The Assay:

Jun 11, 2019

Q&A with David Street

Q&A with David Street

Thank you, David for contributing to The Assay. Can you give our readers a short introduction to Tembo Capital?

Tembo Capital is a private equity fund management group which has two funds focused on junior and mid-tier mining companies. We raised our first fund in 2014 which was largely focused on Africa. In our second fund we broadened our geographic remit and made a number of investments in Latin America, particularly in Chile and Brazil. We anticipate that we will continue to diversify our geographic remit with our future funds. So far, we have deployed around US$250 million across 13 investments.

We employ an experienced group of people who combine technical skills (mining engineering, geology, and metallurgy) with mining finance knowledge and we look to partner with our investee companies to help them to advance and add value to their assets.

To start off, can you talk about Tembo Capital’s general investment strategy?

We want to focus on the best assets and management teams, so we invest in both public and private companies. We are looking for equity returns, so we primarily invest in equity and convertible instruments, but we are open to structuring our investments to best suit the company. Our aim is to build strategic equity stakes in companies and as I mentioned, to partner with the companies to help grow value in their assets. We typically look to own a significant strategic stake in companies (usually above 10%), holding a position of influence, often with a board seat. We aim to utilize the strong technical and financial experience of our team to add value to our investments. With the long-term nature of our funding, we are able to provide patient capital and have a long-term outlook which works well in the mining sector – which is essentially a long-term, capital intensive industry.

Which African countries look most attractive to Tembo Capital for potential investments?

We are open to opportunities in most countries, however in practice, although there are 54 countries in Africa, most of the investments we’ve looked at are likely to be in around 10-15 of those jurisdictions. People generalize too much about Africa.

We are fortunate that our investment team have, over many years, worked and invested across many countries in Africa and elsewhere, so we understand the on-theground opportunities and challenges well. We generally favour countries with an existing mining history and culture and a well-established mining code.

More specifically, we are very familiar with and have had quite a bit of success with gold projects in West Africa. We invested in Toro Gold which has built a mine in Senegal which is operating very well, and the company has some exploration assets in Cote d’Ivoire which I think is a very interesting and highly prospective jurisdiction going forward. Consolidation in West Africa has also been prevalent with companies like Endeavour (TSX: EDV) acquiring a number of assets. Namibia has a solid mining and investment reputation, particularly for uranium, given the substantial industry presence and we have invested in Paladin (ASX: PDN) which operates there.

What stage of project does Tembo look for? Exploration, development, or producing assets?

We have a portfolio of assets and companies at different stages in the mining cycle and we’ve invested in some earlier stage companies like Strandline, some assets that we’ve funded into production like Toro Gold and some producers like Ero Copper (TSX: ERO). The market changes over time – at some points in the cycle, earlier stage assets might look relatively cheap compared to producers and we are looking for the best risk:reward profile and the best value proposition. I think we are quite disciplined on value. Therefore, we invest right across the evaluation, development and production phases. Fundamentally, we are looking to back growth companies on attractive valuations.

While being the “last money in” to a producer is obviously appealing, the competition at that stage is much higher and the value is not always compelling given the risk. Our technical focus helps us to identify those opportunities where investing earlier than our competitors can get us ahead of the competition – potentially investing at a more attractive valuation for minimal additional risk. I would say that there is a real shortage of equity capital which is prepared to take a slightly earlier technical ‘view’ – the market for mine financing, particularly debt financing has become really competitive in the last couple of years with all the funds raised by credit/debt funds.

What other key attributes does Tembo look for when making an investment?

We always start with the end in mind and we think very carefully about the Fund’s ability to exit our investments down the road. People say that junior mining companies are like lobster-pots and it’s too easy to be lured into investments which are impossible, with a big stake, to exit; so, this is an area we really focus on. It is not enough to see an attractive or exciting niche opportunity – we are looking for assets which, over time, will be attractive to larger companies or other investors. After such a long period of tough markets in the mining sector there is a real dearth of quality new projects and ultimately major companies will need to replenish their project pipelines. That’s an obvious exit route for us.

This means the opportunities we consider ideally must have the potential for scale, high grades, low capital and operating costs and represent a clear value proposition to bigger companies. Quality assets which meet our requirements on these measures should be attractive to larger companies or investors at all stages throughout the cycle. Management is also key. Where we’ve had issues in the portfolio over the last few years, they’ve generally been management related. We are looking for experienced teams with depth and a proven ability to execute. We like to invest in teams that we trust and can work closely with to take the company from A to B, creating value in the process.

