Kirkland Lake Gold (TSX: KL) is a leading gold producer with several wholly owned operating mines in Canada and Australia. In 2019, the company produced 974,615 oz gold led by two of its high-grade, low-cost underground mining operations namely the Macassa mine in Canada and the Fosterville mine located in Australia. Further, in January 2020, the company announced that it had completed the acquisition of Detour Gold.

Investment Thesis:

• We Do Not See Signs of Weakness: Investors should note that Kirkland Lake Gold has managed to ramp up production in the past several years. To be precise, production jumped from 313.7 kozs in 2016 to 974.6 kozs in 2019. Further, the company has managed to drive down costs during the same period. The all-in sustaining costs per ounce of gold declined from US$ 930 in 2016 to US$ 564 in 2019. Also, Kirkland’s net earnings jumped from US$ 42.1 million in 2016 to US$ 560.1 million in 2019. Meanwhile, free cash flows increased from US$ 113.9 million in 2016 to US$ 463 million in 2019.

In response to the COVID-19 outbreak, Kirkland Lake Gold announced reduced operations at its several mines including the Macassa and Detour Lake mine. Also, the company suspended operations at its Holt Complex until April 30. Because of the suspension, the Holt and Taylor mines are placed on the temporary care and maintenance. We expect these challenges to impact Q22020 production, but these issues are transitory and likely to abate. Meanwhile, the company reported strong production in the first quarter. Production jumped 43% y-o-y in the first quarter of 2020. We believe the company remains well positioned, with no signs of weakness, to navigate the crisis without much impact on its financials. Notably, the company’s Fosterville mine (its cornerstone asset) is operating at full-capacity and continues to drive production. Further, the addition of Detour is likely to boost production and free cash flows significantly.

• Favorable Pricing Environment: Kirkland’s profitability and cash flows are closely linked to the price of the gold. Understand it from here, Kirkland Lake Gold’s revenues increased from US$ 915.9 million in 2018 to US$ 1,380 million in 2019. The sharp increase in the company’s top line reflected US$ 139 million contribution from the price increase. Besides, volumes added US$ 325 million. Currently, the economic situation is in favour of gold prices. Increased volatility in the equity market, declining interest rate, rising unemployment rate, and uncertainty surrounding the global economy has led to an increase in demand, in turn, the gold price. We expect the price of the yellow metal to sustain strength in 2020 and hold tight. Notably, higher realized prices are expected to support the company’s profitability and cash flows in the coming quarters.

• Strong Financial Health: Amid the current crisis, we believe the key differentiator between a good and bad company is their liquidity strength. Kirkland’s financial position remains solid, which is likely to support its business during large market swings. For instance, the company had cash of US$ 530 million as on March 31. Meanwhile, the company’s balance sheet is virtually debt free. Further, with the acquisition of Detour, the company gained access to Detour’s credit facility. These numbers are encouraging and are likely to help the company to support its growth initiatives and capital requirements including dividend payments. Investors should note that higher sales volumes in the first quarter and increased price realization are likely to boost the company’s free cash flows.

• Shareholder Friendly Company: Kirkland Lake Gold’s investors have been benefitting from the company’s shareholder friendly moves. During the first quarter of 2020, Kirkland repurchased 9.7 million shares for about US$ 329 million. Meanwhile, it doubled its quarterly dividends from US$ 0.06 per share in the fourth quarter of 2019 to US$ 0.125 in the first quarter of 2020. Notably, the company has increased its dividends six times since mid-2017. Moreover, it has returned US$ 140 million to its shareholders in the form of dividends. Given the company’s strong financial position, investors can expect Kirkland to continue to boost shareholders’ returns through share buybacks and dividends.

Dividend History (Source: Company Reports)

• Detour Acquisition Adds Another Cornerstone Mine: Kirkland Lake Gold announced the closing of Detour acquisition in January 2020. The acquisition of Detour is likely to add high-quality asset in its portfolio, thus increasing reserves and boosting production and cash flows. Earlier, the company’s management stated that the Detour acquisition is likely to boost production to 1.4 million ounces in 2020. Meanwhile, it will help the company to generate about half a billion dollar in cash flows.

Risks: Kirkland Lake Gold’s financial performance is closely tied to the prices of gold. The prices of gold are subject to volatility and can be affected by multiple macroeconomic factors. Further, mining activities involve high degree of risks stemming from unexpected geological formations.

