Novo Resources (NVO) - Club Company Report Preview

September 27 2020, 12:40 GMT+01:00

CRUX Investor wrote its first company report in April 2020, on Novo Resources Corporation (“Novo Resources”) (TSX:NVO). Since April the share price has doubled, the Company has raised C$56M from investors, and the market capitalisation is currently C$628M.

NOTE: This is only a short excerpt, not the full 40 page report which can be found in the Club.

NOTE: We don't short stock or get paid to write hit pieces. If we are invested, we say so.



In that first report Crux Investor highlighted many structural problems with Novo Resources such as ongoing mission creep and absence of milestone delivery, the lack of resources at Comet Well / Purdy’s Reward caused by an insurmountable nugget effect problem, the lack of technical reports at Beatons Creek, the terrace nature of gold at Egina, and Dr Hennigh’s personal enrichment activities at the probable expense of shareholders. In April Crux Investor felt that the Company was over-valued, notwithstanding the overall bull market in precious metals.

Clearly management of Novo Resources (and its supporters) will feel vindicated, given that the share price has doubled in 5-months, and the Company continues to receive support from investors.

In a moment of humility, Crux Investor wanted to check to see if that first analysis was unfair, or inaccurate. Accordingly, we have completed a fresh, bottom-up review of Novo Resources, with a detailed financial and technical review, prepared by a new analyst. For the sake of fresh readers, a complete background is provided, and so here it is - the new Novo Resources, Crux Investor Update (with occasional reference to the April 2020 Crux Investor Report).

Novo Resources is a Canadian company which took licences in North-Western Australia in 2012 exploring paleo-placer gold deposits in the Pilbara region. The area was known as a place where prospectors could pick up gold nuggets using metal detectors and Australian companies had explored it systematically in the 1970s. Although no large scale, commercial gold mining operation had been established in the region, Dr. Quinton Hennigh, having worked in the area as a Senior Geologist for Newmont Corporation, believed that a commercial discovery could be made. In 2010, Hennigh helped start Novo Resources and began assembling its Australian exploration portfolio. Hennigh is currently Chairman and President of Novo Resources.

The first project was Beatons Creek, comprising a set of mining licences and a surround package of exploration licences. The mining licences themselves were bought from a company called Millenium Minerals Ltd (“Millenium”), and the exploration licences around it, owned by Mr Creasy, a well-known Australian prospector, and companies controlled by Mr Creasy (“the Creasy Group” of “CGE”) were together structured into a 70% joint venture with Novo Resources. Crux Investor notes that the consideration paid to the Creasy Group far exceeded what was paid to Millenium, whereas all substantive historical work seems to have been on the mining licences.

The Beatons Creek project was quickly advanced with a NI.43-101 compliant resource estimate declared on 1 May 2013 containing 0.42Moz gold at an average grade of 1.47g/t Au. In addition, promising results were announced at another prospect. Novo Resources declared the financial year ending 31 January 2014 a “banner year”. It was so much encouraged by the initial results that Novo Resources became a serial deal-maker, picking up large tracts of mineral rights in the Hammersley Basin of the Pilbara region where similar geological deposits to the Beacons Creek area were found.

Signing off on Resources internally should not be done until there is an established track record of conversion to production. This is a clear Red Flag.

In the Management Discussion & Analysis (“MDA”) for the year ending 31 January 2015 management undertook to “fast-track Beatons Creek toward production” contemplating a mining rate of 1,000t – 1,500tpd”. Despite multiple promises of Feasibility Studies and fast-track production, there must have been complications as the Beatons Creek project has yet to be given the go-ahead. Reality failed to match rhetoric.

The technical information on Beatons Creek shows that extracting the gold-bearing conglomerates need careful delineation, which includes drilling/pitting/trenching to determine top and bottom of the strata to mine. Mining of the relatively narrow horizons that have an undulating bottom will result in considerable dilution. The resources are present in numerous reefs, but mainly in two reefs considered more continuous, but also generally deeper under overburden.

Despite years of on-and-off further exploration Novo Resources has struggled to substantially add to the 2013 Resources declaring in 2019 open pit resources of 0.75Moz. The grade has however improved to 2.3g/t Au, but with a grade of 2.1g/t Au in Indicated Resources and 2.7g/t Au in Inferred Resources. The technical report gives no geological explanation for the lower confidence resources to have a higher grade. More worrisome, bulk sample results which can be considered much more representative than smaller trench sample results on which the resource grade is based, proved to be much lower than modelled for the bulk sample sites. Furthermore, when commercially mining the narrow gold-bearing conglomerates alternating with barren sections that are visually indistinguishable, much dilution can be expected compared to the carefully controlled bulk sampling exercise.

Novo Resources is currently in the process of acquiring Millenium shares to take control of its existing process plant at 10km from Beatons Creek. Whether this 1.5Mtpa plant is optimally set up to treat the Beatons Creek mineralisation is not yet clear from the documentation.

This study has valued the Beatons Creek project for two scenarios: mining at resource grade and mining assuming 30% dilution, which is more than the 20% dilution experienced bulk sampling to account for less grade control when commercially mining. At the gold price of US$1,930 on 8 September 2020 and with Beatons Creek having to cover the cash corporate overhead expenses of C$6.1M per annum, the NPV7.5 of the project is US$253M. It generates an excellent cash margin of almost 53% of gross revenue, but has a limited life of mine (“LOM”) of 6.7-years to 8.7-years, depending on whether dilution is included or not. On paper this project would be profitable, but it requires significant further work to de-risk the opportunity. In April 2020 Crux Investor noted that Beatons Creek had gone backwards from promises of fast-track production in 2015, to promises of a Pre-Feasibility Study, to promises of an Option Study. There has been no technical study at Beatons Creek for years and Crux Investors’ new evaluation of the project also arrives at the conclusion that the Beatons Creek resource is unlikely to ever come out of the ground.

