be an interesting reflection by year’s-end!

Fresnillo (FRES: LSE) - BUY

There are not many silver blue-chips globally, Fresnillo is a Mexican-based

precious metals mining company incorporated in the United Kingdom, and is the
world's largest primary producer of silver. Officially, it has seven operating
mines†. There are, however, long-term structural issues to do with increasing
depth and lower grades. C1 costs rose in 2019 with annual production down
11.6% over the pcp as a result of lower grades at Saucito, Fresnillo and San
Julián. Management have forecast significant operational improvements, but the
benefits are not scheduled to be borne out until at least 2021.

2020 guidance is 51-56Moz Ag, 815-900koz Au, ~58kt Pb, ~90kt Zn. Currency
devaluation should favourably impact AISC for 2020.

This is a silver play, analysts are scrambling to readjust their numbers, and
Fresnillo is the one name that many fund managers gravitate towards when they
want to gain commodity exposure. It is not a company we would naturally select
as a long-term investment, with it’s production profile flattish for the foreseeable
future, and growth prospects average. But in the short-term, there is a trade to
be had.

†
Operations at Soledad-Dipolos remain suspended as a result of the court ruling to vacate
the area at the site of the mine
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Hochschild (HOC: LSE) - BUY

Listed in the UK, it is one of the few local mining companies with direct exposure
to silver; operating three underground epithermal deposits‡, two of which are
located in the south west of Peru and one in the southern Argentinian province of
Santa Cruz. It too suffered closures as a result of the Covid pandemic, impacting
the tail end of Q1 production, whilst still managing to achieve an attributable
94.1koz eq. (~8.1Moz Ag eq.). Average realised prices (before commercial
discounts) were $1,623/oz Au (currently >$1,900/oz) and $14.2/oz Ag (currently
~23/oz). All the company’s mines have restarted (18th May), which implies that
at least 50-60% of Q2 earnings will be negatively impacted.

Early 2020 guidance was 422k Au eq. (36Moz Ag eq.) assuming an Ag:Au ratio
of 86:1 (2019 average). AISC was forecast to be between $1,040 and $1,080/oz
Au eq. (or $12.1 to $12.5/oz Ag eq.§). Given its key commodity prices are > 20%
higher, any impact on its annual profitability will be negligible, with some upside.
It has $178m in cash.

2020 free cashflow yield is estimated to be significantly higher than its immediate
peer group, so although it is not as leveraged as others (e.g. Coeur) to take
advantage of increases in the silver price, it is less financially risky.

Endeavour Silver (EXK: NYSE) - BUY

Engaged in mining in Mexico, operating the Guanaceví and Bolañitos mines, the
latest addition (El Compas) was commissioned in March 2019; with two new
additional operations planned. The 2020 PFS for Terronera, resulted in a NPV5%

‡
Arcata mine was placed on care and maintenance Q120
§
Q1 was $11.9/oz.
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US$137m, 30% IRR and a 2.7-year payback. Initial 10-year mine life, AISC of
$2.10/ oz Ag (net of by-products).

Company did suspend all three of its mining operations on April 1st as mandated
by the Mexican government, but restarted again in May. Q220 plant throughput
down 52% over the pcp; although Ag eq. was only down 42% due to higher
grades. Management intend to update shareholders on production and cost
guidance on August 6th. In the interim, significantly higher silver prices will
positively impact operating margins.

Coeur Mining (CDE: NYSE) - BUY

Coeur operates five mines in North America. Gold and silver sales account for
74% and 26% of revenue, respectively, while combined zinc and lead sales were
minimal. Recent finalisation of annualised zinc and lead benchmark treatment
charges, at $299.75 and $182.50/t, respectively, validated management’s
decision to suspend mining and processing activities at Silvertip, mid-February.

Like many other producers in April, Coeur withdrew its full-year 2020 guidance
given both Canadian and Mexican operations were suspended. It does have a
hedging portfolio over its gold production, 2Q20-4Q20: 143koz @ ~$1,450/oz
(floor) and $1,830/oz (ceiling); which is disappointing, given we typically target
unhedged producers. However, previous 2020 guidance was 317k-366koz Au,
not including Ag credits (implying an additional 62k to 71koz Au eq. revenue).
Meaning, pre-Covid guidance, hedging only accounted for a 41-48% of 2020
production. Given tonnage losses, and outstanding hedging commitments, it is
reasonable to assume Q2 results will be significantly down over the pcp.