Can you tell us a little about some of your recent investments? Specifically: a. What was the rationale behind increasing Tembo’s stake in Orion Minerals (ASX: ORN) in 2018?

Orion Minerals has a very exciting development project at Prieska. It’s already one of the 30 largest VMS deposits globally – with Orion so far having defined 29Mt of copper/ zinc resources. The opportunity here is twofold. First, Orion is working on a Feasibility Study for the restart of production at Prieska. Second, as these types of VMS deposits are known to occur in clusters, there is significant exploration upside across the belt. The project also has a lot of infrastructure advantages – with power, water, roads and an existing shaft.

We recognize that South Africa does face some unique challenges, but many people ignore some of the positive aspects of the operating environment in South Africa. The industry is mature, with very good technical and engineering support, and numerous mid-tier and major operating companies across the gold, coal, PGM, and iron ore sectors. South Africa also has a really, well-developed financial system with established institutions providing mining finance which should help Orion’s growth plans going forward.

b. Tembo’s role in the refinancing of Paladin Energy:

We followed Paladin and the restructuring process very closely since 2015. We like the Uranium thematic on a long-term view and we saw the value in holding an investment in a key strategic uranium asset such as Paladin’s Langer Heinrich Mine – which is the lowest cost, open-pit uranium mine in the world. Prior to our investment, Paladin grew very fast, building two mines and acquiring a substantial uranium portfolio, but by 2017, it had amassed US$700m of debt and it was struggling with lower uranium prices. Unfortunately, the company eventually entered an administration process and the restructuring allowed Tembo to acquire a 13% stake in Paladin from the previous debt holders. The company is now doing a lot of work on preparing for a restart and it should be one of the first major producers to re-open when uranium prices recover.

c. Toro Gold and how Tembo helped fund them to production:

We are very pleased with our investment in the private company, Toro Gold. The company is performing extremely well and is generating strong cash flows. We originally invested in the company in 2014 when it was finishing off its pre-feasibility study. Since then, Toro has successfully developed the Mako gold mine in Senegal. The mine started production in early 2018 and beat its budget producing 157,000 ounces of gold in its first year of operations. It’s a credit to the Toro team that they originally discovered Mako and have taken it all the way through to production. I joined the board of the company last year and we also worked closely with management to arrange the project financing to fund construction. This is a very good example of our ability to work collaboratively with management and the other major shareholders to advance a project from the study phase all the way through project development and into production.

d. Others? I see that Nzuri Copper (ASX: NZC) is one of your investments which is subject to a take-over proposal – can you speak about that?

Nzuri Copper I think also demonstrates Tembo’s approach to structuring an investment and our willingness to work with management to create value. When we first invested in Nzuri in 2015, it had only 30% of an attractive high-grade copper and cobalt project – Kalongwe – on ground neighbouring Ivanhoe in the DRC. We worked with management, to negotiate and fund a transaction to acquire additional interests in Kalongwe and increase Nzuri’s ownership from 30% to 85%. Nzuri has since delivered a positive Feasibility Study, and while advancing project financing discussions and early work, the Company received a bid from a Chinese group, Chengtun, to acquire the Company via a scheme of arrangement. This transaction was announced in February and is progressing now.

Tell us a bit about some of your recent investments in South America?

We’re positive about the copper sector and the medium-term outlook given the lack of development of copper assets over the last few years. We’ve done very well so far with our investment in Ero Copper in Brazil which we invested in as a private company, before its IPO. It’s a very strong team and they have managed to ramp-up production smoothly at Vermelhos. It’s a really exciting district scale play and we’re very pleased to be partnering with them.

We also invested more recently in Coro Mining (TSX: COP) which has a very interesting and growing copper development project close to Antofagasta in Chile. It has really good infrastructure and they are drilling the property now and have had good results.

How is resource nationalism impacting investment decisions in Africa and elsewhere? Is there still appetite to invest despite these new concerns?

In developing countries, we understand there will invariably be pressure to ensure that the Government receives its ‘fair share’ of the mineral wealth. This situation is actually not too different in all countries – emerging markets and developed countries. We closely monitor the situation in the key countries we focus on. Like most other investors, we are most comfortable in jurisdictions with attractive mining legislation and fiscal terms and which are seeking to encourage investment. Investors are really looking for stability and no sudden surprises. Overall, I think many developing countries, know first-hand the clear benefits that a healthy and growing mining industry can bring. I also think that mining companies can really help to mitigate some of these risks with a progressive approach and particularly with a strong focus on local community relationships.

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