How to Take Advantage of Imminent Zinc Boom
One of the commodities that began a strong revival last year is uranium. After the March 2011 meltdown at the Fukushima nuclear power plant in Japan, uranium prices collapsed from about $74/lb to a low of $29/lb. However, since Japan commenced the process to restart some of its 43 idled power reactors, the uranium price has slowly increased to about $35/lb, up more than 20 percent compared with its low.
Because of this trend, we looked for an attractive small cap uranium related stock and found Azarga Uranium, which we recommended late last year. The stock hasn’t done much yet, but it usually takes years before these massive commodities markets move one way or the other. Once in motion though, the trend is hard to stop.
Another strong trend on the horizon in the commodities market is the rise of the price of zinc. This is going to take place in the following quarters and years, simply because demand for zinc is increasing, while production isn’t keeping up. Even to the contrary, several zinc mines have recently stopped producing or are bound to close.
Zinc is predominantly used to coat iron and steel to protect it against corrosion. Other applications are in batteries, small non-structural castings, and alloys, such as brass and bronze. Between 2012 and 2014 demand for zinc rose by 3.7% annually, and forecasts from metals specialist Sucden Financial again indicate a 4% rise in zinc demand in 2015, to 14.15 million tonnes.
Despite the growing market, no new zinc mines are opening. Since their peak in 2006 zinc prices have remained too low, which has discouraged spending on new mines.
Moreover, existing zinc mines are closing down. In 2013, Xstrata’s Brunswick #12 mine was depleted. And this year, the Century mine, Australia’s largest open-cut zinc mine, and the Lisheen mine in Ireland will close, too. Morgan Stanley estimates that by 2017 more than 1.2 million metric tonnes of annual mined supply will be taken out of production. That’s more than the United States uses in an entire year.
Demand exceeded output by 310,000 tonnes in 2014, the highest number in nine years. According to the International Lead & Zinc Study Group, that gap could expand to 1.98 million tonnes by 2017.
A logical result is that warehouse stock levels for zinc, which commodity exchanges, such as the London Metal Exchange, report, have declined the past few years. To keep the market in balance, production should increase by 500,000 to 600,000 tonnes of zinc per year during the next five years. But that production potential simply isn’t available.
Higher zinc prices will prompt new production, but increasing the production of existing mines doesn’t happen overnight, and starting a new mine takes several years.
According to a Bloomberg survey of nine traders and analysts, the zinc price will rise to $2,397 per tonne by year end (current price $2,140). Goldman Sachs predicts a price of $2,500 in 12 months, and BNP Paribas forecasts a price of $2,850 in 2016.
Finding a Zinc Gem
So with this knowledge in mind, we started our search for a zinc-related resource company with a market cap below $100 million. In order to narrow our search, we looked for a company with a project that’s nearing production phase.
Although very few companies meet those requirements, we found an attractive company. And it comes with an exceptional bonus.
Solitario Exploration & Royalty Corp. (NYSE MKT:XPL – $0.77 USD & TSX:SLR – $0.92 CAD) controls 30% of the exceptionally high grade Bongará zinc project in Peru. Its joint venture partner in the project is Milpo, the second largest zinc producer in Peru, operating three of the largest underground zinc mines in the South American country.
Milpo recently acquired the project from its parent, Votorantim Metais, which is the fifth largest primary zinc producer in the world, with three operating zinc smelters, two operating zinc mines, and also operations in the United States and China.
So far, Votorantim has funded 100% of project expenditures since inception of the joint venture in 2006. Nearly $60 million has been spent on the property to date. Milpo has further agreed to finance Solitario’s 30% participating interest for construction. Solitario will repay the loan facility through 50% of its net cash flow distributions. The terms of the Milpo-Solitario joint venture make Bongará a dilution-free project to Solitario and its shareholders.
Zinc mineralization at Bongará occurs as a Mississippi Valley Type deposit and is contained in carbonate rocks of the Pucará rock formation, the host-rock for many of Peru’s zinc mines. Peru is the third largest zinc producing country in the world.
Solitario released its initial NI 43-101 compliant resource estimate for the project on June 23, 2014. The Bongará resource estimate was based on a total of 486 drill holes completed between 1997 and 2013.
Measured and Indicated Resources totaled approximately 2.8 million tonnes grading 13.0% zinc; 1.9% lead and 19.3 g/t silver; or 15.5% zinc equivalent. And Inferred Resources totaled approximately 9.1 million tonnes grading 10.9% zinc, 1.2% lead and 12.2 g/t silver; or 12.4% zinc equivalent. Mineralization remains open to expansion in all directions.
Mineral resource statement for the Bongará Zn-Pb-Ag deposit. Source: Company press release.
Milpo has informed Solitario that it intends to complete a pre-feasibility study on the Bongará project by the end of 2015. This work will be instrumental in providing an initial analysis of project economics and guide the direction of feasibility work slated for 2016. In addition, Milpo plans to complete the access road to the project during 2015. To date, approximately 25 kilometers of the road have been completed with about six more kilometers required. Completion of the access road will allow acceleration of development activities and lower costs, as access has been exclusively by helicopter or footpaths to date.
Milpo should have no problem funding the project as it reported US$436 million in cash on its balance sheet at the end of 2014.
Next to the 30% share in the Bongará zinc project, Solitario also controls an 80% interest in the Mt. Hamilton gold project in mining friendly Nevada.
Great progress has been made on both the permitting and engineering fronts. All major federal and state permits have been received. And the results of an updated Feasibility Study completed in October 2014 revealed significantly higher annual gold production for the first four years, resulting in enhanced economics.
The updated 2014 Feasibility Study schedules higher daily throughput of 10,000 tonnes per day, higher reserve grade and increased resources for the project compared to the original Feasibility Study completed in February 2012. Measured and Indicated Resources have doubled to 828,000 gold-equivalent ounces since acquisition of the project. The 2014 Feasibility Study estimates 73,000 gold-equivalent ounces a year production with total operating cash costs at $558/oz. and initial capital costs at $91 million, making it an attractive project, even at today’s gold price. Potential to increase both reserves and resources to extend mine life is considered excellent.
Zinc is facing a significant supply-demand deficit in the coming years. Inventories are declining quickly as mines are being shut down and demand continues to increase.
Milpo is recognized as a preeminent zinc miner in Peru and brings a wealth of technical and operational expertise to bear upon the project. In addition, it has deep pockets to fund the project into production.
With many commodity experts forecasting significantly higher zinc prices, Bongará is bound to become a very valuable asset for Solitario.
Moreover, thanks to the Mt. Hamilton project, Solitario is on track to become one of the lowest cost U.S. gold producers.
Solitario has a little over 39 million shares outstanding and the stock’s 52-week range is $0.66 to $1.58.
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