Pan American Silver Corp (TSX: PAAS) is a Canada-based the world’s premier silver mining company, with large silver reserves and a diversified portfolio of producing mines, with 9 operation in the America. It also produces and sells gold, zinc, lead and copper. Its properties in North and Central America include Timmins, La Colorada, Dolores and Escobal. Its operating properties in South America include Shahuindo, La Arena, Huaron, Morococha, San Vicente and Manantial Espejo. Its exploration and portfolio assets also include La Colorada Skarn and Navidad.

Investment Rationale

• Creating Value for Shareholders: The group is the industry leader in the high margin and low-cost production and generated ~USD 1.5B in free cash flow since 2010. Moreover, in the FY20, the group generated a record operating cash flow of USD 462.3 million, which was USD 180.3 million or 63% higher than the USD 282.0 million generated in 2019. Further, the group’s free cash flow soared by 85% to USD 323 million against USD 175 million reported a year over period, driven by a strong rally in the metal prices in 2020. This solid jump in the operating cash flow and free cash flow has enabled the group to fully repay all bank debt, double the quarterly dividend to shareholders, and grow cash balance at year-end.

Source: Company Presentation

• Bolstered Net Cash Position: Pan America Silver has consistently reported growth in its net cash position. The net cash position of USD 279 million at the end of the Q4FY20 soared by 105% on a sequential quarter basis and turned positive on a YoY basis. This was primarily driven by the solid financial performance of the company in 2020, led by a string rally in the underlying metal prices in which the group deals and competitive advantage of the group in terms of high margin and low production cost.

Source: Company Presentation

• Debt-free Balance Sheet: The largest silver mining group turned debt free in the fourth quarter of 2020. In the last fiscal quarter, Pan American repaid the remaining USD 275.0 million outstanding on its corporate credit facility. Now the group has no bank debt, with remarkable growth in the group’s cash and short-term investment balances as it increased to approximately USD 279.1 million as of December 31, 2020, vs USD 238.34 million as of December 31, 2019. Also, the prudent investment made by the company in a high return project has a crucial role in strengthening the group’s balance sheet. 

• Bullish 2021 Guidance Set the Company for Upside Bets: The group is expecting a 35% increase in silver production relative to 2020 and record gold production in 2021, and the company is seeing a robust free cash flow level. Further, ability to overcome the extraordinary challenges over the past year while managing their nine operations, generating substantial free cash flow, advancing their La Colorada skarn project, and re-paying all the company’s bank debt is a testament to their team and the benefit of having a diversified portfolio of quality assets. Further, the company anticipate 2021 to be a much stronger year across all the company’s operations. 

• Silver – Metal of Future: Demand for silver would be in the limelight led by a wide range of reasons; a) Silver has the highest electrical and thermal conductivity of all metals, making it an important metal in the transition to a low carbon economy; b) ~10% of silver supply used for photovoltaics (construction of solar panels; c) ~30% of silver supply used in electrical applications. Shift to a low carbon economy involves an increase in electrical componentry, including electric vehicles; d) Silver is an important component in the buildout of 5G networks, the next major evolution in communication technology; e) Silver has medical and sanitary applications because of its anti-bacterial properties. Further, Silver investment rose in 2020, as investors gravitated to safe-haven investments, and global holdings of silver-backed exchange-traded products (ETP) rose to a record 1.1 billion ounces YTD 2020. Also, the macro environment supportive of precious metal prices (high levels of negative-yielding debt, significant fiscal/monetary stimulus, and lower real rates globally). The company is well placed to capitalize on rising silver demand. 

• Risk Associated to Investment: Shares of PAAS is significantly exposed to the volatility in a varied number of commodities ranging from Silver, Gold, Copper and Zinc. However, the majority of changes in financial performance could come from volatility in silver and gold prices. Also, the second wave of Coronavirus could hamper the group’s production, which would weigh on the group’s financials as well.

