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Hambledon Mining Buy at 4p – Price target increased from 8p to 11p

On 11th July 2011 Kazakhstan focused gold mining company Hambledon Mining released its second quarter operational report from the flagship Sekisovskoye mining operation and metallurgical processing plant. The company reported that a record 219,675 tonnes of material was extracted during the period, producing a total of 5,320 ounces of Gold and 10,786 ounces of Silver for the three months from 1st April 2011. However, and slightly disappointingly in the short term, the need to expedite the extraction of open pit waste (which adversely affects both production levels and grade) meant it was necessary that the processing of a mix of open pit ore and lower grade stockpiled ore took place in the period, resulting in a lower overall grade.

However, the waste extraction issue is a short term one and we expect, in line with management forecasts, that the operation will return to more normal open pit production levels, and subsequently improved grades, by the final quarter of 2011. Since the start of the calendar year, production levels have been developing relatively well and are 10% above that achieved in the first half of 2010. The removal of the open pit waste material should optimise the future performance of, and output from, the open pit which will, in the short term, continue to operate alongside, and supplement the developing underground mine. Along with the removal of waste material, the company is currently undertaking an expansion of its project infrastructure to develop the efficiency of the mining operation. Improvements to the high and medium voltage electrical systems have commenced and with the initial design of the high voltage line complete, tenders have been issued to facilitate the installation of the line which is set to commence at the beginning of the fourth quarter of 2011.

With underground extraction set to commence by the end of the current year, the day after  publishing its second quarter report report (12th July) the company announced the latest set of encouraging results from the underground diamond drill programme focused upon the validation and expansion of the  Sekisovskoye geological resource. Key assays from the 12 hole programme, which was carried out during May and June 2011, showed a 150% increase in the average thickness of Gold mineralisation across all drill holes so far. Significant intersections included Hole D126.1, which recorded 10.3m at 5g/t Gold and Hole D132 which delivered 10m at 9.8 g/t Gold and 11m at 2.61 g/t Gold. What is increasingly encouraging is that to date all 29 holes have intersected Gold, confirming the structure of the resource, validating the current model and providing scope for an upward revision of the current guidance and potentially our valuation.

The deposit itself is made up of circa 10 sizeable structures of mineralisation interspersed with 190 narrow and sinuous zones. Following the most recent intersects the company has revised its average thickness estimate to 5.5 metres, a significant move forward, which should lead to an increased economically viable resource base, extraction, and mine-ability. The information from the initial 4,800 metres of the total 25,000 metres programme will be used in the current geological modelling of Sekisovskoye which will form the basis for the detailed mine engineering plan which is expected to be disseminated to the market, along with the underground mineable reserve statement, in last quarter of the current year.

With the most recent drill results in line with, and in some cases, better than what the management had expected, the investment case here is developing. The interim between start up production and full output is inevitably a difficult period for junior miners, and subsequently their valuations typically suffer at this point due to the lower production numbers associated with operational development. What should be remembered in the case of Hambeldon is that although operating costs have, over the past year, increased due to lower output and an erratic mix of grades (and most recently the cleanup of the open pit waste), the placing announced on 14th March 2011 should see cost savings of at least $120/oz made with higher grade ore from deeper in the open pit, and ore from the underground operation, also coming on stream by the fourth quarter, increasing the economic attractiveness of the project. Moving toward the fourth quarter of 2011 the company can conservatively expect a typically harsh Kazak winter. But having completed phase one of the winterisation programme, with phase two being undertaken alongside the underground mine construction, operations should progress steadily.

Having struggled since 2008 with a myriad of disappointments, investor confidence in Hambledon is poor. However, we believe that the company has now begun to position itself well in regard to the ultimate focus of output from Sekisovskoye reaching circa 110,000 ounces a year by 2016. With the shares currently trading at 4p, we believe the current market valuation of £29.74 million continues to heavily reflect the past record of non-delivery and the short term production disappointments, and does not account for the evidently strong future potential of the developing mining operation. With the investment case here becoming far less speculative compared to non producing mine developers, and assuming a prudently risk weighted DCF valuation (using a discount rate of 20%) at 4p we retain our stance of buy. We also revise our target price, attributable to the projected Net Present Value of the Sekisovskoye project, to 11p.

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