Investing Strategy: The Xtract Resources Edit

Xtract’s Zambia exploration JVs could bear fruit soon, while the economics at Bushranger continue to improve as copper soars. And with Manica sold, it remains cashed up to deliver.

Good morning, and welcome to this week’s EDIT — a series of articles in which I attempt to concisely explain the comprehensive investment case for a single company in the small cap sector. With my focus currently on copper and southern Africa, Xtract Resources (LON: XTR) is next on the list.

Before we continue, the standard caveats:

• This is not financial advice. Do your own research and make your own decisions.
• There are some important first steps to consider before investing in AIM shares, or in mining shares. Generically, these centre around developing financial resilience and diversification.
• While Xtract appears to be a solid opportunity at this price level, it is a small cap. This means higher risk than those associated with larger companies, but with correspondingly larger potential upside.

These risk warnings may feel repetitive, but I think it is important for investors looking for lucrative returns to be aware that risks are often correspondingly magnified.

Xtract shares rose sharply in the pandemic years as Bushranger RNSs dropped left, right and centre, but they have fallen since, hitting nearly 7p in April 2022 — and dipping to around 1p per share today.

This may be an excellent entry point.

Let’s dive in.

Xtract Resources: Manica sale and cash implications

Before taking a look at some of the key assets, it’s worth considering the recent sale of Manica and what it means in terms of future cashflow.

The proposal was announced on 24 January and subsequently executed on 22 February 2024. Xtract agreed to sell its 23% net profit share interest in the asset to Mozambique partner MMP, on the following basis:

‘Up to $15 million in cash in regular staged payments to 1 March 2027.’

Executive Chairman Colin Bird noted that while the project was already producing it would now ‘be transitioning to the complex ore phase which has not yet been fully scoped or technically and financially modelled. We do not want to be exposed to this risk, particularly in exciting copper times for our Company.’

It’s probably also worth mentioning that under the previous regime, Xtract held the asset’s licence, but MMP made the managerial decisions — which also made Xtract liable for any issues, despite a lack of influence over them.

The focus is now on the Zambian exploration activities. Presumably, millions of dollars in cash over the next three years will help immensely — and in particular, with the thorny problem of raises at discounts currently plaguing the sector.

Before anyone starts complaining about what ‘up to $15 million’ actually constitutes, including when payments are staged and at what milestones, here’s the deal:

Under the agreement, Xtract will be paid:

• 12 quarterly instalments of $750,000 from 1 March 2024, with the last payment 1 December 2026
• A further $3 million in cash before 1 March 2027
• An additional $3 million deferred consideration payable in three instalments through 2025-26, should MMP decide to build a sulphide plant

But the bottom line is that you have cash coming in every quarter from this sale — making exploration of other assets much more palatable. Was selling this producing project a good idea? I suppose investors will only know in hindsight.

But for context, there is a February 2017 DFS for the open pit operation of the Fair Bride deposit at Manica — completed by Minxcon and based on a SAMREC-compliant open pit resource of 13.95Mt at 1.76g/t Au for 789Koz Au and an underground resource of 5.66Mt at 2.6g/t Au for 473Koz Au.

On the other hand, the sale avoids additional geological risk alongside significant potential liability — and provides funding to significantly develop Xtract’s exploratory portfolio.

And $12-15 million buys you an awful lot of exploration.

Bushranger

Bushranger — in New South Wales, Australia — occurs within the Rockley-Gulgong Belt of the Macquarie Arc within the Lachlan Fold Belt. It contains two Xtract resources — Racecourse with a combined indicated and inferred Mineral Resource of 512Mt, and Ascot (1km to the south) with a maiden 87Mt, both at 0.22% copper equivalent at a 0.1% cut-off grade.

The belt is home to world-class porphyry copper-gold deposits, including Cadia-Ridgeway and North Parkes, epithermal gold deposits such as McPhillamy’s and Tomingle, and VHMS deposits including Woodlawn. Unsurprisingly, it’s also well-positioned for infrastructure, staff, and pro-mining politics.

Over 35,000 metres of diamond core drilling has now been completed by Xtract on Bushranger since acquiring the asset — which now contains more than 1.3Mt of copper equivalent metal, with the shallower high-grade zone at the Racecourse prospect hosting a total of 191Mt @ 0.33% CuEq at a 0.2% CuEq cut-off.