1Q20 Production Update:

On April 8, Kirkland Lake Gold announced 1Q20 production data.  The company produced 330,864 ounces of gold in the first quarter, up about 43% y-o-y from 231,879 ounces of gold in the prior year period. Notably, the first quarter production continued to benefit from increased production at its Fosterville million. Meanwhile, Detour Lake mine added 91,555 ounces to the total gold production in the Q1. Production at Fosterville mine increased 24% y-o-y to 159,864 ounces. Meanwhile, production at Macassa, Detour, and Holt Complex declined y-o-y.

1Q20 Gold Production (Source: Company Reports)

Total consolidated gold sales came in at 344,586 ounces, up from 232,929 ounces in the first quarter of 2019.

4Q19 Financial Recap: On February 19, 2020, Kirkland Lake Gold announced stronger-than-expected fourth quarter results. Strong volumes growth and higher average price realization drove the company’s financials. During the fourth quarter, the company produced 279,742 ounces of gold, up 21% from 231,217 ounces in Q42018. Meanwhile, it increased by 13% from 248,400 ounces in the third quarter of 2019.

Kirkland posted revenues of US$ 412.4 million in the fourth quarter, up 47% y-o-y from US$ 280.3 million in Q42018. The y-o-y increase in sales reflects higher gold sales and increased pricing. Gold sales came in at 278,438 ounces in the fourth quarter, up 23% y-o-y. Increased volumes added US$ 65 million, while pricing contributed US$ 67 million.

The company also reported its best unit cost performance in the fourth quarter. The company’s average cash cost stood at US$ 255/oz, as compared to US$ 286/oz in Q42018. Meanwhile, the all-in sustaining costs averaged US$ 512/oz, reflecting 10% improvement over US$ 567/oz in the fourth quarter of 2018.

The company posted EBITDA of US$ 285.6 million, up 52% y-o-y from US$ 187.8 million in fourth quarter of the prior year. The strong growth came on the back of strong revenues and lower costs.

Kirkland Lake Gold posted adjusted net earnings of US$ 185.3 million, implying an increase of 76% y-o-y. Adjusted EPS came in at US$ 0.88. Net cash provided by operating activities jumped 19% y-o-y to US$ 247.1 million. Meanwhile, free cash flows stood at US$132.8 million, reflecting a strong growth of 48% y-o-y.

Q42019 Financial Highlights (Source: Company Reports)

Top 10 Shareholders: 

The top 10 shareholders have been highlighted in the table, which together form around 38.4% of the total shareholding. Van Eck Associates Corporation is the entity holding maximum shares in the company at 7.1%. Fidelity Management & Research Company is the second-largest shareholder, with a holding of 6.7%.

Top Ten Shareholders (Source: Thomson Reuters)

Key Metrics:  

In 2019, the company generated gross margin of 64.8%, up significantly from 53.3% in 2018. Meanwhile, EBITDA margin also showed stellar growth. Higher pricing and volumes supported the company’s margin in 2019. The company has virtually no debt on its balance sheet. Net margins in FY19 stood at 40.6%, well above FY18 number.

Key Metrics (Source: Thomson Reuters)

Key Valuation Metrics:

Key Valuation Metrics (Source: Thomson Reuters)

Valuation Methodology (Illustrative): 

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months

Stock Recommendation: Shares of Kirkland Lake Gold have been resilient to the recent stock market crash. KL stock is trading in a positive territory so far this year, thanks to the strong volumes growth and increase in average realized price. The company posted strong production number for the first quarter of 2020 despite challenges from COVID-19 outbreak. Barring near-term production challenges at some of its mine, we expect Kirkland to post strong volumes in 2020 led by addition of Detour and sustained momentum in its Fosterville mine. Besides, favorable pricing environment is likely to support the company’s financial performance. Higher volumes and increased price is expected support Kirkland’s bottom line and free cash flows. Further, the company remains well-positioned on the liquidity front with ample cash to fund its growth initiatives and cover dividends. KL stock trades at a premium when compared to peers and we expect the multiple to expand further owing to the ramp up in production in 2020.  We have valued the stock using Price/Cash Flow based relative valuation method with a target multiple of 10.5x. We arrived at a target price which implies an upside potential in lower double-digit upside (in % terms).  Hence, we give a ‘Buy’ recommendation on the stock at the closing price of CAD 58.85, up 3.98% as on April 23, 2020. 

KL One-Year Daily Price Chart (Source: Thomson Reuters)

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