SAN JOSE DEL PROGRESO, OAXACA, MEXICO In an age of cost overruns, delayed projects, and eroding profits, Fortuna Silver Mines (TSX: FVI | NYSE: FSM) has managed to maintain something of a sterling reputation in the mining industry.
Since starting out in 2005 the company has permitted, commissioned, and operated its two silver-focused mines on-time and on-budget, establishing CEO and co-founder Jorge A. Ganoza and his team at Fortuna as proven mine builders and strong operators in Latin America.
In October I flew to Oaxaca, Mexico to visit the San Jose mine and property, which included visiting the companys efficiently run underground mining operation, newly expanded mill, onsite assaying lab and key stakeholders at the silver-gold mine.
My impressions were of a very well-managed mining operation that will continue to reward Fortuna shareholders as production ramps higher and the brownfields team unveils the potential of making additional discoveries in their commanding land position.
Fortuna is moving head with its growth plans, despite the pullback in silver prices, and so far has hardly slowed down at all. In September Fortuna completed a major expansion at San Jose, its silver-gold mine in Oaxaca, Mexico, by bringing mill capacity to 1,800 tpd from the 1,000 at which it started. True to form, the company completed the upgrade on-time and on-budget.
Fortunas San Jose mine, which came online on September 2011, is on track to produce approximately 2.5 million oz silver and 21,600 oz gold this year, while the increased mill capacity will allow the company to produce an estimated 3.4 million oz silver and 29,600 oz gold next year.
And Caylloma, the company’s more established mine, is expected to produce about 2 million oz silver this year, and roughly the same in 2014.
But San Jose, which was easily accessed about 47 km south of Oaxaca City in the arid scrubland of southern Mexico, is definitely the future for Fortuna. Not only is production climbing, but costs are lower, and exploration this year has yielded a major discovery on the property.
In February the company announced some big hits on what’s called Trinidad North, an area adjacent to the Trinidad deposit, but outside the established resource. The first results included 12.3 meters grading 427 g/t silver and 2.77 g/t gold, and 10.7 meters averaging 241 g/t silver and 1.57 g/t gold.
Then in April, further drilling returned 7.3 meters of 1,789 g/t silver and 10 g/t gold and 13.7 meters of 510 g/t silver and 3.32 g/t gold. And in May results included 19.3 meters of 736 g/t silver and 4.76 g/t gold, and 5.9 meters of 1,240 g/t silver and 6.94 g/t gold. And In August 8.2 meters of 487 g/t silver and 4 g/t gold. The company had a high-grade discovery on its hands.
In October, Fortuna announced updated Mineral Reserve and Mineral Resource estimates (as of July 4, 2013) for the San Jose mine. Included in the update is an initial estimate of the Mineral Resources for the Trinidad North discovery. Reported resources are 1.9 million tonnes grading 269 g/t silver and 1.67 g/t gold containing 16.3 Moz silver and 100.8 koz gold. Within the resource is an even higher-grade Bonanza Vein system. At a 100 g/t Ag Eq cutoff value, Inferred Resources in the Bonanza Vein at Trinidad North are estimated at 1.2 million tonnes averaging 330 g/t silver and 1.99 g/t gold containing 12.5 Moz silver and 75.5 koz gold. The company points out that the grades are roughly 50% higher than the existing Proven and Probable reserve average of the San Jose mine. Most exciting, the Trinidad North high-grade silver-gold discovery remains open to the north and at depth.
The potentially game-changing discovery at San Jose would have been pretty short-lived, however, if the company hadn’t signed an option agreement to acquire 100% of the Taviche Oeste Concession, where part of the Trinidad North discovery sits on, from Pan American Silver for US$10 million and NSR royalties totaling 2.5%
Fortuna had for years been trying to buy the concession called Taviche Oeste that entirely boxed in the San Jose mine, but owner Pan American Silver hadn’t shown much interest in talking. January this year Fortuna secured a deal to buy a 55% share of the land for $4 million in cash, and an option to buy the rest for $6 million more, with a 2.5% net smelter return royalty left for Pan American.
The ink was barely dry on the contract before Fortuna started announcing its high-grade hits from Trinidad North discovery that runs onto the new, and previously undrilled, Taviste Oeste property. The company is now working to integrate the Trinidad zone into the mine workings, with plans to start mining it by 2015.
Canaccord Genuity analyst Nicholas Campbell commented that Trinidad North “could be a game changer” for San Jose, and that given the grade, Trinidad North has the potential to boost annual production from San Jose to 6.5-plus million equivalent oz. silver, from 5 million currently.
He also noted that originally investors had been pretty skeptical of the deal, since theyve been eagerly anticipating Fortunas next big bet.
“While the acquisition of the Taviste Oeste concession in January 2013 perhaps wasnt the acquisition that investors were looking for, the $10-million price tag now looks like excellent value given the subsequent discovery of Trinidad North,” he wrote in a research note.
As for the main deposit at San Jose, infill drilling this year increased 22% in contained silver ounces and 27% in contained gold ounces relative to the December 31, 2012 reserve estimate which now stand at 3.9 million tonnes grading 196 g/t silver and 1.7 g/t gold containing 24.8 million oz silver and 215.1 koz gold.
