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Friday, November 03, 2006


How High Can MMG Go?

Several readers have asked us what our target price for MMG is. We don’t use target prices, but we’ll try to give you a rough idea of how undervalued it is here by using a mining rule of thumb for valuation (additional to our previous valuation analysis which used 3 different methods to show a fair value of $13-21/share when zinc was $1.57).

Here's an article on calculating the value of a mining stock:

Julian Baring, the well known City ‘gold bug’, used to value mining stocks
by taking, as a rough guide, 10% of the value as calculated in the previous
paragraph as being the correct value for the company in question.

Gold mining rule of thumb

Curiously enough, this rough and ready guide seems to hold good today.
Figures calculated by the Mining Business Digest in 2000, based on data for
corporate acquisitions in the gold sector, reckoned that those at the earliest
stages of exploration, with some inferred resources, would be valued at most at
around 3.5% of the underlying metal value in the ground. An average for those
with more tangible metal assets to develop would fetch around 11% of underlying
value while those in the early stages of production could see a value of
anything from 15% to 25% of the value of the underlying ounces of metal in the
ground. It is not a hard and fast rule, however, and those mining base metals
are valued at correspondingly lower rates.

There is some more data confirming this gold mining rule of thumb.
According to figures compiled by Galahad Gold and sourced from broker reports
and the publication Gold Stock Analyst, the average value placed on ‘ounces in
the ground’ in 2005 was $120 for second tier companies about to start
production, $50 an ounce for those with resources that had been measured and/or
indicated, and $32 an ounce for those with simply inferred resources. This
compares with an average gold price for 2005 of $444, making the respective
percentages 27%, 11.2%, and 7.2% – not too far from those quoted earlier.

If you take MMG's 5.8 billion pounds of proven zinc and don't count anything for their high-grade silver and separate zinc for which the resource hasn't been estimated yet (the SEC doesn’t allow U.S. companies to disclose inferred resources), you can see how MMG is worth many times its current price:

Zinc today is at $1.9482/lb.
5.8 billion x $1.9482/lb. = $11,299,560,000 of proven zinc resources
$11,299,560,000 / 49.7 million shares fully diluted = $227.36 worth of zinc per share

10% of $227.36 is $22.74 per share value per Baring’s rough guide.

MMG’s zinc is a base metal, so some would say the value should be lower than for gold miners, but with its zinc project at a very late stage compared to most preproduction miners, and profit margins likely much higher than most gold miners (let’s say conservatively .35/lb. production costs, what Skorpion sold zinc for in 2003, for $1.9482/lb. refined zinc -- equivalent to $112.68 production costs for $627.20/oz gold, which would be very high margins for a gold miner), MMG should arguably get a higher value than gold miners.

To give you an idea of the upside once MMG gets to production, here are the numbers for HudBay:

HudBay Minerals:
3.11 billion lbs. x $1.9482/lb. = $6,058,902,000 of proven zinc resources
$6,058,902,000 / 124,796,513 basic shares outstanding = $48.55 worth of zinc per share

HBM closed at 19.28 CAD today, or about $17.16 USD per share
$17.16 / $48.55 = 35.35% of the value of their proven zinc

Baring used to say about valuing mining shares, “"Buy up to 10% of the in situ value of a deposit using current metal prices, hold up to 40% and sell above 40% taking no prisoners!!!!". Since HudBay is in production, and has other metal byproducts to help give them very high profit margins, we believe it is still undervalued, even as it approaches the 40% level for its proven zinc, as we expect zinc to move higher and HudBay’s profitability to go even higher.

When you add in the additional zinc and high-grade silver to the rule-of-thumb $22.74/share for the proven zinc resources, it seems clear to us that MMG is heading much higher than its current $3.63 now that its shares will be listed on a legitimate exchange and institutions around the world will be able to invest. If the price of zinc moves higher, as we expect given the supply/demand situation, the fair value for MMG will move higher as well. A year ago, HBM was at $3.75, so very high appreciation for zinc stocks as they advance their projects and zinc moves higher is nothing new.

Here’s the final weekly chart of MMGG before the rebirth as MMG (click on chart for larger view). You can see that in addition to the severe undervaluation pointing to higher prices, the chart is turning around and pointing higher as well.

Notably, all the big volume weeks have been up weeks, while the down weeks have been on lower volume. MACD is just hitting a buy signal. As in 2005, there was an extended period of several months in 2006 with negative money flow (the CMF chart at the bottom) and a sharp sell-off on lower volume. The 2005 sell-off ended with a sharp rally from under $1.00 to $5.67 with positive money flow all the way. With money flow just starting to turn positive and new investment from institutions expected on the new exchange, we’ll be interested to see how far this rally takes the stock in coming months/years.

While there may be some short-term pullbacks along the way, with zinc breaking out to new all-time highs and the company’s zinc feasibility study moving toward completion, it looks like the stock is poised to break out of its trading range and begin a new trend higher in coming months.

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