Chapter Fourteen: Capstone Copper

A rough sum of the parts valuation suggests Capstone is undervalued

Captstone Copper (CS) has four significant deposits in Arizona, Mexico and Chile. I have ignored a smaller deposit called Mantos (unfortunately the name is also used in another deposit which I do consider - Mantaverde-Mantos). To understand the vaue of Capstone it is necessary to value each deposit separately.

I begin with the Mantaverde-Mantos (referred to herein as Mantaverde) deposit which is covered in detail by a NI 43-101 report (as are all deposits by separate reports). The NI 43-101 report for Mantaverde uses conventional discounted cash flow (DCF) valuation techniques to come up with a present value at 8% for the over US$3.3 billion of cash the mine is expected to yield based on an assumed US$3.85 per pound copper price. Here is a summary of the mine economics from the report (ignore the Mantos Copper label - I am referring to this as Mantaverde).

DCF valuation of a mine with a 19 year life is victim to its assumptions on commodity prices and future operating costs and the tax regime in the jurisdiction in which the mine is located. An 8% discount rate is lower than the long term return on equities for the Standard and Poor’s 500 and will tend to over value the mine, while the US$3.85 long term copper price is likely low given the tailwind of high copper demand driven by rapid electric vehicle (EV) adoption worldwide. With about 700 million shares outstanding, Capstone’s 70% interest in the Mantaverde mine alone would have a value of about US$3.50 per share for Capstone shares, which today are trading at CAD$6.11 a share. As you will see, I think that DCF approach over values Mantaverde.

A modified Black-Scholes approach provides a stochastic valuation methodology that explicitly considers volatility in commodity prices over the 19 year mine life and I use a 15% after tax return on capital (rather than an 8% return on capital) for a mine in Chile to reflect the many risks of operating abroad not the least of which is sovereign risk. My valuation of the Mantos deposit arrives at an estimated value equivalent to CAD$2.00 per Capstone share. I used the following assumptions (all but today’s copper and gold prices and Capstone’s share count) drawn from the NI 43-101 report:

Mine life of 19 years
Capital cost
Contained copper 2.8 billion pounds
Contained gold 590,400 ounces
Operating costs per pound of copper produced US$2.75 (life of mine or LOM)
Tax and royalty rate 11%
Copper price today US$4.00 a pound (US$4.42 with Au byproduct credit based on Gold price today of US$2,000 per ounce)
Capstone ownership - 70% interest
Shares outstanding 700 million (rounded)

Here is that valuation

I point out that the Black-Scholes method comes to a valuation about half of what the DCF valuation in the NI 43-101 report calculated. The difference results from the stochastic approach factoring the probability of lower commodity prices during the mine life and the higher discount rate of 15% once in operation.

Using similar methods, I estimated the value of Capstone’s Pinto Valley operating mine and came up with US$1.9 billion (CAD$2.2 billion) or CAD$3.10 per share. These two mines have a combined estimated value of CAD$5.10 per share.

Capstone also owns the Cozamin mine and the Santo Domingo project (permitted but not yet in production). Capstone’s Cozamin mine is expected to produce ~50 million pounds of copper per year for the next decade with operating costs of ~CAD$1.25 per pound of copper. Cozamin contributes about CAD$200 million a year operating profit to Capstone and has a current value of about CAD$700 million (simple DCF at 15% -since the mine is established and operating and has a relatively short life remaining any error from DCF valuation is small). The three mines listed above have an estimated value approximately equal to the current trading price of Capstone shares of about CAD$6.00 per share.

The real opportunity in Capstone is its fully permitted Santo Domingo mine which has an estimate capital cost (including sustaining capital) of US$1.9 billion, operating costs per pound of copper of US$1.34 and a mine life of 18 years. I have not completed a Black-Scholes valuation of Santo Domingo since Capstone continues to work on the economics of the mine, but in rough terms it is likely to have a value per Capstone share of CAD$3.00 to CAD$4.00.

All of the estimates herein will get revised upwards if the expected demand from EV’s is anywhere close to recent forecasts. Since EV adoption depends not only on copper supplies but also on nickel, cobalt, iron ore, lithium, rare earths and development of supporting grid and charging infrastructure, estimates today just ignore the expected uptick in metal demand since any projection would at best be rank conjecture. Suffice to say metal demand should be a tailwind and Capstone shares appear undervalued, at least to me.