Kirkland Lake Gold: Upside to Sustain as Gold Trends Higher

Investment overview

Gold prices have moved higher over the past year, but even when prices were depressed I had a bullish long-term view on the asset class. My investment advice has always been exposure to physical gold followed by investments in gold miners.

Among the large companies in the gold mining sector, I hold a bullish view on Newmont Mining Corp. (NEM, Financial). There are several smaller companies in the sector, however, that have created immense value over the past 12 months and can potentially create value over the next several years as well.Â

Kirkland Lake Gold Ltd. (KL, Financial) is a good example as the stock gained more than 200% in 2017. Even after the rally, I remain bullish on the stock and will discuss the key factors that will take the stock higher in the next 12 to 24 months.

Bullish on gold

Gold has been trading in the range of $1,100 to $1,300 an ounce for a sustained period. I believe these levels serve as a long-term support for the precious metal and global factors are supportive of a breakout from this trading range.

Some key factors that can potentially push gold higher include:

1. The dollar has weakened on a relative basis, as indicated by the dollar index. While the 52-week high for the dollar index was 103.4, the index currently is at 92.1. A weak dollar is positive for gold, so I expect the dollar to remain weak as U.S. government debt swells.
2. The central banks of Russia and China continue to buy gold to diversify their reserves. With this trend likely to sustain, gold will see strong demand.
3. Geopolitical tensions remain high globally, which will ensure steady gold demand.
4. The demand for gold as a store of value and for ornaments remains strong in China and India. With rising per-capita income in these two countries, the demand for gold will remain strong.

With these factors in consideration, gold is likely to see good times in the next 12 to 24 months and gold mining stocks are likely to remain in limelight.

A value creator

As mentioned earlier, Kirkland has surged 200% over the past 12 months. The following factors should contribute to further stock upside over the next several years:

1. For the first nine months of 2017, the company reported an all-in sustaining cost (AISC) of $811 per ounce. Further, for the full year, the AISC is likely to remain in the range of $800 to $825 an ounce. With gold above $1,300 an ounce currently, I expect EBITDA margin expansion in the coming quarters on an attractive AISC.
2. As of Sept. 30, Kirkland Lake reported a cash position of $210.5 million and an operating cash flow of $206.5 million. With annual cash flow visibility of nearly $250 million, the company’s investments are funded through internal cash flows and the balance sheet remains healthy.
3. Kirkland paid its first quarterly dividend of one cent per share on July 14. The dividend has ncreased to two cents per share since then as a result of higher gold prices and free cash flow expansion. With a bullish view on gold, I expect further dividend increases in fiscal 2018, which will likely result in a stock re-rating.
4. The miner is targeting strong organic growth. The company estimates its Fosterville asset produced between 250,000 and 260.000 ounces of gold in 2017. Over the next three years, production is expected to grow to 400,000 ounces. Similarly, Macassa produced approximately 190,000 to 195,000 ounces of gold in 2017. It will scale production up to 400,000 ounces over the next five years. This organic growth will continue to trigger stock upside as free cash flow swells.
5. It is important to note that for the third quarter of 2017, the miner reported AISC of $574 per ounce at Fosterville. As production increases over the next three years, the company’s AISC is likely to decline or remain in the range of $800 to $850 an ounce. Therefore, in the long term, the outlook for the EBITDA margin is positive.
6. Kirkland Lake has internal cash flows for growth and dividends. At the same time, the company’s financial position allows for strategic investments or acquisitions. The company recently made a strategic investment in Novo Resources for $61 million (common shares and warrants). With the gold trend likely to remain bullish, I expect these investments will deliver long-term value.

Considering these factors, Kirkland Lake Gold is an appealing investment for the next 12 to 24 months. Even beyond this time horizon, the company is well positioned to create value.

Conclusion

Kirkland Lake Gold surged from undervalued levels over the past 12 months. For investors who are bullish on the precious metal for the medium to long term, the stock is still not expensive and should be considered at current levels.

It is worth noting the company’s organic growth trajectory is likely to be strong, which will ensure the balance sheet has enough room for potential acquisitions and strategic investments. This can result in further upside in the coming years. As gold trends higher, Kirkland Lake Gold will be attractive even from a dividend perspective.

Disclosure: No positions in the stocks discussed.