The New Share Offering By AUMN Creates A Unique Buying Opportunity

David Vengerov
September 17, 2012

Here is some background on Golden Minerals (AUMN), a junior gold/silver producer. The company is currently cashflow negative, but in its xjMay production update, it said that it is expecting to become cashflow positive in 4Q at gold/silver prices of $1500/$30 per oz. That's going to be a big thing in the market's view, and many new investors will pile into AUMN (the ones that are avoiding it now on the principle of avoiding companies with a negative cashflow).

In its most recent production update, AUMN mentioned that with about $20M of funding, it will be able to expand production to 2M oz. of silver by 2Q 2013, and then with extra $50M, further expand to 4M oz. by the end of 2014. At that volume, its cash cost per oz. will be less than $7, so at $37 silver (I think silver is going to be MUCH higher by the end of 2014, since U.S. employment is not going to improve markedly and the Fed will keep buying the MBS securities for a long time), AUMN will be making $30 of cash profit on each oz., for a total cashflow of $120M per year. Its current market cap is only $210M, so its market cap would have to rise A LOT by the end of 2014 (it will rise steadily as AUMN keeps increasing its production).

Now here is the interesting part: AUMN announced on Friday that it will increase its share count by approximately 20%, selling new shares at $5.75 and raising $37M as a result (including the share purchase planned by the Sentient Group), which should be sufficient for AUMN to ramp up its production to 850 tonnes per day (for an annual output of 2M oz of silver) and then perform "engineering, design and other work related to the planned expansion to 1,150 tonnes per day" (it had previously predicted an annual output of 4M oz of silver at 1150 tonnes per day). Once this offering is sold, what should be the fair price of AUMN stock afterward?

Well, let's look at a small example. Let's say I open a new company, issue 100 shares at $7, and place the obtained $700 in a bank. Then, let's say I announce that I sold to the public 20 shares at $5.75, raising $115. What will the fair price of my stock be then? It depends on how productively I will spend these extra $115. If I use it to buy a bottle of good cognac and drink it with my friends, then the price of each share should drop by 20%, since NAV/share will be $700/120 = $5.83. If instead I put that $115 in the bank, then the new share price should be $815/120 = $6.80.

But if I announce that there is a business opportunity to double my money in a couple of days and a minimum $800 is required to participate (so I was previously excluded from this opportunity, but not anymore), then the new share price should be $1630/120 = $13.60 (since investors will rightfully assume that a doubling of my NAV is inevitable). Now, we know that AUMN is going to spend these $37M productively, greatly expanding its production and removing the last cloud of uncertainty surrounding this company (it had a great potential for expanding production but no money to pay upfront for it, but now it has the money and the expansion became a certainty).

If this is so, then why is AUMN stuck around $5.80 for two days now? Well, the Big Traders (hedge funds), which determine the price, are rightfully thinking that there is no reason to pay much more for the stock right now if they can get shares at $5.75 on Wednesday. And they are correct. However, as soon as this offering is sold (maybe it will all be sold on Wednesday, maybe it will take until the end of the week), the price of AUMN will jump back at least to where it would have been without this offering -- above $7 (it should at least jump to $6.80 -- the fair price I calculated above for the company that was priced at $7 and then expanded the share count by 20%, selling new shares at $5.75 and then placing the proceeds in the bank). The fact that AUMN was down on Monday less than the Market Vectors Junior Gold Miners ETF (GDXJ) (even though it is usually much more volatile than GDXJ), further confirms my view that the company is not trading freely now, but is just marking time waiting for the new share offering to be sold.

Thus, traders with a horizon of longer than a week have a unique opportunity on their hands now, buying AUMN at $5.80 and selling it above $7 a week from now...

As for the long-term view of what is going to happen with AUMN stock, I think it will be many times higher a year from now, both as a result of expanded production (which now becomes a certainty, after it has obtained the funding for this expansion) and as a result of much higher gold/silver prices. There was a huge jump in 5-year inflation expectations last Friday -- gold/silver prices have not caught up fully yet with this spike (there is a clear correlation between inflation expectations and gold/silver prices over the past year). Inflation expectations are self-feeding -- since people will start buying commodities in expectation that inflation will make them more expensive in the future, which will serve to raise the commodity prices NOW, which will confirm people's expectations of higher inflation and will even adjust those expectations up further, which will cause more buying of commodities now, etc.

So a huge ship has been set in motion, and as long as the Fed keeps expanding the monetary base, precious metals will keep steadily going up (those who want to check a historic correlation between the monetary base and gold/silver prices, can take a look at the monetary base chart over the past year and see how closely it tracks the general shape of gold/silver prices over the past year). The recent rally in both the iShares Silver Trust (SLV) and the SPDR Gold Shares (GLD) has been explosive (just as I had predicted in the article I posted in July), as traders have already started to adjust their portfolios for much higher future gold/silver prices.

http://seekingalpha.com/article/872581-the-new-share-offering-by-aumn-creates-a-unique-buying-opportunity?source=yahoo

Dan