However, it also implies that there is significant scope for increases in

profitability, especially considering the rapid appreciation in the Ag price. Expect
a slew of analyst H2 earnings revisions in the very near future.

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Hecla Mining (HL: NYSE) - BUY

Hecla produces a third of all the silver in the U.S. Early 2020 guidance was 11.1-
12.1Moz Ag, and 212-225k Au at an AISC US $1,150-$1,250/oz eq. after by-
product credits. Although advice was withdrawn in April due to uncertainty tied to
the COVID-19 pandemic, three (located in the U.S.) of its five mines remained
operational (~ 69% Au eq. output). Two in Mexico and Quebec were temporarily
suspended due to government instructions; but have since restarted. Despite
interruptions, recent quarterly had Ag production up 12% (on a six-monthly basis)
over the pcp, Au (-2%), Pb (+32%, in part, influenced by striking workers at Lucky
Friday in 2019), with Zn up 13%; and $76m in cash.

Alexco Resource (AXU: NYSE) - BUY

An odd choice given we are actively targeting silver producers, but this is a near-
term development with the start of modest production/sales** inside the next six
months (although cashflow negative in the interim). Meaning that in the near-
term, investors and analysts are be actively updating their assumptions as silver
appreciates, which in turn, should impact their share price targets.

Development of Keno Hill, including mill related refurbishment and underground

equipment procurement, is progressing. In addition, management are preparing
to restart underground operations at the Flame & Moth and Bermingham
declines, where ~ 300m of development (each) will be needed to access ore
levels. Initial cut and fill ore production is scheduled for Q121. The 2019 PFS
numbers assumed a 400tpd, increasing to 550tpd in year 4, a LOM net smelter
return of ~US$550/t; resulting in an NPV5% ~$100m and an after-tax IRR 74%.

**
20kt at the Bellekeno mine
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Commodity assumptions used: US18.25/oz Ag, $1.22/lb Zn, $0.96/lb Pb and

$1,325/oz for Au.

Something we do find interesting, is the silver purchase agreement by Wheaton,

originally from October 2008, but recently amended. Just to remind, Wheaton is
a precious-metals (gold, silver and palladium) streaming company. In Q120, the
price paid under various agreements averaged $4.50 Ag (currently ~$23/oz),
$426 Au (currently >$1,900/oz) and $402 Pd (currently ~2,150/oz), which is
nothing short of amazing. Unsurprisingly then, it generated $255m in revenue,
$178m in operating cash flow (50% increase over the pcp), all whilst reducing net
debt by $182m.

The point being, if Wheaton agrees to the modification of terms, it’s usually worth
a finer examination of the detail. For receiving 25% of the payable silver stream,
the new production payment scheme covering the first two years, from first
shipment of concentrate, until the delivery of 2Moz Ag, uses the formula [90 –
((Ag market price – 15) * 10)]; after-which, subsequent payments are based on
[90 – ((Ag market price – 13) * 8)].

Management claim the new production payment reduces “downside pricing risk”,
enhancing “upside opportunity”. Certainly, if you run various pricing scenarios,
the higher the Ag price, the less the revenue stream accrues to Wheaton. But
don’t think it is generosity, as part of the deal, they have acquired 2m warrants at
an exercise price of $3.50 up to five years from the date of issuance. Although
Wheaton get less revenue as the commodity price appreciates, their warrants
package offsets the loss considerably more. The corollary, the lower the
commodity price inputted into those algorithms, the higher the payments to
Wheaton.

Companies like Wheaton provide capital to companies with early stage projects
that are likely to enter production in the near future. Like venture capitalists,
supporting companies who often find it difficult to access capital markets, their
investments reduce equity dilution when share prices are low. The difficulty for
revenue stream companies is that it can be many years, sometimes even
decades, before invested projects come on line and an annuity pays back the
initial investment. In any case, this is a trade, not a long-term investment into
AXU.

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SSR Mining (SSRM: NASDQ) - BUY

SSR Mining recently received final approval for an on-market “merger of equals”
(zero premium) with Alacer Gold Corp (ASR). Both companies have a market
capitalisation of ~US$3Bn. The combined entity will have increased volume and
liquidity; and we expect additional buying from fund managers wanting exposure
to both gold and silver assets.