It should be stated that there have been a number of resource updates at Beatons Creek, in 2013, 2015, 2018 and most recently in 2019. The first 3 of these reports were written by independent consultants. Remarkably the 2019 resource update was written by Novo Resources itself. Crux Investor believes that no matter how much internal expertise a junior mining company has, signing off on resources internally should not be done until there is an established track record of conversion to production. This is a clear Red Flag.

The Novo Resources share price came alight in July 2017 when it announced the discovery of large (up to 4 cm) gold nuggets at Purdy’s Reward. The licences are from one of the Company’s many acquisitions, but not a Creasy Group asset. The share price rocketed tenfold making the company for a short period a US$1Bn enterprise. When interest started waning at Purdy’s Reward, announcements of nuggets at an adjacent property, Comet Well, temporarily re-inflated the balloon. Over time things have gone quiet with regard to these prospects, which is completely understandable when the technical information is thoroughly reviewed. This fresh Crux Investor report sifted through the data and saw that the weighted average grade of 0.91 g/t Au of selectively reported bulk samples renders Purdy’s Reward and Comet Well, well, worthless. So much for the US$1Bn hype, and remember that companies that selectively report samples will always report the best selection, not the worst or the average.

With Novo Resources management realising there is little (no) joy to be had from eitherBeatons Creek, or Comet Well / Purdy’s Reward, attention moved on to the Egina project where prospectors at an area referred to as Farno had found gold nuggets. This time round management held out the prospect of much larger target areas with the gold in a different type, more ubiquitous occurring conglomerate. Once again, however, a review of the news releases and documents published by Novo Resources shows that the asset falls short. The surface area explored to date is not more than 800m x 200m and bulk sampling has yielded an average grade of 0.35g/t Au and a gravity recovered yield of 0.28g/t Au. And once again, the fresh Crux Investor report reached a confident but critical conclusion on the value of Egina. Worthless.

Curiously, even while it has been strategically shifting away from the Pilbara the Company has also taken full control of the Greasy Group tenements areas. Perhaps it is looking to sell the entire portfolio as a job lot, despite the fact that in ten years the Company has not had any obvious exploration success on any of the licences?

Finally, it is worth remarking that management has recently been vocal about the testing of ore sorters to reject waste. Crux Investor reminds readers that pre-concentration does not add gold to the production schedule, rather it is a volume-reduction step that may or may not create value for shareholders. Any savings created by lowering processing costs have to be off-set against revenue losses due to less gold being recovered in the full beneficiation circuit. There will be cost savings from having reduced amounts of material needing to undergo a more expensive concentration process. Equally, such a benefit comes at the loss of gold in the pre-concentration stage as not all the gold will be recovered. Therefore, the loss of revenue may well be greater than the operating cost saving. Pre-concentration in itself is not a game-changer.

Hennigh, Chairman of Novo Resource has always had too many other corporate positions for comfort but in recent months he has taken on more and more positions, reducing the time he spends on Novo Resources

At its most basic, the Company is built on sand with most of the Pilbara portfolio acreage being worthless. Yes, we concede that Beatons Creek does have a theoretical value and a positive NPV but we feel the resource can be grouped among those that are never coming out of the ground. Ironically, even though Novo Resources continues to promote the Pilbara portfolio, we believe that senior management within the Company has reached the same conclusion as Crux Investor. Events of the past 2-years show that Directors of Novo Resources have lost faith in the projects as the Company and its Chairman have steadily been diversifying away from the Pilbara gold conglomerates.

In 2019 and 2020 the company has changed its stated objective of developing gold in the Pilbara, adding the phrase that it “seeks to leverage its internal geological expertise to deliver value- accretive opportunities for its shareholders.” This is code for, “the Pilbara assets are worthless, we need to diversify.”

Novo Resource invested A$4M in an 8.2% stake in Kalamazoo Resources Limited in January 2020, with gold projects in the Fosterville region of Victoria, South Australia. In the same month Novo took a 15.97% stake in a private exploration company in a share swap. The private company is New Found Gold Corp and has exploration ground in Newfoundland and Labrador, Canada, and it ended up with a 3.73% stake in Novo. In March 2020, Novo Resources subscribed for 9 million shares in ASX listed company GBM Resources Limited with an earn-in right for up to 60% of the Malmesbury Gold Project in Bendigo, Victoria, South Australia.

Hennigh, Chairman of Novo Resource has always had too many other corporate positions for comfort but in recent months he has taken on more and more positions, reducing the time he spends on Novo Resources, and reducing his reliance on the Novo shilling/pfennig/dime. He has at least seventeen paid positions as Director or Advisor to companies other than Novo Resources and incredibly, he has taken on 10 new roles in 2020 alone.

When the Board of Directors agrees that Novo Resources money should be invested into companies OTHER than Novo Resources, and when the Chairman and President takes any position offered to him OTHER than Novo Resources, the message to shareholders should be received loud and clear, “abandon ship, abandon ship”. It is every man for himself at this point.

All in all, Crux Investor arrives at a set of Green Lights and Red Flags that are very similar to the report from April of this year. Not wanting to mince our words, Crux Investor views almost everything to do with the Company as being a furiously waving Red Flag.

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