Silvercorp Metals (SVM) - Cash Producer with Expansion Options

Silvercorp Metals Inc. is a Canadian-based, China-focused precious metals company engaged in the acquisition, exploration, and development of silver-containing properties. It is China’s largest primary silver producer.

Silvercorp first entered China in 2003 to capitalise on the country’s under-explored geological potential. China’s 1997 Mineral Resource Law was adopted specifically to enable foreign mining companies to explore and mine in the country. Since production began in 2006, Silvercorp’s mines have produced 81Moz silver and 1.1Bn pounds of lead and zinc. In the fiscal year 2022, the Company produced 6.1Moz of silver. In the 2023 fiscal year, the Company is forecasted to produce between 7Moz and 7.3Moz silver.

Matt Gordon caught up with Lon Shaver, Vice President, Silvercorp Metals. Mr. Shaver has over 25 years of capital markets and corporate finance experience, mainly focused on the mining sector. He has held investment banking roles with Raymond James and Merrill Lynch, assisting corporate issuers with numerous financing and M&A (Mergers and Acquisitions) transactions.

He began his career in equity research with an institutional sell-side firm. His previous corporate experience includes CFO roles with a publicly-listed mining company and a private technology company. Most recently, he acted as a consultant and advisor, providing corporate development and capital market support to a number of companies in the resources sector. His educational credentials include a Bachelor of Commerce degree, majoring in Finance. He is also a CFA Charterholder.

Company Overview

China’s manufacturing industry producing solar panels and windmill equipment for the green energy sector has created an expanding demand for silver. Silvercorp Metals is a Canadian company operating several profitable silver mines in China to feed this growing demand. The Company was founded in 1991 and is headquartered in Vancouver, Canada. It is listed on the New York Stock Exchange (NYSE: SVM) and the Toronto Stock Exchange (TSX-V: SVM). Fortune Gold Mining Limited, Victor Mining Limited, Fortune Mining Limited, Fortune Copper Limited, Yangtze Mining Limited, Wonder Success Limited, Victor Resources Limited, Lachlan Gold Limited, Henan Found Mining Co. Limited, Qinghai Found Mining Co. Limited, Guangdong Found Mining Company Limited and Anhui Yangtze Mining Co. Limited are the Company’s subsidiaries.

Silvercorp Metals is a diversified precious metals producer. The Company’s main assets are operating mines in China that produce silver, lead, and zinc. It also has significant investments in other companies including New Pacific Metals, which has a promising portfolio of projects in Bolivia. Silvercorp Metals has a large cash balance which it plans to deploy for new growth opportunities in the precious metals space. The Company has a profitable business that has enabled it to grow the asset base without diluting equity for shareholders.

Following the pandemic in 2020, every company has come under pressure. Silvercorp had an amplified pressure due to its Chinese focus. However, the concerns are overblown from a political standpoint. There are a number of major companies that have significant investments in China. Tesla has made substantial investments in the country. Johnson Controls has a car battery plant in China, producing lead concentrates that feed into the domestic smelter stream to produce finished lead. According to Silvercorp Metals, the investor community needs to take the time to look at and consider the number of assets, investments, and financial returns that are linked to China. Even companies like Apple have the majority of their manufacturing carried out in China through Foxconn.

Cash Position

By the end of the recent financial year, Silvercorp Metals’ revenue was slightly over $200M, with an EBITDA (Earnings before interest, taxes, depreciation, and amortisation) under $100M. The Company has an operating cash flow of $107M and a free cash flow between $45M and $50M. The Company’s track record goes back to the initial mines that were acquired and developed starting in 2004.

Based on the financial results, the Company has a long history of profitability, generating positive cash flows and building up an asset base. It has $200M+ in current cash flow. Notably, the Company hasn’t raised any equity since 2010 and has generated cash through solid business fundamentals. The company’s financial results show that it is subject to a 25% income tax rate, which is subject to rebates as the Company is classified as a high-tech enterprise. A 10% withholding tax is incurred for funds that flow out of the country.

Silvercorp Metals’ actual cash reserves are held in part across China, other parts of Asia, and North America. The Company has cash available when the need arises. One such example is from 2010 when the Company attempted to acquire a gold project in South America.

Mining Operations

The Company’s asset has an exceptional mine life for an underground, narrow vein, high-grade mine. Its biggest asset is the Ying mining complex, which has a 20-year mine life based on the most recent technical report. In the last 2 calendar years, it has drilled 630,000m at the Ying mining complex, in order to follow up on some new clues and discoveries, including gold zones within the footprint of existing mines. The Company is looking to bring on stream and expand its production profile.

The BYP mine is currently under care and maintenance and the Company has plans to restart the mine. This mine was primarily a lead and zinc operation, but the Company also identified a gold resource. Once permitted, the Company will have better clarity on bringing it back into production.

The GC (Gaocheng) mine is quite similar to Ying in terms of produced silver, lead, and zinc. Although the GC asset has a shorter mine life compared to Ying, it is still over 13 years based on the most recent report.

Operating in China

When it comes to investments, the Company’s interest is based on the availability of opportunities. It has found opportunities in and around its China assets. However, for the major corporate development initiatives, the Company is focused on the Americas and Africa, mainly for silver and gold projects.

