Pretium Resources (NYSE:PVG) is a mid-tier gold producer that operates the high-grade Brucejack mine in British Columbia, Canada. Brucejack is one of the newest and highest grade mines in the sector, but has been plagued by volatile operational performance since going into production in mid-2017. After widely missing guidance in 2019, management released an updated reserve and mine life in the first quarter of this year that showed lower grades and production, sending the stock tumbling further.

Despite these challenges, the company has been surprisingly consistent in generating free cash flow and reported a record second quarter that sent its shares up 25% in one day. With gold prices now hovering around $1,900 per ounce, Brucejack could be one of the most profitable independent assets in a tier-one jurisdiction, making it an attractive takeover target for larger producers looking to grow production.

Looking at a five-year chart, it’s clear that the company has had frequent ups and downs. Many investors have been turned off by the roller-coaster trajectory of the share price, with the typically volatile price of gold looking much more stable in comparison.

Five-year share price performance

(Source: YCharts)

Brucejack: A Troubled Asset with Long-Term Potential in a Top Jurisdiction

After Pretium acquired the project for $450 million in 2010 and started aggressively drilling newly discovered zones, the mine progressed through economic studies and permitting before reaching commercial production in July 2017. Over the past decade, the project has seen many highs and lows, from heightened expectations by promotional management of a tier-one mine to engineering consultants and critics who suggested the project was not mineable at all.

The vein system being exploited at Brucejack is very high grade but complex, making consistent mine planning difficult. Going back to 2018, the first full year of commercial production, head grades at Brucejack bounced from 9.1 g/t to 14.9 g/t and back down to 12.4 g/t, giving investors whiplash.

New management believes that it can stabilize the mine’s output and released an updated reserve estimate in March, which included a total of 4.2 million ounces gold in proven and probable categories, less than half of the 2016 estimate before Brucejack went into production.

While the overall tonnage has remained largely the same, successive reserve estimates have included decreasing gold grades as the company has learned more about the deposit during mining. The reserve grade dropped from 14.7 g/t gold in 2016 to 8.4 g/t currently, a decrease of over 40%.

While this is a huge disappointment for early backers, the silver lining is that management believes this new reserve grade is a much more reliable level going forward, and the mine has already proven that it can be very profitable at head grades around 8-9 g/t.

With lower grades forecast, management has also scaled back estimates that it would achieve production of over 500,000 ounces per year at Brucejack. While much lower than initially planned, annual gold production of over 300,000 ounces would still make Brucejack one of the largest gold mines in Canada.

To improve the reliability of production and guidance going forward, the company is spending more on drilling in advance of production. Along with lower expectations, there should be fewer negative surprises moving forward.

Another positive aspect is the relatively long mine life of 13 years, which is above average for a gold mine, especially a narrow-vein underground operation requiring much more drilling to prove reserves. In all categories, Brucejack currently contains resources of over 10 million ounces gold and 62 million ounces silver, with the potential upside of further discoveries on its large 1,220 square kilometer land package. Down the road management could also look at advancing the adjacent Snowfield project, a large low-grade porphyry with over 35 million ounces of gold; however, we do not assign any value to the project at this time.

Regional exploration potential

(Source: Company presentation)

Despite its unpredictable performance that has led to the company’s share price jumping and crashing with each successive quarterly result, Brucejack actually has a very consistent track record of profitability. The mine went into production in the third quarter of 2017, and after just two unprofitable quarters (which is typical for a new mine ramping up), the company has generated positive free cash flow every quarter since the beginning of 2018. Over these 10 quarters, Brucejack has spit out roughly $500 million in free cash flow, and on an annualized basis of the Q2 results, would be trading at only 7.3 times free cash flow. Pretium was cash flow positive even when gold was trading around $1,200 per ounce, unlike the majority of its peer group.

Even with the recent jump on a positive Q2 result, the company’s share price still has room to catch up to the broader gold sector after a poor third quarter in 2019 caused the stock to drop almost 30%, and further declines in early 2020 which has kept the stock well below its peers over the past year.

