Is the Market Missing the Point with Lexington Gold? Explorer or Miner or Both?
“…The ace in the hole though, which is the key to understanding why LEX is so undervalued, is the Jelani JV with Harmony Gold, South Africa’s biggest gold miner..”
Since the post-COVID inspired lack of love for the AIM market, and the subsequent shunning of mining stocks generally in the London Market, there has been very little to cheer about for long suffering holders of Junior explorers. But perhaps the market has been looking at Lexington gold through the wrong set of specs (pun intended) and needs to change its lenses.
We have seen signs of life recently in Lithium stocks where market prices for Lithium products are up 50%. Similarly for Rare Earths, where globally, we seem to have hocked ourselves to the mercy of the Chinese Communist Party. Rare Earth stocks have been on a bit of a tear in response to the rapid and emerging reversal of the rapid fall in prices in 2024 and early 25. However, despite the fact that the gold price is up by 200% or more since 2021, gold explorers have been left in the mire, whereas those which have come into production or are moving towards it have started to see an uplift. Where does Lexington sit in all this?
The difference between miners and explorers from a valuation standpoint is very important. It’s all about how close they are to generating actual cash flow. Generally, the closer they get to actually mining stuff, the higher the position on the value-added curve which can look something like this:-
- With a pure exploration play on greenfield sites, this is the equivalent of a lottery and valuations here are anyone’s guess, or the results of the latest rock chip samples, drilling result, or whatever the promoters can use to create interest.
- Then you have the explorer that has struck something interesting at the drilling stage, still has no accredited JORC resource and therefore still has to raise lots of cash to drill further to (hopefully) get a JORC.
- The explorer, at considerable cost then drills more and gets a decent JORC reserve
- The next stage is an expensive pre-feasibility study followed by a decision to mine/bankable feasibility study.
- Followed by a three to five year mine development phase.
This whole process can take 10 to 15 years or even longer. And this is reflected in the valuation parameters the market is prepared to make. So where does Lexington fit in this scenario?
- Currently it has 2 JORCs, one, for 210K oz in North Carolina, another in South Africa for 6.05mn oz, in which it eventually will have a 49% interest.
- The USA properties have JORC enhancement potential, but have also potentially been put up for sale to raise funds for the massive potential that exists in the South African prospects
- LEX has 4 exploration prospects in South Africa at Klerksdorp, Kroonstad, Ventersburg and Bothaville where potentially huge exploration targets can be pinned, between 30 and 90 million ounces
- The ace in the hole though, which is the key to understanding why LEX is so undervalued, is the Jelani JV with Harmony Gold, South Africa’s biggest gold miner.
The Jelani JV, is literally, a gold mine, in all but name. It sits to the South West of the decades old Target 1 Mine (Previously Lorraine) which is currently operating from 2 shafts (out of a total of 4) and has its own production facility. However, what is much less well known is the fact that the Target 1 property only has 5 years of reserves left. If these are simply run down, Harmony will have to lay off close to 4,000 employees which would cost up to US$150mn not omitting to mention that it would crystallise certain environmental liabilities relating to tailings and other mineworks. Furthermore, the grades in the JV are 6g/ton compared to the 4+g/ton at Target 1 and is therefore cheaper to mine.
So Harmony has a big choice to make over the next year or so. Do they close the Target mine and incur huge costs with zero reward or do they reactivate the southern part of the mine which is already served by infrastructure in place? Reactivation would save Harmony having to fire its employees who could be redeployed. Instead of incurring this substantial cost, these could be applied to reactivation and refurb of shafts 3 and 4 at Target and mining the resource at the JV along with any other potential reserves that Harmony may have up its sleeve in that part of the mine.
Which way will Harmony jump? Well, if you put a Harmony hat on for a minute and you are faced with a choice of closing down and kissing bye bye to up to $250mn or more in costs, or reinvesting that cash in the refurbishment of already existing facilities, you would want to know how much you are going to make out of this potentially. So, lets take a look at the numbers for a minute and assume that of that 6.05mn oz, only half of it is mineable, so 3mn oz.
-3mn/oz X $3000/oz = $9bn of revenue
-Assume AISC $1,700/oz = Gross Profit Before Tax of $1,300/oz
-Therefore gross profit over life of project = 3mn/oz X $3,000/oz = $3.9bn
-Conservative NPV based on $2.8bn of cashflow, 10% discount rate over 20 years, estimated investment of $350mn = $838mn
-Of which Lex share (49%) is approximately $415mn.
That’s not a bad return on investment over say 20 years, representing an IRR of well over 20%! It should be stated at this stage we have no idea as to what the pre-feasibility study has revealed, but we should know very soon. So perhaps the real question here is what is the Harmony hat you are wearing telling you? And what does that tell you about LEX? There are two possible answers:-
- That the JV goes ahead and LEX becomes a 49% shareholder in a venture that generates $3.9bn of gross cash flow over 20 years OR,
- Harmony decides it doesn’t want a pesky junior miner, albeit a very professionally run one, as a partner, and decides to buy out LEX
Of course, if the second option is triggered that means a potentially massive EARLY birthday present for LEX shareholders relative to its meagre Market Cap of GBP16mn. Of course, there is still so much that could happen, but given the relative closeness of an announcement re the Pre-feasibility study and an almost certain move to obtain a mining license by management, perhaps investors should absolutely be focusing on what concrete value they see coming out the Jelani JV rather than treating LEX as a pure exploration play, which is how it is valued at the moment.
Smart investors may want to seriously consider the emerging narrative that LEX is 80% of the way to becoming a real miner with a very reliable partner through its JV with Harmony Gold, with whom it is certain to be applying for a mining license. Not only that, it has a stable of extremely interesting, potentially huge exploration plays in South Africa lurking up its sleeve.
How do you value all that? 16mn quid? Really?
