Overview
Petropavlovsk PLC (POG) is a London-registered Russian gold mining company with operations in the Far East of Russia, and in terms of production, reserves and resources, it is one of the major gold mining companies in Russia. The group is listed on the London Stock Exchange and has operated since 1994, with a key area of focus being the Amur region. In the Far East of Russia, it is amongst the most experienced, and the most established vertically integrated gold producers and focuses on exploration, mining and production of a stable output of low-cost gold. The Amur region benefits from a strong mining tradition, access to hydroelectric and well-developed infrastructure.


Source: Company website

To support mine development and provide test working, the group has a range of technological services, which includes a network of laboratories, equipped with high-quality equipment and supplemented with a metallurgical test plant in Blagoveschensk, which was a first of its kind in the Russian Far East. Regis, which is headquartered in Blagoveshensk, is the specialised exploration company of the group, which enables Petropavlovsk to conduct all geological exploration in-house from grass root early-stage prospecting to detailed exploration. The exploration team of over 850 highly skilled specialists is supported by two fully accredited assay laboratories and uses effective exploration technologies. The engineering division at Petropavlovsk operates its own powerful project engineering body, which develops new technological solutions, undertakes the full body of scientific research work in areas of metallurgy, ore concentration and output, and perform work on the geo- economic estimation of ore bodies. The group’s operations also include mine construction, which is undertaken through Kapstroi and has enabled the group to expand its mines within the competitive timeframe.

Key Statistics
 


Management

Sir Roderic Lyne has been the Non-Executive Chairman of the group since 29 June 2018. Dr Pavel Maslovskiy is the Chief Executive Officer after he was re-appointed for the second time on 29 June 2018. He co-founded the company with former Chairman Peter Hambro. The CEO is supported by Dr Alya Samokhvalova, who is the Deputy Chief Executive Officer, and Mr Alexey Dubynin, who holds the position of Chief Financial Officer.

Segments

The operations of the group are differentiated based on its four hard rock gold mines, namely Pioneer, Pokrovskiy, Malomir and Albyn. These are engaged in mine development and field exploration as well as gold and silver production. With the most significant exploration potential, Pioneer remains the flagship asset of the group. Albyn is the largest producing mine of the group and has a 100% non-refractory Resource base, while Malomir is the largest asset by Reserves and Resources and has around 90% refractory ore Reserves.

Top Shareholders

 
(Source: Thomson Reuters)

Recent Development

On 10 October 2019, S&P Global Ratings upgraded the outlook of the company to “Positive” whilst affirming its B- rating, following the recent rating upgrade made by Fitch Ratings on 22 August 2019. This paved way for an upgrade in the next six to 12 months if the group successfully establishes a longer track record of an efficient operations and deleveraging. The rating agency cited a potential to reduce leverage meaningfully from 2020, stronger governance, improved liquidity and stronger operating progress which the group has made over the past 12 months as the rationale behind the new outlook.

Sales and Production Update

During the period from 1 July 2019 to 30 September 2019, operations continued to perform in line with forecasts and smooth ramp-up has continued at the POX Hub, as the company reported 53% rise in total gold sales to 126.4koz (Q3 2018: 82.8koz) including 38.9koz from processing refractory gold concentrate at the Pokrovskiy Pressure Oxidation (POX) Hub. The Company successfully processed 13kt of third-party concentrates and reached recoveries of approximately 95% over the period and from processing 35kt of Malomir refractory concentrates, a total of 29.7koz of gold was produced with recoveries stabilising at around 91%. The group reported that it remained on track to meet its full-year sales target of approximately 450koz - 500koz and the construction of a new flotation facility at Pioneer remained on track for Q4 2020 commissioning, which would double the refractory ore processing capacity of the group.

