Earnings lower than expected

San Gold announced first quarter operating and financial results this morning. The company reported a small loss of C$0.3 million or nil/share, below our forecast of earnings of C$0.03/share. The lower-than-expected earnings were due largely to lower-than-expected gold production.

San Gold continues to ramp up production at its Rice Lake and Hinge mines, and while gold production was lower than we had forecast, the operation is showing steady progress. The mill processed an average of 660 tonnes per day during the period, up from 510 tonnes per day in the prior period, and mine production exceeded 700 tonnes per day over the quarter.

We continue to argue that San Gold is still largely an exploration story, with the shares trading more on drill results than operating performance. The emphasis will likely shift to production in the future; however, in the meantime, we look forward to the next batch of results from holes drilled down dip on the 007 Zone (which has returned some of the highest assays ever recorded from the property). We have adjusted our production, operating, and capital cost assumptions, resulting in a small decrease in our valuation of San Gold - our NAV estimate falls slightly to C$3.74/share from C$3.76/share. We are maintaining our

BUY rating and 12-month price target of C$5.10/share.

Lower grades, recoveries hit production

San Gold produced approximately 13,730 oz of gold during the first quarter, somewhat below our expectation of around 21,000 oz. Mill throughput was in line with our forecast; however both grades (at 7.7 g/t) and recoveries (93.4%) were lower. The company still reports a mixture of both commercial (from the Hinge Mine) and pre-commercial (from Rice Lake) production, and total cash costs are not estimated at this time.

Recent discussions with company management suggests that San Gold is maintaining its 2010 production guidance of 100,000 oz of gold at a total cash cost of C$500/oz - production in the latter part of the year is expected to benefit from increased mill throughput (with the addition of feed from the 007 Zone) and higher grades.