Each jurisdiction has its own pros and cons. Forging strong relationships in China enables Silvercorp Metals to move things forward. There is a lot of bureaucracy in China that has to be dealt with properly. This is important because if a project is stalled 2-4 years longer due to permitting issues, the budget gets blown out of proportion and companies end up losing the potential return on the projects.

Meanwhile, in jurisdictions that are considered riskier, companies can get traction sooner and acquire operating licences quickly. This enables companies to deliver economic returns on a project sooner. Silvercorp Metals is open to such opportunities and assesses them on a case-by-case basis.

ESG Considerations

According to Silvercorp Metals, the standards, scrutiny, and oversight across the mining industry are very high in China. From an ESG (Environmental, Social, and Governance) perspective, the degree of red tape is very high in the country. The Company has been operating in China for over 17 years and has adapted to the new regulations. As a result, all operating mines by the Company have a green mine status, which is a mandatory requirement in China.

Notably, there are two types of green mine categorizations, one on the provincial level and the other on the national level. These statuses are controlled by different oversight boards in relation to environmental health and safety standards in conjunction with different types of regulations. The Company is subjected to a lot of inspections and reviews. Oversight communities have extensive integration in mining operations.  For instance, the Company’s tailings dams have seismic monitoring to see whether there is any ground movement. The seismic activity is wired in and the information is directly fed to the teams and the regulators. As a result, as soon as something happens, the phones start to ring. Overall, this is a collaborative effort to remedy any unforeseen issues.

As per Silvercorp Metals, the regulations have always been in place, but monitoring and enforcement have been lacking in the past few years. Following the change in government at the top level, there has been a strong focus on the eradication of any corruption or sloppiness when it comes to execution and monitoring. The amount of interaction, monitoring, and review has gone up significantly in the past few years.

Market Position

Silvercorp Metals believes that it is undervalued in the market. The Company is looking for an investment that can deliver good financial returns. The Company currently has 3 major assets that are generating value. In case the Company opts for a massive buyback or a big special dividend, it would be a one-time deal. The other option is to use the cash to acquire a business that delivers long-term returns. This would provide a better result for shareholders in the long run. The Company is currently in a position where it can execute both available options.

Investing organically will benefit the Company’s positive cash flow businesses. In an ideal scenario, the Company would like to deploy the capital into a development asset in order to build an additional revenue source, diversifying its cash flow stream based on a solid mining asset.

The Company had a similar strategy in 2020 when it negotiated a deal to acquire Guyana Goldfields. It saw an excellent development asset that was being operated by a company facing challenges. The project had an open-pit transitioning into an underground development model, which would be a great fit for Silvercorp Metals. This was the major area of focus in 2021. During this time, the company signed over 30 CEAs (Cost-Effectiveness Analysis) and looked at 30 different projects in depth.

Upon taking a new project into consideration, the Company focuses on geology as it is a major determinant of the margins that an operation can generate. The current model-based approach is broken when it comes to the junior mining space. This is because junior miners can identify a resource and based on the market appetite, the resource can be made to appear bigger, despite the lower grades. Next, engineers are assigned to deliver a project that has headline numbers in terms of ounces and economics. It is important to note that the group that is responsible for building the project later realises that the work is largely done on a superficial level.

Silvercorp Metals does not put a strong emphasis on the existing studies. The company’s approach is to start from scratch and assess the raw geology. Based on this data, the Company develops its own models, mine plans, and CapEx (Capital Expenditure) budgets.

Silvercorp Metals is also experiencing cost pressures due to the inflationary market conditions. However, since the Company’s assets are located in close proximity to different goods and services suppliers, the overall pressure is lower in comparison. The changes in currency have also affected the operations; a weakening RMB has led to a drop in the USD’s value as well.

The Company has also experienced pressures related to labour costs. However, as property development is coming off in China, it has more people employed in the construction domain. Operating in China has helped the company stay insulated from the cost-related pressures, compared to the West. Similar to its peers, Silvercorp Metals is also looking toward renewable energy sources in order to fulfil its power requirements.

Despite the challenging gold and silver markets, the company isn’t majorly impacted due to its well-planned cost structure. As a mining company, it is focused on maintaining margins and cutting down costs in any way possible. Given the cost structure, the company represents a defensive way for investors to gain positioning in the silver and precious metals market. Even when the silver prices are lower, the company has managed to generate revenue and accumulate cash. The company is optimistic that the current slowdown is temporary.

Given the current market conditions, the precious metal prices should be higher. However, in times of crisis, people often look for safety and security, which leads to selling in favour of liquidity. This trend has largely affected the commodity and precious metal prices in the current environment. A similar trend can also be seen across the equity markets, cryptocurrency markets, and even real estate. As per the company, it is likely that investors will be making portfolio readjustments across the board.

The Pacific Metals acquisition is a big component of Silvercorp Metals’ value. The Company’s flagship project is moving into the permitting and mine planning stage. It is looking to publish additional news flow in the coming months. It has already attracted attention from the mining sector and anticipates that the interest in the company will continue to grow.

Since the company has maintained a healthy cash flow, it can acquire new projects at a lower price. Due to lower acquisition costs, the company has the leverage to negotiate transactions. Acquiring a new project in exchange for shares will also provide the project developer an opportunity to participate in the re-rate.

To find out more, go to the Silvercorp Metals website