Financial Highlights (H1 2019, in $m)

 
(Source: Company Filings)

As the average realised gold price slightly rose from $1,285/oz in H1 2018 to $1,286/oz in H1 2019 and physical volume of gold sold from hard rock mines was up by 12% from approximately 201,400 oz in H1 2018 to approximately 225,031 oz in H1 2019, group revenue during the period was reported at $305.3 million, 13% higher than the $270.5 million achieved in H1 2018. Revenue from hard rock mines was 12% higher at $290.0 million than the $259.3 million achieved in H1 2018 and compared to 37,385 oz in H1 2018 at an average price of $16/oz, hard rock sold 42,976oz of silver in H1 2019 at an average price of $15/oz. Reflecting the effect of Rouble depreciation, higher recoveries achieved at Albyn and Malomir as well as higher grades of ore processed. Total Cash Costs for hard rock mines decreased to $841/oz during the period from $899/oz reported in the prior year. Due to the decrease in impairment of non-refractory ore stockpiles at Albyn and the decrease in total cash costs, all-in sustaining costs declined from $1,138/oz in H1 2018 to $1,029/oz in H1 2019, while All-in Costs was down from $1,353/oz in H1 2018 to $1,091/oz in H1 2019. Compared to $77.6 million Underlying EBITDA in H1 2018, hard rock mines generated Underlying EBITDA of $100.1 million, while total underlying EBITDA rose from $60.7 million in the prior year to $83.3 million in H1 FY19, and operating profit rose to $2.5 million from an operating loss of $23.7m reported in the previous year. The group reported a profit before tax of $16.8 million against a loss before tax of $33.1 million recorded in the previous year, while profit for the period rose to $13.5 million versus a loss of $39.9 million in the prior year. Profit for the period attributable to equity holders was $14.3 million against a loss of $40.3 million, which translated into basic profit per share for H1 2019 of $0.00 compared to $0.01 basic loss per share in H1 2018. Key investment projects undertaken by the company were ongoing exploration related to main mining operations, expansion of tailing dams at Pioneer and Albyn, exploration and development to support the underground mining at Pioneer and Malomir, and the POX project completion, on which the company invested an aggregate of $45.0 million in H1 2019 compared to $67.2 million in H1 2018. Forward contracts to sell an aggregate of approximately 130koz of gold were outstanding at 30 June 2019 at an average price of $1,281/oz, and it reported cash and cash equivalents of $39 million along with a 2% decrease in net debt to $557.4 million (31 December 2018: $568 million).

Key Performance Indicators (FY 2018)


(Source: Company Filings)

Mineral Resources (Moz), which is the quantity of solid material of interest available for eventual economic extraction, measures the size of mining and exploration assets and indicates medium to long term production growth potential. Despite the depletion of 0.79Moz by mining and disposals, the group maintained the total Mineral Resource at 20.52Moz, driven by successful exploration campaign in 2018. Ore Reserves (Moz) is the economically mineable part of a Measured or Indicated Mineral Resource and measures the size and quality of the mining assets and the ability of the group to ensure the life of operating mines at profitable levels. As new open-pit Reserves were established at Albyn, Malomir and Pioneer, total group reserves rose by around 7% or 0.6Moz. Total Attributable Gold Production (koz) is the total of the gold produced from the hard rock mines, and as the majority of group revenue is attributable to the sale of the gold, it underpins the financial performance of the group. The group produced 422.3koz of gold, which was within the outlook of the management.

Financial Ratios

 
(Source: Thomson Reuters)

Ratios Commentary

In the latest quarter, the company reported a year-on-year increase in profitability margins, with the gross margin considerably more than the industry median. Moreover, the company reported positive profitability in H1 2019, against a loss in H1 2018. While the liquidity position has improved over the years, it was below the industry median. The leverage ratios have remained more-or-less stable over the past couple of years, but were more than the industry, indicating the group was more leveraged than its competitors. The asset turnover ratio was less than the industry, suggesting that the group can improve its financials by better utilising its assets.

