- 2018 revenues increased by 25%.
- Full-year production also increased by 25%, surpassing 200,000 ounces for the first time.
- Free cash flow increased by 72%.
- Interest (and principal payback) coverage for 2019 estimated to be over 4x’s.
- Pays monthly interest and amortizes (redeems) a fixed number of notes each quarter.
This week, Durig Capital reviews the largest underground gold and silver producer in Colombia. Gran Colombia Gold has staged an amazing transformation from just a short three years ago, when Durig Capital began to carefully follow this issuer. After completing a well-timed and skillfully crafted restructure of its balance sheet early in 2018, the company has consistently continued to smash its production targets, and has once again impressed us with its most recent results for the fourth quarter and full-year 2018.
Gran Colombia is a cash flowing, rising star poised to shine as a gold mining powerhouse estimating production at over 200,000 ounces annually. Not only do we currently think that at about 2.3x’s EBITDA it’s common stock is significantly undervalued in the marketplace, we also see it’s uniquely structured, amortized bond issue – called “Gold Notes” – as a “golden opportunity” for fixed income investors seeking the rare combination of higher yields with, what we believe is, remarkably high cash flow and potentially lower risk. In addition to the accelerated return of principal that results from a quarterly redemption of about 5 million (face value), this senior secured debt offers investors an additional gold “premium” on top of the normal monthly interest payment should the price of the gold sold to redeem the bonds at the end of each quarter exceed 1,250/oz. This means there is potential for a substantial increase in total return for bondholders. Given Gran Colombia’s excellent performance in 2018 and their excellent prospects for 2019, we think these 2024 Gold Notes are well deserving of an overweighted position in Durig Capital’s Fixed Income 2 (FX2) High Yield Managed Income Portfolios, the averaged performance of which is shown below.
Fourth Quarter and Full-Year 2018 Results
Gran Colombia continues to produce outstanding results as evidenced by its recently released fourth quarter and full year results for 2018. The company has produced impressive gains in production, revenue, adjusted EBITDA, operating cash flow and free cash flow.
- Full year production exceeded the company’s guidance for 2018, with total gold production reaching 218,001 ounces, a 25% increase over 2017 production. The lion’s share of this production came from the company’s wildly successful Segovia mine.
- Revenues for 2018 were up 25% over 2017 levels, coming in at $268.5 million.
- Gran Colombia reported adjusted EBITDA of $102.4 million for 2018, representing an increase of 36% over 2017 levels.
- Net cash provided by operating activities for Q4 was $23.6 million, up 31% year-over-year. For the full year, net cash provided by operating activities was $79.7 million, an increase of 58% over 2017.
- Free cash flow for 2018 increased by 72% over 2017, coming in at $44.0 million.
The Executive Chairman of Gran Colombia, Serafino Iacono, praised the company’s excellent performance in 2018. “2018 was the watershed year for us, the one where everything we had been doing to turn things around in the two prior years all came together.”
A vital component of the company’s turnaround was Gran Colombia’s steady increase in its annual gold production since 2014.
(Source: Gran Colombia Q4 and Full Year 2018 Presentation)
About the Issuer
Gran Colombia is a Canadian-based gold and silver exploration, development and production company with its primary focus in Colombia. Gran Colombia is currently the largest underground gold and silver producer in Colombia with several underground mines and two processing plants in operation at its Segovia and Marmato Operations. Gran Colombia is currently in the midst of an expansion and modernization project at its high grade production stage Segovia Operations. In recent years, Gran Colombia has successfully implemented a number of cost savings initiatives, bringing its All-In Sustaining Cost (AISC) to US $918 per ounce in 2017 and is expected to be below US $950 in 2018.
More Good News
In addition to the outstanding results mentioned above, the company had more to celebrate with its most recent results when the company’s gold production surpassed 200,000 ounces for the first time. The company strengthened its balance sheet during 2018 as well. Looking back three years ago when the company began its turnaround, the company had about $3 million in cash and $179 million in debt. Fast forward to the end of 2018, and the company’s cash level had increased dramatically to $36 million and its debt is now down to approximately $83 million. Also, this was the company’s fifth consecutive quarter where gold production was in excess of 50,000 ounces.
(Source: Gran Colombia Q4 and Full Year 2018 Presentation)
Keeping Costs Low
One of the reasons Gran Colombia has continued to thrive is its very low cash cost as well as its low all-in sustaining costs (AISC) for its gold production. In fact, the company came in below guidance range for its 2018 cash costs and AISC. For the full year 2018, Gran Colombia’s cash costs and AISC were $680 per ounce and $907 per ounce respectively. For 2019, the company expects that its total cash costs and AISC averages for the year will remain below $720 per ounce and $950 per ounce respectively.
A Unique Type of Bond
Gran Colombia’s 2024 bonds, known as the “Gold Notes”, are a unique type of debt instrument. These notes pay interest monthly (most notes pay semi-annually) and about 5 million face value of the notes are redeemed each quarter, resulting in a percentage reduction to the total bonds held for each bondholder. The reason these notes are called “Gold Notes” is that each month, Gran Colombia sets aside an amount of physical gold (1300 ounces) in a trust account. Each quarter, this gold (3900 ounces) is sold and the sale proceeds (above $1,250 / ounce, and up to $1,400 / ounce) are paid as a premium added to the interest that month distributed to bondholders. The remainder of the outstanding bonds are not callable until 2021, after which time they are all callable upon being given proper days notice from the Company.