In late 2023, Xtract released a comprehensive pit optimisation and financial modelling study, specifically considering the economics surrounding extracting the copper and gold.

The business engaged Optimal Mining Solutions — which counts Rio Tinto, BHP and Yancoal among its clients — to investigate various potential scenarios, including a 5Mtpa, 20Mtpa or 25Mtpa open pit mining operation, focussed on the extraction of shallow higher-grade mineralisation.

The key finding was that Racecourse can be economically mined at mining rates of 20Mpta, or greater, and at copper prices of US$10,000/t and above. For context, copper is now finally closing in on this magic number and is expected to rise higher through the 2020s as the supply gap emerges.

The study also concluded that the highest net present value is AU$363m, processing ore above 0.10% CuEq at 20mtpa with a sale price of US$11,000/t. Of course, this assumption may be too conservative; Trafigura is the world’s largest copper trader and sees $12,000 as a distinct possibility.

Further, Optimal noted that optimising the processing plant capacity, capital costs, operating costs and metallurgical recoveries could greatly improve the economic outcomes of mining Racecourse — though the orebody is not amenable to ore sorting. The Ascot mineral resource was found to be not economically viable due to its smaller size and depth from surface, though this target remains in the early stages of exploration.

For context, the discovery of Ascot could confirm that Bushranger hosts multiple copper-gold porphyry systems — and these yet-to-be-found new discoveries could greatly enhance the economics over time — with several untested targets already waiting to be drilled.

The current focus is now on further improvements in metallurgical recovery, including potentially alternative ore pre-concentration methods. It’s worth noting that pre-ore concentration that does not involve ore sorting could be game-changing. For context, processing costs are modelled at circa 50% of total opex due to the grade at Racecourse, and any reduction in material going through later stages of any plant would heavily reduce wear and tear — and therefore opex costs.

Given that large deposits like Bushranger require more capex than standard — and that improved metallurgical understanding could have large effects on both capex and opex — more due diligence will need to be completed as even more favourable numbers seem achievable.

But the bottom line is that Optimal concluded that:

‘due to the large size and relatively low grade of the Racecourse deposit, conditions are expected to be excellent for efficient and productive mining.’

And Bird enthused that ‘the final results from the Bushranger Study show that the currently defined Mineral Resources on the Bushranger Project have the potential to be the basis of a large scale, economic mining operation, producing significant free cash flows.’

Under the study, 16 cases covering copper price points ranging from $8,000/t to $11,000/t, two different cut-off grades, and two mining rates were assessed. Case 12 — of 25Mtpa mining rate, $11k/t copper sale price and 0.10% CuEq cut-off grade — provided the highest cashflow of  circa AU$1.9 billion.

However, case 17 where opex was set at AU$8.41/t milled generates an additional AU$425M in free cash flow, demonstrating how much better the economics of the project could be given further study.

The big question, of course, is of a JV or asset sale as the copper price creeps up. Bushranger is surrounded by ore-hungry plants and the moment copper crosses $10,000; it will hit radars.

Zambian copper

Covering every aspect of the Zambian copper exploration is perhaps a task best devoted to a Trappist monk, but I can cover the key aspects here.

The Zambian government — including the President — has been very clear that it wishes to more than triple copper production from the present 830,000 tpa to 3 million tpa by the end of the decade.

Please consider these pieces covering Zambia and copper here — they have significant detail on both.

On 8 February, Xtract announced an update on its exploration JV with consultancy firm Cooperlemon — which has been running since August 2023 — covering large scale exploration licences 29123-HQ-LEL and 30459-HQ-LEL in Northwest Zambia.

These two licences are both located within the Western Foreland geological district that hosts the Kamoa-Kakula deposit and the Central Fold and Thrust Belt — covering a combined 107,000 hectares — in an area where competition for licences continues to heat up as copper rises amid the supply deficit, the region continues to boast world class assets, and Zambian politics become ever more copper-friendly.

Licence 29123 – HQ – LEL is located to the west of the ‘perceived’ boundary between the Western Foreland and Fold Belt, while Licence 30459 – HQ – LEL is both coincident with the boundary and may also include part of the Fold Belt.

