SMALL CAP IDEA: Record gold prices augur boom times for Shanta

The gold price has hit record highs in sterling terms, as a new wave of banking crises has shocked markets already weakened by the pressures of inflation, supply-chain chaos, and the uncertainties of the Ukraine crisis.

At well over £1,600 per ounce we are in completely new territory, and although the US dollar price isn’t quite hitting its own records, it’s only a whisker away.

So, these are unprecedented times for gold.

But how can you really make money from a high gold price?

Physical gold, to be sure, rises and falls with the markets, but it’s the gold miners themselves who end up making the big bucks in a gold bull run.

That’s because they are mining and selling the stuff on a fixed cost base.

So, when the price goes up margins expand and, because of the nature of margins, they expand at an exponentially higher rate.

In a mining bull market, return on capital is invariably better in gold equities than it is in physical gold.

But you have to pick and choose your gold mining company carefully.

Preferably, it will be one with a track record of production, perhaps that’s recently been unloved, but which also has huge upside, both operationally and in terms of exploration.

A company that fits this bill to a tee is Shanta Gold, which has optionality all over the place.

It should only be a matter of a few months now Shanta’s production returns to 100,000 ounces per year.

The flagship New Luika mine in Tanzania which, under the original plan, ought to have been mined out by now, is the gift that keeps on giving.

New Luika should continue to produce of the order of just under 70,000 ounces of gold for a good few years yet, with the current official life running out to 2028.

That’s a cornerstone plenty solid enough to build a gold miner around.

The step change, though, will come from Singida, also in Tanzania, which will start to produce significant amounts of gold within a matter of weeks.

A smaller project overall, but newer and likely to be more efficient, Singida looks set to add between 32,000 and 37,000 ounces of gold per year.

Singida has taken a while to get up and running, in part because no equity finance has gone into it.

Instead, debt and cashflow from New Luika have funded these additional production ounces.

But given the strength of the gold price, the debt looks like it could be gone by the year end.

Indeed, on current models, broker Liberum has Shanta closing out the current year with US$1million in net cash overall, rising to $29million the following year, on sales of $151million for 2023 and $181million for 2024.

As to the accuracy of those forecasts, a great deal will depend on how the gold price moves around over the next 24 months, but with the recent run towards $2,000, all the signs are that it’s going to be high enough to keep Shanta’s margins chugging right along.

Liberum reckons that underlying earnings will hit $60million in 2024, and that profits before tax will be $38million.

In time, production from Singida might go up to as much as 50,000 ounces.

But the longer-term and more significant growth inside the company will come from north of the Tanzanian border, in Kenya.

This is not really new territory, though.

The famous Lake Victoria Goldfields district straddles the Tanzania-Kenya border, so that while New Luika, Singida and a few other famous mines sit south of the old colonial demarcation line, Shanta’s big exploration project, West Kenya is located just to the north.

By some measures, West Kenya is up there with the best gold exploration projects anywhere in the world.

How big will it eventually get? There has been some informal talk around the market that it will eventually go as high as three-to-five million ounces.

That’s enough to have put Shanta onto the radars of many a larger player in gold, from outsized mid-tiers right up to the majors.

What’s really significant, though, isn’t the potential overall size – it’s the grade. By industry standards, the Kenya grade is excellent, and that will keep costs down, and profits up.

In recent months, though, the focus has to a degree been on getting Singida up and running. But with first gold now looming there, the spotlight can be turned back on West Kenya.

It’s a big project, but this is a company that looks set to generate around $50million per year in cashflow from operations.

It can afford to earmark a fairly substantial budget to moving West Kenya right along, even after its paid out the now well-established dividend.

When you add it all up, the rising gold price, the established track record, the new production, and the exploration upside, All told, you get the sense that Shanta (12p) is just about to start firing on all cylinders.