Phenomenal Interest (and Principal Payback) Coverage and Liquidity
Due to the company’s restructuring a few years ago, Gran Colombia has a relatively low level of interest expense. This, combined with the company’s outstanding growth in gold production and revenues over the past 3 years, has translated to stunning interest coverage for bondholders. For the full-year 2018, Gran Colombia had operating income of $74.9 million and interest and finance (restructuring) expense of $30.0 million. On a go forward basis, estimating about 25 million for interest and principal payback costs, estimated coverage would be over 4x’s. As mentioned previously, Gran Colombia has vastly increased its level of cash reserves in the past year. As of December 31, 2018, the company had cash and cash equivalents totaling $35.6 million.
Subsequent to their year end report, on April 4, 2019 the Company closed its previously announced $20 million dollar private placement offering of five year 8% convertible debentures, with a conversion price of C$4.75 per Debenture Share, representing a 33% premium to the closing price of its common stock on March 1, 2019. These unsecured notes are subordinated to senior indebtedness of the company. The intended use of these additional funds will primarily be to immediately implement an accelerated exploratory drill program at its highly productive Segovia Operations, carrying out five years of drilling within the next two years. While this may make little actual difference from the perspective of the secured senior bond holders (aside from some added security for repayment of the senior notes), we see this possibly adding significantly to the measured proven and probable reserves, which should ultimately translate to better analyst reviews and higher stock prices.
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The default risk for bondholders is Gran Colombia’s ability to continue on its proven success path forward, mining and selling gold. In the three years that Durig Capital has followed and invested in Gran Colombia, the company has consistently taken steps to improve its balance sheet, keep costs low and provide value to its investors. With its recent “watershed” year in 2018, and its outstanding asset in its Segovia mine, 2019 looks to be the best year yet for this mid-tier gold producer. In light of the company’s strong performance in 2018, the competitive, over 8% yield-to-maturity and possible gold premium kicker on these 2024 bonds appears to significantly outweigh the risks we can identify.
Gran Colombia’s mining assets are all located in Colombia. Mining in other countries can carry additional risks as the political and economic climates are often very different from our own. The company has already overcome local resistance to its operations in the past and appears to have overcome these disputes and is now moving forward.
As a majority of the GCM’s revenues come primarily from its sale of gold, the company is exposed to volatility in the price of this commodity on the open market. While no one can accurately predict the price of gold, historically, stock market uncertainty and global growth concerns have helped fuel the price of this precious metal.
In general, bond prices rise when interest rates fall and vice versa. This effect tends to be more pronounced for lower couponed, longer-term debt instruments. Any fixed income security sold or redeemed prior to maturity may be subject to a gain or loss. Higher yielding bonds typically have lower credit ratings, if any, and therefore involve higher degrees of risk and may not be suitable for all investors.
Summary and Conclusion
Gran Colombia Gold is truly a comeback story. Over the past two years, the company has remade itself, reaching record production levels each year and continuing to improve its balance sheet. It has continued to keep operating costs low, while making smart capital investments for the future. For investors seeking a bond with a higher return, the “Gold Notes” provide an excellent opportunity to earn a premium on top of the interest and principal. For investors with a higher tolerance for risk and volatility, it appears that there might be much higher capital gains possible taking a position in its common stock, if we are right in seeing both its significant growth potential and its currently undervalued position. From our perspective, Gran Colombia has proven to be a sound investment in the past. Consequently, we are decisively drawn towards the monthly regularity, the quarterly payback of principal, the probability of an additional quarterly premium, and – lest it be understated – the senior secured position that Gran Colombia’s 2024 Gold Notes hold in the Company’s debt structure. Therefore, we see this issue as a premium holding within Durig Capital’s Fixed Income 2 (FX2) High Yield Managed Income Portfolio, shown above.
Issuer: Gran Colombia Gold, Inc.
Ticker: GCM.TO (TSX) Price (4/10/19): C $3.58
Ticker: TPRFF (OTCBB) Price (4/10/19): $2.671
Warrant Ticker: TPRXF (OTCBB) Price (4/10/19): $1.365
“Gold Note” Bond Coupon: 8.25%
Stated Maturity: 4/30/2024
Average Maturity: 10/30/2021
Callable after 4/30/2021
Ratings: B- (Fitch Ratings)
Yield to Maturity: ~8.1%
Disclosure: Durig Capital and certain clients may hold positions in Gran Colombia’s 2024 “Gold Notes” / bonds.
Disclaimer: Please note that all yield and price indications are shown from the time of our research. Our reports are never an offer to buy or sell any security. We are not a broker/dealer, and reports are intended for distribution to our clients. The high yield strategies presented in this review by Durig Capital may not be suitable for all investors. This is not investment advice from Durig Capital, nor a specific recommendation to buy or sell securities. If you have any questions or concerns about its suitability for your personal investment, you should seek specific investment advice from a registered professional before making an investment decision.