Importantly, Xtract believes there is scope for the discovery of potentially high-grade Kamoa-style mineralisation at depth and lower grade Kolwezi-type mineralisation at or near-surface. This is key — I explain why below.

Exploration of the licences has been started with the recent acquisition of a major historic database created by Anglo American, which should enable a cost-effective and fast-track programme.

Bird notes that:

‘We have recently embarked on an intensive exploration campaign targeting a discovery of commercial grade and tonnage of copper in a region of NW Zambia that is not only the subject of more intense competition than I have ever known for exploration ground but also the focus of attention for most of the world’s major mining companies. NW Zambia is a proven host for large scale copper deposits and the geology of our Joint Venture ground is highly prospective. Zambia as a nation has set ambitious targets for copper production to underpin its economic progress and Xtract intends to become a part of that story initially by being the only junior company operating its own Joint Venture licences on a self-financing and independent basis.’

It’s important to understand why there is intense competition for licences in this area — in terms that the average investor can understand without needing a degree in metallurgical studies.

Here’s the breakdown:

• the general geology of the licence areas is arguably dominated by the Western Foreland succession (Kamoa-style mineralisation), alongside the neighbouring Lufilian Fold Thrust Belt that plays host to lower grade, bulk tonnage, near-surface mineralisation.

• this geology is similar to that of the Kamoa-Kakula deposit operated by Ivanhoe Mines in neighbouring DROC, with the licence areas projected to have continuity with the geology of DROC, and entirely surrounded by ground under licence to, or within, partnerships or joint ventures between local companies and titans including Rio Tinto, Anglo American, First Quantum Minerals and Ivanhoe Mines.
• On 27 November 2023, Ivanhoe announced ‘greenfield’ prospecting rights for exploration over more than 22,000 square kilometres in the Angolan provinces of Moxico and Cuando Cubango — immediately to the west of Xtract’s licences and believed to be similar to Kamoa-Kakula.
• The nearby Kakula Mine in DROC is among the world’s highest-grade copper mines with deep, high-grade copper mineralisation. 

Under the JV, there is phased investment as is typical:

• Phase 1 — the Company will earn a 65% interest in the JV by funding exploration expenditure over two years at least $2 million.

• Phase 2 — if the Phase 1 exploration results suggest the potential for the future development of a Mineral Resource of at least 500,000t of contained copper, then Phase 2 will cover two more years of exploration and a budget of $3 million.

• Xtract will be the operator of the licences for the 4-year duration. Should the licences be sold in Phase 1, then Xtract will have a 55% interest in the Joint Venture. A sale requires the agreement of both Xtract and Cooperlemon.

• Should either or both of the Joint Venture licences advance to a point where they reveal commercially viable copper assets that are suitable for development, then the licences will be moved to a new entity to be owned 75% by Xtract and 25% by Cooperlemon.

Remember, Xtract has access to unique historic data sets generated by Anglo American — which pre-date any proper understanding of the Western Foreland geological setting. This should fast-track the exploration and also save an estimated $1.5 million in exploration costs during Phase 1.

Does this all sound a bit expensive? Don’t worry — the Manica sale means that Phase 1 exploration commitments are completely funded — while the $3 million for Phase 2 perhaps chimes nicely with the $3 million lump sum to be paid to Xtract by March 2027.

Then on 3 April, Xtract announced it had entered into an option and JV agreement with Oval Mining, which is acting in cooperation with Cooperlemon to earn-in up to a 70% interest in the Silverking copper mine and accompanying exploration licence 26673-HQ-LEL— covering circa 82 square kilometres within the Mumbwa District of the Central Province of Zambia. 

Under the JV terms:

• Xtract has an option period of 18 months to earn an initial 51% in the licence — as long as Xtract spends $500,000 in exploration. This second joint venture will then be formally established between Xtract and Cooperlemon.

• Xtract may withdraw at any time during the option period but will lose its right to earn 51% in the Licence, and cede any technical information to Cooperlemon.

• Once Xtract has spent $500,000, it may then increase its interest in the licence to 70% by agreeing to spend a further $1,000,000 over two years on exploration and development —  though this is subject to Cooperlemon’s right to maintain its interest in the licence through an option to earn back up to 70% by participating in such ongoing expenditure.

