Centerra Gold: 2017 results review

"Buy" recommendation with 12M TP of 8.55CAD/share

Andrey KozhokaruApril 12, 2018

We believe that the deterioration in operating results of Mount Milligan, which was the main negative driver for the capitalization of Centerra in 4Q2017 to the large extent included in the current share price. We also believe that the market does not take into account all potential benefits from the acquisition in early 2018 of the Canadian company AuRico Metals, which owns Kemess deposits. Kemess fields have the lowest operating cost among all CG projects and a projected life of 24 years, which will support the production and profitability of the Company in the long run. The obtainment of all necessary permits and scheduled subsequent launch of a low-cost Oksut project will have an accretive effect on the shareholders of CG. A significant decrease in the operating forecast for Mount Milligan reduces our estimated value of CG, but given the current price, we maintain our Buy recommendation with 12M TP of 8.55 CAD/share.

Current operating assets of CG. Kumtor remains the Company's main asset and, after an agreement with the Kyrgyz government, and taking into account the 20 years of continuous operations, has a relatively low operating risk. We expect an increase in the all-in sustaining costs (AISC) at Kumtor to ~774 USD/oz (+11% y/y) in 2018, mainly due to the expected decline in annual production volumes in the medium term. According to latest estimates, Kumtor's open pit reserves are sufficient for an annual production of 500koz/year for the next 8 years. The actual results of Mount Milligan are inferior to the operating indicators presented in the technical report (March 2017). The volume of processed ore in 2017 was 18.5% below the target. Gold production in 2017 was below the Company's forecast by 9%. CG predicts an average decline in gold production at Mount Milligan in 2018 by 8% y/y. We believe that the reduction in processing levels due to maintenance and water shortages is temporary and CG will be able to adjust the operational process and will reach the target level (62.5kt/day), but with a certain time lag. The latter reduces our forecasts for the production at Mount Milligan for 2018-2019 by 20% on average.

Accretive projects Kemess. Payable advantages of the acquired Kemess projects are their low risk, arising from the Canadian jurisdiction, the availability of all necessary infrastructure and economic assessment (Kemess Underground), and competitive AISC, which make these projects the one with the lowest cost in the Centerra portfolio. According to the Company, AISC for Kemess Underground is 244USD/oz, while the consolidated AISC for the Company in 2017 was 688USD/oz. In addition, CG expects to receive in 2018 about 12mn USD of net royalty income from the AuRico royalty portfolio.

Medium-term start of Oksut. With AISC at 490USD/oz and an average annual production of gold at 110koz, the mine's life, according to the latest estimate (September 2015), will be 8 years. With a total capital investment of 220mn USD, the payback period (not discounted) will be about 2.3 years. Ramp up of the project to the design capacity is expected within 6 months after the launch, which is scheduled for early 2020. According to our conservative estimates, the net accretive effect of the future cash flows from the Oksut project on Centerra's share capital will be about 150mn USD.

12M TP 8,55CAD/share, the Buy recommendation. Forecasting the stability of production levels in the next 2 years, we expect the normalization of the operating performance of Mount Milligan and the start of production at the Oksut project in 2020, which under the anticipated favorable conjuncture in the gold and copper markets supports our recommendation to Buy CG shares at the current level.