None of the projects are World-Class. SSR have Marigold gold mine in Nevada,
the Seabee Gold Operation in Saskatchewan, and Puna Operations in Jujuy,
Argentina; in addition to two advanced feasibility projects. ASR has Çöpler Gold
Mine located in east-central Turkey, which in the past has had a host of issues,
but is increasingly a low-cost producer.

The real benefit of the merger, apart from cheaper finance costs, is that one
partner (ASR) has financial strength and ongoing cashflow, but lacks organic
growth opportunities. The other (SSR) having a number of projects that need
near-term funding. It potentially could be one of those rare instances in mining
where the combined entity results in an outcome greater than the sum of its
parts; as opposed to the normal takeover in the mining sector involving a
massive premium, with the purported potential never realised because of
mispricing.

3-year consensus has an average annualised production of ~780koz Au eq. at an

AISC ~$900/oz.

Pan Am Silver (PAAS: NASDQ) - BUY

The largest (listed) primary silver focussed mining company globally, with
operations in North, Central and South America. Like many other companies,
PASS suspended normal operations at its mines in Mexico, Peru, Argentina and
Bolivia in the latter part of March 2020 to comply with various mandatory national
quarantines. By mid-May, they had all recommenced extraction activities.
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Despite a Q120 loss, primarily driven by non-cash devaluations of certain assets,

cash-costs and AISC were $8.18 and $15.26/oz Ag, respectively. Whilst Gold
segmental cash-costs and AISC were $757 and $969/oz. Both sets of costs
substantially less than current respective commodity prices, low cost
demonstrated by consolidated AISC (including gold by-product credits) at
$3.49/oz Ag.

Production disruptions which will affect Q220 output, earlier 2020 guidance was
27-28.5Moz Ag, 625-675koz Ag, at a consolidated AISC US$4.50 to $6.50/oz Ag.
These cost assumptions, however, use $17.50 Ag (currently ~$23/oz) and
$1,525/oz (currently > $1,900/oz). Clearly, the company has lost the best part of
several months of production, but believe potential revenue increases will more
than offset pandemic disruption.

††

Bear Mining (BCM: CVE)

Bear Creek holds the diffuse Corani silver-polymetallic deposit in Peru. Proven
and Probable Reserves (>138Mt) averaging 51g/t Ag, 0.9% Zn and 0,55% Zn.
Sufficient to support an annualised production of ~9.6 M Ag, 98Mlb Pb and 69Mlb
of Zn, over an initial 15-year mine life. The most recent NI 43-101 (Dec 2019)
suggests the project has an after-tax NPV5% ~$530m, an after-tax IRR of 23%,
payback period of 2.4 years and an initial capex $580m. Reserves were
estimated using $20/oz Ag, $1lb Zn and $0.95/lb Pb, not as conservative as other
comparative studies. Design assumes LOM 68% recoveries for Ag in both
concentrate streams, 75% for Pb and 69% for Zn. The payabilities are difficult to
estimate accurately what TC/RC costs will be incurred, until closer to the actual
production date. Overall, this is a very large bulk mining operation, sensitive to
commodity pricing.

Which brings us to our final point; in March this year, BCM engaged BNP Paribas
and Société Générale as joint lead arrangers for a $400m credit facility to
commence construction. At the time Ag was $12.20/oz, Zn 83c/lb, Pb 73c/lb, we
thought the chances of securing debt financing looked extremely slim. If silver
prices continue to climb, however, this deposit is so leveraged to prevalent

††
John Mauldin in his latest weekly missive, quoting The Felder Report noted that
“Apple, Amazon and Microsoft together are now valued at nearly $5 trillion. That’s
larger than the entire economy of Germany and nearly the size of the Japanese economy.
What is really most astounding, though, is the aggregate valuation of these three
behemoths relative to their free cash flow. Only at the peak of the Dotcom Mania did we
see anything like it. The difference today is that these companies are growing free cash
flow at a tiny fraction of the rate they grew it back then. If that was a bubble, then what
is this?”
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commodity prices, the impact on the underlying economics profound, it could in

the eyes of potential debt providers, notionally de-risk the project.

It has been our observation that merchant banks typically jump at mining projects
at the height of various commodity thrusts, only to regret it later; many taking full
ownership as a result. Over half of Europe is now at negative rates, and the
demographic crisis about to envelope the region has barely begun. Debt
financiers are desperate to get returns, and are increasingly willing to take on
additional risk to do so. If/when BCM are able to secure finance as a result of
this silver boom, expect a rapid rerating in equity-price.

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