Valuation Methodology
Method 1:Price/Cash Flow Multiple Approach (NTM)



To compare POG with its peers, Price/Cash Flow multiple has been used. The peers are Kaz Minerals PLC(NTM Price/Cash Flow was 3.89), AK Alrosa PAO(NTM Price/Cash Flow was 4.42), Highland Gold Mining Ltd(NTM Price/Cash Flow was 5.72), Antofagasta PLC(NTM Price/Cash Flow was 6.79), Polyus PAO(NTM Price/Cash Flow was 7.37), Polymetal International PLC(NTM Price/Cash Flow was 8.64),and Atalaya Mining PLC(NTM Price/Cash Flow was 8.94). The mean of Price/Cash Flow (NTM) of the company’s peers was 6.54x (approx.).

Method 2: EV/EBITDA Multiple Approach (NTM)



To compare POG with its peers, EV/EBITDA multiple has been used. The peers are Atalaya Mining PLC(NTM EV/EBITDA was 2.90), AK Alrosa PAO(NTM EV/EBITDA was 3.73), Kaz Minerals PLC(NTM EV/EBITDA was 4.62),Antofagasta PLC(NTM EV/EBITDA was 5.83), Polyus PAO(NTM EV/EBITDA was 7.23), and Polymetal International PLC(NTM EV/EBITDA was 8.01). The median of EV/EBITDA (NTM) of the company’s peers was 5.23x (approx.).

Share Price Commentary

 
Daily Chart as at 23-October-19, before the market close (Source: Thomson Reuters)

On 23 October 2019, at the time of writing (before the market close, at 12:22 pm GMT), POG shares were trading at GBX 9.43 and remained flat against the previous day closing price. Stock's 52 weeks High and Low are GBX 10.46/GBX 5.70. The company’s stock beta was 0.24, reflecting a weak relationship with the benchmark index. The outstanding market capitalisation was around £314.24 million.

Risks Assessment and Growth Prospects
The group reported that it remained on track to meet its full-year target of gold sales, and due to the strong operational performance, including a smoother-than expected ramp-up of the POX Hub. TCC (total cash costs) guidance for FY2019 was revised downwards from $850 – $950/oz to $750 – $ 850/oz. The POX Hub commenced treating the third party concentrates during the quarter and increase in throughput at the new flotation plant at Malomir would reduce reliance on processing third party material while increasing economies of scale. It aimed at comprehensive cost control, increasing throughput and recovery rates. The group focus on operational improvements, which could result in an operational efficiencies and cost optimisations. The company has an extensive portfolio of exploration and development projects, and across the gold industry in Russia, POX Hub is the largest autoclave complex in terms of production capacity, representing the next phase of development growth.

However, the prices of various commodities which the company markets can be subject to significant fluctuations, and as the prices are affected by global supply and demand, the company does not have any influence on the market prices, which can lead to a significant impact on the financials and affect the business assumptions. Delivery of essential goods and supplies, and exploration and extraction activity can be affected by severe weather conditions, such as cold temperatures in winter and torrential rain. An appreciation of the Russian Rouble against the US Dollar can result in an increase in the costs as significant costs are incurred in or influenced by the local currencies, while the company reports its results in US Dollars.

Conclusion
In the last three years, the company has improved its financials, as revenue rose at a CAGR of 6.26% and gross profit was up at a CAGR of 7.24%, indicating improved efficiency as well. Moreover, net income increased at a CAGR of 15.67% and the group remains hopeful of the positive developments made by it.
Based on the decent prospects, and supported by valuation undertaken using the above two methods, we have given a “BUY” recommendation at the closing price of GBX 9.43 (as on 22 October 2019) with single-digit upside potential based on 6.54x NTM Price/Cash Flow (approx.) on FY19E Cash Flow per share (approx.) and 5.23x NTM EV/EBITDA (approx.) on FY19E EBITDA (approx.).
 
*The “Buy” recommendation is valid for the current price as covered in the report (as on 23-October-19).
*All forecasted figures and Peer information have been taken from Thomson Reuters.

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