And Caylloma, as of December 31, 2012 reserve estimate, has 4.3 million tonnes grading 130 g/t silver, 0.37 g/t gold, 1.52% lead, and 2.15% zinc containing 17.9 million oz silver and 51.1 koz gold.
The new San Jose resource, incorporating the Trinidad North discovery in the inferred resource category, helped prop the companys share price to $4.30 with 125 million shares outstanding for a market capitalization of approximately US$538 M.
With resources growing and investments paying off, CEO Ganoza says Fortuna is now concentrating on cost reductions for potentially low silver prices years ahead.
Due to the investments in exploration, mine development and infrastructure of our mines over last years, were in a comfortable position that allows us to tighten our capital budget at both mines for the period of 2014-2016, Jorge Ganoza said on a conference call.
The company has reduced corporate overhead expenses by 33%, or $5.5 million, thanks mostly to a 33% reduction in staff. It’s also slashed 24%, or $12.6 million, from its capital budget, bringing it to $40 million for the year. And it’s cut 26%, or $3.7 million, from its exploration budget by halting drilling at Caylloma and focusing the 5,300 meters of drilling at San Jose entirely on the Trinidad North discovery.
As to operating expenses, the company plans to reduce costs at Caylloma by 8%, or $1.7 million, by bringing costs per tonne from $95 to $88, and down to $85 per tonne between 2014 and 2016. The company hasn’t outlined per tonne cost reductions at San Jose yet, but costs there were a more competitive $77 per tonne for the second quarter.
With all the cutting back, including on staff, intensive capital projects, and operating expenses, the company expects to reduce its all-in sustaining cash cost from about $20.50 per oz silver this year to about $13 per oz for 2014 through 2016.
The newly incorporated all-in cash cost figure is quite thorough, incorporating everything from administrative expenses to brownfield exploration to development costs. For comparison, the all-in cost for H1 2013 is $27.27 per oz, while the cash cost per oz of silver is $7.11 for the same period.
We believe the all-inclusive sustaining cost numbers will be helpful in assessing the ability of our mines and business to generate free cash, particularly important in the current price environment, Jorge Ganoza said.
The all-in cost for next year includes the $12.5-million the company has budgeted to build the third phase expansion of the tailings dam at San Jose. This project is especially important because the tailings dam also serves as a water reservoir to supply the mine in parched Oaxaca.
Water has always been a sensitive issue at San Jose, with a small but determined part of the community protesting the mine because of unfounded concerns over water use and contamination. Those voices, however, seem to have largely died down now that the mine has been operating for more than two years now without generating any environmental liabilities.
The company has even been able to connect via a water pipeline a sewage treatment plant it refurbished in the nearby town of Ocotlan de Morelos to the mine site. The company had built the plant to benefit the community by treating their grey water, while also benefitting the mine by providing surplus water.
The approximately 650 jobs the company provides in the area, one of the poorest in Mexico, have also likely helped win the community over. Fortuna has implemented extensive training programs to bring skills to the locals, including a significant number of women in the community.
With community relations stable, costs decreasing, production increasing, and reserves growing, Fortuna looks well-positioned to grow despite the current silver-market downturn. Add in the $44 million in cash it has on hand, plus a $40-million untapped credit facility, and the company is on very solid ground. In the current depressed market environment, this gives Fortuna an even more competitive position and healthier valuation in a market very sensitive to risk.
The only key question remaining, and one only partially answered by buying the Taviche Oeste property, is what will be the next big catalyst for the company. For years investors have been waiting to see what Fortunas next big acquisition is going to be. So far theyre waiting. The company maintains, as it always has, that its looking for accretive silver-gold opportunities in the Americas in a disciplined but aggressive manner, so investors will just have to wait and see. Their patience may be well rewarded with the current market pullback creating increasingly more attractive opportunities.
I was very impressed by Fortunas San Jose Mining operations on my recent trip to Oaxaca. It re-affirmed the companys strong positioning in the market. I believe that the company is well-positioned to grow with their recent capital investments into San Jose. As production continues to increase, we should see their balance sheet improve in a market where many miners are not in such a luxury to do so. This will provide for a strong positioning to a recovery and resumption of the silver-gold bull markets making Fortuna one of the stronger silver-gold mining companies.
Fortuna has the strong combination of people, property and place with a good share structure, strong financial positioning. The management has demonstrated their ability to reward investors through successful mining operations that add value to shareholders. This is an investor friendly silver miner that can be bought at depressed prices in this market pullback. I see the current stock price levels as an excellent accumulation opportunity.
– Peter Spina, President of SilverSeek.com
FortunaSilver.com
TSX: FVI | NYSE: FSM
Shares Outstanding | 125.3 million |
Warrants | NIL |
Options | 6.04 million |
Market Capitalization | $440 million |
Peter Spina’s experience with the precious metal markets started back in the mid-1990s, which led to the creation of GoldSeek.com back in 1995. Today GoldSeek.com ranks in the top three most popular global gold websites and its sister site, SilverSeek.com ranks as the most visited silver website in the world. Back at the start of the new secular precious metals bull market, Peter established the technically-focused subscription newsletter, which at the start of 2005 was merged into the more comprehensive Gold Forecaster (goldforecaster.com) service. In addition to the newsletter and websites, Peter frequently appears in the media including MarketWatch, Reuters, and Investors Business Daily.
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