Financial Highlights: FY20

• In the financial year 2020, the group's revenue of USD 1.34 billion was 1% lower on an annual basis, reflecting decreased quantities of metal sold offset by higher realized precious metal prices. Quantities of metals sold were largely impacted by the COVID-19 related mine suspensions and throughput reductions. Revenue in the fourth quarter of 2020 ("Q4 2020") of USD 430.5 million was a quarterly record for the company.
• Consolidated silver production for 2020 of 17.3 million ounces was 8.6 million ounces less than 2019, mainly reflecting COVID-19 related mine suspensions and restricted capacities. 2020 silver production was less than the Revised 2020 Forecast range of 18.0 to 19.0 million ounces, largely due to the production shortfall at La Colorada from the impact of the loss of a ventilation raise from the surface in Q4 2020.
• Consolidated gold production for 2020 of 522.4 thousand ounces was 36.7 thousand ounces less than 2019, largely reflecting the same COVID-19 related factors that affected 2020 silver production, partially offset by continued limited production at the Gold Segment mines during their suspensions from the circulation of process solutions on the heap leach pads, and better ability to operate the open-pit mines at rates closer to design capacity than in the underground mines where social distancing measures are more restrictive. 2020 gold production was slightly lower than the Revised 2020 Forecast range of 525.0 to 575.0 thousand ounces.
• Zinc production in 2020 of 40.2 thousand tonnes was lower than in 2019, primarily due to the impact of COVID-19, and was within management's Revised 2020 Forecast production range of 40.0 to 43.0 thousand tonnes.
• Lead production in 2020 of 15.7 thousand tonnes was lower than in 2019, due to the impact of COVID-19, and was below management's Revised 2020 Forecast production range of 17.0 to 18.0 thousand tonnes.
• Copper production in 2020 of 5.2 thousand tonnes was lower than in 2019 and above management's Revised 2020 Forecast production range of 4.3 to 4.9 thousand tonnes.
• Net earnings of USD 176.5 million (USD 0.85 basic income per share) was recorded for 2020 compared with USD 111.2 million (USD 0.55 basic income per share) in 2019. The USD 65.2 million year-over-year increase mainly reflects a USD 130.9 million increase in mine operating earnings.
• Adjusted earnings in 2020 were USD 243.4 million, representing basic adjusted earnings per share of USD 1.16, which was USD 85.4 million, or USD 0.37 per share, higher than 2019 adjusted earnings of USD 158.0 million, and basic adjusted earnings per share of USD 0.78, respectively.
• Cash flow from operations: in 2020 totalled USD 462.3 million for a Company record, which was USD 180.3 million more than the USD 282.0 million generated in 2019. Cash flow from operations in Q4 2020 of USD 170.6 million was also a quarterly record.
• As of December 31, 2020, the company had cash and short-term investment balances of USD 279.1 million, working capital of USD 495.2 million, and the full USD 500.0 million available under its revolving credit facility, following repayment in Q4 2020 of the remaining USD 90.0 million drawn amount. The total debt of USD 33.6 million was related to lease liabilities.

Cash costs per ounce sold:

• Silver Segment 2020 cash costs were USD 7.05 per silver ounce sold, in-line with the Revised 2020 Forecast range of USD 6.20 to USD 7.70 per silver ounce sold.
• Gold Segment 2020 cash costs were USD 797 per gold ounce sold, which was slightly lower than the Revised 2020 Forecast range of USD 800 to USD 860 per gold ounce sold.

All-in Sustaining Costs per ounce sold:

• Silver Segment 2020 AISC were USD 11.38 per silver ounce sold, in-line with the Revised 2020 Forecast range of USD 10.50 to USD 12.50 per silver ounce sold.
• Gold Segment 2020 AISC were USD 1,011 per gold ounce sold, which was lower than the Revised 2020 Forecast range of USD 1,050 to USD 1,125 per gold ounce sold.
• Consolidated 2020 AISC per silver ounce sold, including by-product credits from the Gold Segment mines, were negative USD (3.29) per silver ounce sold, which was lower than the Revised 2020 Forecast range of USD (3.00) to USD 0.75 per silver ounce sold.

Top-10 Shareholders

The top 10 shareholders have been highlighted in the table, which together forms around 26.88% of the total shareholding. Van Eck Associates Corporation and The Vanguard Group, Inc. holds the maximum interests in the company at 11.58% and 2.84%, respectively.  Further, shareholding pattern reflects that 6 out of top-10 shareholders have increased their stake in the company over the last three months, with Sprott Asset Management LP, Van Eck Associates Corporation and ETF Managers Group, LLC. are among the top investors in the company those have increased their stakes by 2.96 million, 1.94 million and 0.79 million, respectively. The institutional ownership in “PAAS” stood at 59.45%, and ownership of the strategic entities stood at 1.60%.

Source: Refinitiv (Thomson Reuters)

Valuation Methodology (Illustrative): EV to Sales Based Valuation Metrics

Stock Recommendation: 2020 went quite well for the company despite a lower production led by the COVID-19 pandemic, and lower production was largely offset by a big rally in the commodity prices. Further, during the year just gone by, the group created significant value for its shareholders by completely making the company debt-free, record cash flow from operations, record free cash flow and doubled quarterly dividend to USD 0.07/share.

Further, in 2021 the group is expecting a record gold production and a ~35% increase in silver production vs 2020, with production and operating cash flow expected to increase towards the second half of the year.

The Tahoe acquisitions complemented the group as it generated USD 424 million in Free Cash Flow, which represents ~37% of the acquisition cost in less than two years. Moreover, it has contributed strong free cash flow while gold price averaged USD 1,582/oz since transaction close and during COVID-19 disruptions.

Further, three large catalysts, which would grow shareholder value are; 1) Escobal, Guatemala – large, already-built silver mine with 264.5 M ounces of silver in reserves, 2) La Colorada, Mexico – a new discovery with an estimated 100.4 M tonnes of inferred mineral resource; and 3)Navidad, Argentina – large undeveloped silver deposit with 632.3 M ounces of silver in measured and indicated resources.

More importantly, silver could be the metal with the next big surprise as rapidly rising demand for silver in industrial applications, especially those driving the green transformation such as photovoltaic cells used in solar panel production. 

Therefore, based on the above rationale and valuation, we recommend a “Buy” rating at the closing price of CAD 39.6 on March 11, 2021. We have considered Endeavour Silver Corp, Silvercorp Metals Inc and First Majestic Silver Corp etc., as a peer group for the comparison purpose.

1-Year Price Chart (as on March 11, 2021). Source: Refinitiv (Thomson Reuters).

*Recommendation is valid at March 12, 2021 price as well.

Disclaimer

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