• Management and compliance of the Silverking licence will be the responsibility of Cooperlemon.

In a sign the parties have actually paid attention to the details, they have also agreed a plan for every eventuality:

1. If the Licence cannot support an inferred resource of at least 300,000 tonnes, then the parties can start-up a small mining project, leaving Xtract’s interest at 70% and responsible for all development costs.

• In an inferred resource of more than 300,000 tonnes of contained copper is found, then Xtract’s beneficial interest shall remain either at 70%, or its respective interest at the date of the resource estimate.

• If an inferred resource of more than 500,000 tonnes of contained copper is reported, then any subsequent sale of the project to a third-party will result in an equal share of the disposal proceeds between the parties (with some caveats).

This is an interesting model — as the best result for Xtract is either 499,000 tonnes or well over 600,000 tonnes. But the key point is that there is optionality regardless of what is found (a common Colin Bird theme), and a pre-agreed structure to prevent any future problems materialising.

For example, I would imagine that small scale mining would involve simply blasting, crushing, and sorting the ore before sending it to be processed at feed hungry plants nearby.

On Silverking, mineralisation is characterised by deep levels of oxidation, breccia, vein and stockwork hosted copper mineralisation — and is distinguished by high-grade supergene enrichment, also found in the nearby Kitumba deposit. For perspective, China’s Sinomine just announced a massive investment to acquire a 65% interest in Kitumba in March.

Encouragingly, the former open pit and underground mine extends to a mining depth of just 70m and based on underground mapping and historic diamond and reverse circulation drilling is believed to remain open both down-dip and along strike. Historically, Silverking has seen drill intercepts including 50m @ 5.47% Cu in borehole SVKRC002 from 55m to 105m depth. Mineralised intercepts also peaked at 52.2% Cu over a 1m drilled interval.

Past geochemical, magnetic and IP ground geophysical surveys conducted by Glencore have already identified several high priority targets warranting follow-up (hence the reduced exploration spend). For example, a second breccia pipe located 800 metres from the main Silverking orebody was identified and has not been explored.

Interestingly — and hidden deep down in an overlooked RNS — Glencore did commission an in-house non-JORC resource estimate, completed by an external consultant — this non-compliant resource reported an estimate of 268,971 tonnes at 2.7% Cu at a 0.5% Cu cut-off for the main Silverking breccia pipe only.

Xtract’s plan is to test the depth extension of the Silverking breccia pipe, alongside the nearby secondary pipe, and then general licence exploration. 

Bird noted that ‘this agreement is consistent with the Company’s stated mission of acquiring exploration resources which have significant copper showings, considerable upside potential and occur in proximity to current or potential mines. Silverking certainly satisfies all of the criteria, and we are excited about the prospects for a future discovery.’

While this is very prospective, it’s important to note that Glencore’s study is not to AIM standards, and that historic exploration is often rife with errors. But it’s hard not to get excited.

The bottom line

The bottom line tends to be financial — so let’s briefly consider the money. In the six months to 30 June 2023, Xtract had admin and operating expenses of just over £1 million and held £380,000 in cash at the end of the period.

These expenses have presumably fallen since the gold asset was sold off — and the regular income should keep the party going without needing to ask the market for cash. As a reminder, there’s 12 quarterly instalments of $750,000 from 1 March 2024, with last payment 1 December 2026 — or $3 million a year, for three years, more than covering exploration expense.

Then there’s the additional $3 million in cash before 1 March 2027, and perhaps a further $3 million deferred consideration payable in three instalments through 2025-26 should MMP decide to build a sulphide plant.

The key point is that the company is very well funded.

You have Bushranger, with the copper price making the asset more attractive by the day — and two JVs with Cooperlemon within incredibly prospective Zambian copper zones, which could lead to asset sales or small mining operations.

Given the cash surplus, Xtract will likely be scoping out further licences as well.

For copper and for Zambia, 2024 is the year.

Further reading: Assessing a junior resource asset: your how-to guide in 5,000 words.

This article has been prepared for information purposes only by Charles Archer. It does not constitute advice, and no party accepts any liability for either accuracy or for investing decisions made using the information provided.

Further, it is not intended for distribution to, or use by, any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.