One-year share price versus peers

(Source: YCharts)

Second-Quarter Results Pave Way for Profitable 2020

After years of up and down quarters (usually preceded by leaky results), Pretium reported a strong Q2, highlighted by record free cash flow of $82.7 million. In the first half of 2020, Brucejack produced 173,000 ounces at $950/oz all-in sustaining costs (AISC), generating $125 million in free cash flow on an average realized gold price of $1,677/oz.

Looking at the same six-month period in 2019, production was mostly the same compared to 170,000 ounces while costs were slightly higher compared to $905/oz AISC. Free cash flow was a respectable $69 million in H1 2019 on an average realized gold price of only $1,319/oz, and it would take a major drop in the gold price to get down to those levels again.

If Pretium can keep its operational performance steady, the third quarter should show a very healthy profit as the price of gold averaged over $1,900/oz in Q3.

For the full year, management is guiding 325,000 ounces to 365,000 ounces gold produced at a head grade between 7.6 g/t and 8.5 g/t gold and an average recovery of 97%. AISC guidance has moved upwards to a range of $960 to $1,120 per ounce, including increased production drilling costs and COVID-19 related expenses.

With a rising gold price this year, management revised its guidance of free cash flow from $100-$170 million to $205-$275 million based on an average gold price of $1,800 per ounce versus an earlier assumption of $1,450 per ounce.

YTD actual and 2020 production and AISC guidance

(Source: Company presentation)

The company’s balance sheet is reasonable, with $125 million in cash and $460 million in debt. The company has used its positive cash flow to reduce net debt by more than 50% since the start of 2018.

Pretium is a Logical Takeover Target if Production Stabilizes

If production is stable for another few quarters, a high-grade single asset gold producer in Canada with a relatively large resource like Brucejack could become a takeover target.

The number of major independent producers is decreasing, and an asset of this scale in a tier-one jurisdiction could attract an acquisition in a strong gold market like this. Comparable single-asset producers include Lundin Gold (OTCPK:FTMNF) and Torex Gold (OTCPK:TORXF); however, both of its flagship mines are in much less desirable jurisdictions than Pretium. Despite a 25% drop in forecasted production, Brucejack can still churn out 300,000 to 400,000 ounces per year, which would be a material boost to many producers’ asset portfolios.

At a market capitalization of $2.4 billion and a manageable net debt load around $300 million, the larger mid-tier and senior producers could take a swing at the company.

On the other side of the table, we doubt Pretium would look to acquire any new assets itself. Management’s attention needs to be 100% focused on Brucejack, and due to the operation’s complexity, it doesn’t have the capacity to bring on a second asset. Brucejack fits best in a larger company’s portfolio which would smooth out the production bumps and add more technical and financial resources to fully optimize the mine.

Concluding Thoughts

Unpredictable performance and heightened expectations from management have made Pretium one of the most challenging gold miners to invest in over the last few years. After a disappointing start to the year with a reset mine plan, the company achieved a record quarter in Q2 and the market responded with the stock jumping 25% on the news.

Despite the erratic performance since startup, Brucejack has generated substantial free cash flow and allowed the company to cut its net debt in half in three years. With gold prices staying high despite some recent weakness, the last half of 2020 should be very profitable for Pretium, which is only trading at around 10 times estimated free cash flow.

The head grade is settling down between 8 and 9 g/t, which is still an impressive grade among global gold mines. While lower grade and higher cost than original expectations, the new lower projections for Brucejack appear much more achievable and still provide a healthy profit margin.

Larger-scale, single-asset gold producers don’t typically stay independent for long, and after Kirkland Lake’s (NYSE:KL) takeover of Detour Gold last year and other smaller deals, the list of opportunities is shrinking for senior producers looking to grow output and replace reserves. If Brucejack’s performance continues to stabilize, the mine could be an attractive asset to potential acquirers given its production profile and jurisdiction.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in PVG over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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