Northern Star Resources: A Monster Q4 On Deck (OTCMKTS:NESRF)

The Q1 Earnings Season for the Gold Miners Index (GDX) began last week and the market has embraced the margin recovery with strong reactions out of two of the top three gold producers. Meanwhile, the Australian producers are busy reporting their calendar year Q1 (fiscal Q3 2024) results and the most recent major producer to report was Northern Star Resources (OTCPK:NESRF). Unfortunately, the company had a tough quarter due to minor setbacks at some sites exacerbated by heavy rainfall and will need a monster fiscal Q4 to meet its FY2024 guidance midpoint of ~1.68 million ounces.

In this update we’ll dig into the company’s fiscal Q3 2024 results, recent developments, and how its valuation stacks up vs. peers.

All figures are in United States Dollars unless A$ is in front of the dollar figure and US Dollar figures are based on a 0.65/1.0 AUD/USD exchange rate.

Northern Star March Quarter Production & Sales

Northern Star Resources released its calendar year Q1 (fiscal Q3 2024 results) this month, reporting quarterly production of ~387,000 ounces of gold, a ~7% increase from the year-ago period. The sharp increase in production was related to a 21% increase in production at its flagship KCGM (Super Pit) operations, a 17% increase in production at Pogo, and a ~16% increase in production from Carosue Dam, which was acquired in its merger with Saracen Minerals. Unfortunately, the better results at these assets were offset by a tough quarter for its Yandal operations, with Thunderbox underperforming (weather, conveyor belt issues) and lower grades at Jundee, which offset higher throughput. The result was that its Yandal production center combined for just ~113,700 ounces produced, down from ~123,100 ounces in the year-ago period (fiscal Q3 2024) despite higher milling capacity following the Thunderbox mill expansion.

Digging into the operations a little closer, KCGM had a solid quarter with ~116,700 ounces of gold produced, a significant increase year-over-year with ~2.68 million tonnes processed at 1.6 grams per tonne of gold vs. ~2.77 million tonnes at 1.3 grams per tonne of gold in the year-ago period. The higher grades benefited from access to the Golden Pike North area at KCGM and East Wall remediation work is nearly complete which will provide full access to the higher-grade Golden Pike North zone in FY2025, with an estimated mine life of five years which will help KCGM towards its near-term target of ~650,000 ounces per annum.

Unfortunately, the company did not see the full benefit of the grade outperformance given that throughput was lower year-over-year and was impacted by unplanned regional power interruptions and open pit material movement was also slightly lower than planned, also affected by rainfall. On a positive note, underground development increased materially with the first ore mined from Fimiston Underground and its Kalgoorlie center (including Carosue Dam) generated A$102 million in net mine cash flow after $200 million in growth capital spent in the period. This was a significant improvement from fiscal Q3 2023 with $57 million in net mine cash flow, despite significantly higher growth capital spent in the current period, helped by record gold prices.

Moving to its Yandal operations, production at Jundee came in at just ~68,700 ounces (fiscal Q3 2023: ~83,100 ounces) on the back of significantly lower grades (3.2 grams per tonne of gold vs. 3.8 grams per tonne of gold) and lower recoveries (89% vs. 92%). This contributed to much higher all-in sustaining costs of ~US$1,130/oz (fiscal Q3 2023: ~US$889/oz), and Thunderbox underperformed my expectations with production of just ~45,000 ounces with lower recoveries and only a slight increase in throughput, but well below nameplate capacity (1.13 million tonnes processed at 1.5 grams per tonne of gold). However, as noted previously, elevated rainfall affected tonnes mined, and an unplanned electrical outage didn’t help matters. Meanwhile, Thunderbox was affected by unplanned mill outages, planned downtime, and the higher rainfall affected its supply chain.

On a positive note, grades are expected to pick up materially in fiscal Q4 with delays accessing better grade ore at Jundee during fiscal Q3 because of heavy rain. Meanwhile, the company has made solid progress at Wonder Underground with development ahead of budget and high-grade feed from this mine expected in the current quarter (fiscal Q4). For those unfamiliar, this is a higher-grade ore source (3.0+ grams per tonne of gold) relative to Thunderbox’s typical feed grades (Wonder is 25 kilometers south of the Thunderbox mill) and the resource continues to grow. Finally, while throughput rates were well below expectations and at just over 4.0 million tonnes per annum annualized, Northern Star is working to stabilize throughput rates above 5.0 million tonnes per annum.

