SF t1ps Smaller Companies Gold Fund

Newsletter - Issue 18
January 2011

And from Silver to Gold, Vatukoula Gold Mines is currently the second largest holding within your Fund. Shares in the company have slipped back by roughly 20% following an admittedly disappointing recent production update. We have however been buying up loads more of the company as of late. The extract below appeared on T1ps.com on 19 January 2011. Little more needs to be said...

Vatukoula (VGM) is down at 160p today - market cap £130 million. This is the second largest holding in the t1ps Gold Fund. It is also one of the cheapest stocks in the fund. So we have bought more. A lot more. And here is why:

The recent trading statement was a disappointment. There is no disguising that. But let us look beyond the second quarter of this year (ended August 31st). The company has a projected FY output of 80,000 oz and says that by the fourth quarter it will be producing at an annualised rate of 100,000 oz - the implied production rate is thus 25,000 oz. in Q3 and Q4 at a cash cost of $655 oz.

The company has an official mine life of 12 years. But since the mine has been producing for 70 years and the resource has never been higher I safely predict we have at least 20 years output. But I shall work on the assumption that it is just 12 years.

I also normally work on the assumption that the gold price will (at least) maintain its real term value of today's $1370 going forward. But I am now going to be cautious and use a $1000 gold price over 12 years just to make my point on how dirt cheap this stock is.

I will assume that the average grade is 6.5g/t which is the long run average. Now I know that exploration work on the site has located higher grades and some folk reckon that grades could go to 7.5g/t. If that happens the current plant will produce 125,000 oz. and cash costs fall by c$150 oz.

And finally I assume that power costs are unchanged. But I know - as do you - that work is underway on a biomass power generation plant which could cut costs by anywhere between $100 and $200 oz.

Ok so base case valuation. I simply run a DCF model using a standard 10% discount rate and I come up with a valuation (based on $1000 gold, 100,000 oz. over 12 years at a 6.5g/t grade with no power savings) of c240p per share. That is 50% upside from here. The variables (where I use a slightly higher discount rate) are as follows:

Every $100 on the gold price which you use is an additional 40p per share.
Assume lower case power savings that is 40p per share - double that for upper case
Assume grades go up to 7.5g/t and that adds 160p to DCF valuation.

So even on a $1300 gold price with lower cost savings and 7g/t the DCF valuation should be pushing 500p per share - i.e. upside of well over 200%.

Right now no-one seems to love Vatukoula. The big funds are not selling but I know that some PCB/s/private clients are selling in a bit of a blind panic. Volumes are not great so the share price could turn on a sixpence. I really do not care when that happens (when not if) as we just take the view that this is a good chance to buy some more. As such we have done that in spades once again today. The t1ps stance is strong buy.

http://uk-analyst.com/shop/page-article/action-article.show/id-130010064

Share Structure

As of 8th September 2010 the Company is aware of the following persons who hold, directly or indirectly, voting rights representing 3% or more of the issued share capital of the Company to which voting rights are attached.

Shareholder No. of Shares % of Issued Capital
Sprott Asset Management 14.926m 18.06%
Canadian Zinc Corporation 12.573m 15.21%
Black Rock Investment Management (UK) 4.996m 6.05%
Capital Research and Management 3.214m 3.89%

Percentage holdings not in public hands 28,107,623 34.01%

http://www.vgmplc.com/investors/mshareholders/