Last but not least, Pogo had a satisfactory quarter in fiscal Q3 with ~58,400 ounces of gold produced at all-in sustaining costs [AISC] of US$1,567/oz. The higher production was related to increased throughput of ~309,000 tonnes (fiscal Q3 2023: ~245,000 tonnes) offset by lower grades of 6.8 grams per tonne of gold. Unfortunately, the decent performance didn’t result in much improvement in unit costs because of higher power prices related to a mechanical issue for its external electricity provider. This is not expected to persist with prices to come down later this quarter, but it resulted in higher costs. That said, the mine still generated net mine cash flow of US$14.4 million and development rates were ahead of target at ~1,600 meters vs. its target of 1,500 meters.

Given the weaker than planned fiscal Q3 performance, Northern Star is sitting at just ~1.18 million ounces produced and sold for the year, just ~70.4% of its FY2024 guidance midpoint of 1,675,000 ounces. The result is that the company will need a massive quarter with ~493,400 ounces of gold sales to meet its guidance midpoint which would require a ~40,000-ounce higher production profile than its best quarter to date of ~451,000 ounces in fiscal Q4 2021. And while fiscal Q4 is expected to be much stronger, it looks like output will come in just below the FY2024 guidance midpoint for the year.

While disappointing, the heavy rainfall in Australia has affected several miners this year and I think the company deserves a pass if it misses its guidance midpoint. Plus, while production was softer than I expected, the gold price more than made up for this, with Northern Star reporting revenue of A$1,212 million (+24% year-over-year) on the back of a realised gold price (*) of A$3,024/oz [US$1,966/oz].

(*) Northern Star’s realised gold price was well below its peer average given that it delivered roughly 25% of its sales into hedges at a price of ~US$1,667/oz.

Costs & Margins

Looking at costs and margins, Northern Star reported gold sales of ~401,000 ounces at all-in sustaining costs of A$1,844/oz [~US$1,200/oz], up from A$1,813/oz [~US$1,178/oz] in the year-ago period. The higher costs were related to higher sustaining capital and inflationary pressures offset by higher gold sales in the period. Fortunately, this increase in unit costs was more than offset by a significantly higher average realized gold price of A$3,024/oz (fiscal Q3 2023: A$2,696/oz]. This resulted in AISC margins climbing from A$883/oz (32.8%) to A$1,180/oz (39.0%), translating to a 680 basis point improvement year-over-year.

Not surprisingly, the higher margins resulted in a significant improvement in operating cash flow and net mine cash flow, with Northern Star reporting operating cash flow and net mine cash flow of A$440 million and A$160 million, respectively. These results were up over 30% year-over-year and net mine cash flow improved despite a significant increase in growth capital and exploration to A$312 million vs. A$225 million. However, it’s important to note that the average realized gold price is currently hanging out above the A$3,500/oz level heading into Northern Star’s strongest quarter of the year. Hence, while net mine cash flow and AISC margins improved materially in fiscal Q3 2024, we should see a significant improvement sequentially in the upcoming quarter even when factoring in deliveries into lower priced hedges.

Recent Developments

Moving to recent developments, Northern Star continues to make solid progress at its KCGM Mill expansion, with plans to increase throughput to ~27 million tonnes per annum. The company noted that all critical enabling works were completed and that its two accommodation camps were fully operational and also shared that work is progressing on schedule despite the heavy rainfall. Northern Star also shared that the primary crusher excavation was completed and the first concrete pour was completed during April. And as for the project economics, there was an estimated after-tax IRR of ~19% at a A$2,600/oz gold price, and it’s certainly looking a far higher-return project at current gold prices (~30% IRR).

As the image below highlights, KCGM doesn’t even make the cut for 10-top gold mines currently, but it will move into the top-10 slot by calendar year 2028 with its production set to grow to ~900,000 ounces per annum. And while Detour Lake and Canadian Malartic are expected to grow to closer to 900,000 ounces per annum as well in the same period, KCGM at ~900,000 ounces would Northern Star in very rare air as one of the only sub 2.5 million ounce producer with a 900,000 ounce per annum gold asset. In fact, its peer comparables are not even close, with runner-ups being Fekola (~600,000 ounces), Paracatu (~600,000 ounces), Tasiast (~600,000 ounces), and Fruta del Norte (~500,000 ounces) with two of these owned by Kinross (KGC) and one by B2Gold (BTG).

And with this distinction, I would expect Northern Star to maintain its premium multiple among its peer group, especially with this being a Tier-1 jurisdiction asset (others in Brazil, Mauritania, Mali, Ecuador).

On a negative note, the heavy rainfall resulted in Northern Star’s cost guidance being revised to A$1,835/oz at the mid-point or US$1,190/oz in FY2024, up from A$1,760/oz or US$1,145/oz previously. However, these costs are still well below the industry average and there’s clearly a path to lower costs given that KCGM should see a material improvement in costs with the benefit of economies of scale. In addition, these costs are despite Pogo still not being optimized, with the potential for this operation to run sustainably at sub US$1,400/oz AISC if it can enjoy production levels closer to 300,000 ounces per annum. In summary, I don’t see any reason to be disappointed with the FY2024 results even if slightly below plan, and it will certainly be an exciting year on deck at KCGM with the benefit of a near full year of production from Golden Pike North.

Valuation & Technical Picture

Based on ~1.16 billion shares and a share price of US$9.80, Northern Star trades at a market cap of ~$11.4 billion and an enterprise value of ~$11.3 billion. This makes it the highest market cap producer among its peer group of 1.0 million to 2.5 million ounce producers and with a market cap exceeding that of some of its 2.0+ million ounce producer peers like Kinross Gold (KGC) and AngloGold Ashanti (AU). And while this is largely justified given its focus on solely Tier-1 ranked jurisdiction (Canada, United States, Australia) and its ownership of one of the largest future gold mines globally (KCGM), the stock has underperformed other Tier-1 peers like Agnico Eagle (AEM) and Alamos Gold (AGI) since January at US$9.20 when I highlighted that Northern Star was getting closer to fully valued at nearly 8.0x forward EV/EBITDA.

Fortunately, its valuation has improved materially since then with the help of a ~$300/oz higher gold price, and this is helping it to generate significant free cash flow even during a period of heavy investment. In fact, the company generated over A$100 million in free cash flow last quarter and that was despite delivering ~100,000 ounces into low priced hedges (~US$1,700/oz) and reporting a significantly lower average realised gold price of ~US$1,965/oz vs. spot levels of US$2,300. However, we should see a significant increase in the average realised gold price in the June quarter (fiscal Q4 2024) and FY2025, with Northern Star’s average realized gold price likely to average over US$2,100/oz in FY2025 even with the impact of hedges.

That said, this is one negative for the Northern Star story currently vs. other million-ounce producer peers, with ~510,000 ounces or roughly one-third of FY2025 production hedged at prices near ~US$1,900/oz. And while I don’t have any issue with hedging ~20% of production during a capex heavy few years as the company works to complete its KCGM Mill Expansion (FID in June 2023), I would have preferred to see fewer hedges added and simply maintaining existing hedges given the significant improvement in the balance sheet we’ve seen already (net cash of A$174 million).

So, is the stock a buy?

While Northern Star continues to be one of the lower-risk names in the producer space and the higher gold price is helping, it’s no longer offering a margin of safety. This is because it’s trading at nearly ~$6,000/oz of gold production vs. other names like B2Gold (BTG) trading at less than $3,500/oz with higher margins and less leverage to the gold price given its hedges. And while a significant premium is warranted for having all of its production tied to Tier-1 ranked jurisdictions, I would need to see a correction below US$8.40 to get more interested in the stock where it would drop closer to upper support. Hence, if I were looking to put new capital to work in the sector today, I see B2Gold as the far more attractive option.

Summary

Northern Star had a tough quarter in fiscal Q3 like many of its Australian mining peers but has a monster fiscal Q4 on deck where we should see a material increase in AISC margins to well over 40%. Meanwhile, FY2025 is set to be another solid year with the benefit of higher grades from Wonder and Golden Pike North in addition to hopefully more stable production from its Pogo which is still struggling to deliver at the elusive 300,000 ounce per annum production goal. That said, Northern Star is up over 70% since I highlighted the stock as a Strong Buy below US$5.90 per share and while much of this is justified given the gold price weakness, I see more attractive bets elsewhere in the sector currently. Hence, while I would consider NESRF below US$8.40, I am more focused on names like BTG and a couple of other smaller-cap growth stories currently.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.