THE NOT CYCLICAL, ALWAYS PROFITABLE GOLD COMPANY DYNACOR GROUP (DNG–TSX/DNGDF-OTC) A UNIQUE BUSINESS MODEL IN GOLD

A quick look at Dynacor Group (DNG – TSX) stock chart and you would conclude that this must be a leveraged bet on the gold price.

Source: Stockcharts.com

But that is not really the case. Dynacor’s bottom line is linked to the gold price, but it is hardly levered.  In fact, Dynacor is less levered to the price of the metal than most miners.

That’s because while Dynacor is a gold producer, they are NOT a gold miner. They’re a gold ore PROCESSOR—with years of earnings and dividends behind them. In fact, they just upped their dividend this quarter.

This is a unique business on the public markets. I’m not sure if there is another pure play like it.

QUICK FACTS

Trading Symbols:                            DNG-TSX/DNGDF-OTC

Share Price:                                     $4.00 CAD

Shares Outstanding:                        38.3 million

Market Cap:                                     $153 million

Cash:                                                 $33 million

Debt:                                                 $0

Enterprise Value:                            $120 million

Dividend (annual):                          14 cents per share

Payout Ratio                                     23%

Dynacor purchases ore from small-scale and artisanal miners in Peru. Miners come to them with a truckload of ore that they’ve pulled out the ground. Dynacor weighs it, assays it, and pays the miners for their load, usually within a day.

Dynacor pays a price that is based on the spot price of gold. They subtract their own cost and take a margin on top.

Even as the price of gold rises, Dynacor’s net margin remains fairly flat. Margins have been remarkably consistent over the years, even as the price of gold has fluctuated a lot.

Source: Dynacor MD&A Filings

But there is some leverage to the gold price because a constant gross margin on rising gold price means that Dynacor does earn more gross profit dollars.

Dynacor’s gross profit per ounce expanded about $50/ounce when the price of gold pushed from $1,400 to $1,800.  There is a benefit, but it’s a long way from being a high AISC (All-In-Sustaining-Cost) producer of the gold where every incremental dollar per ounce goes to the bottom line.

Source: Dynacor MD&A Filings

Dynacor is more like a steady-eddy play on the gold business. Good margins, consistent operating income, and has a far less chance of that blow-up quarter that we see from miners.

Unlike your average miner, Dynacor does not have to worry about grades, stopes, waste rock and all those fun gotchas! that hammer mine results from time to time.

So Dynacor has a business that is not really all that levered to the price of gold, yet the stock price has acted like it is. What gives?

I think that the biggest reason is that the rising gold price has brought attention back to the sector. Dynacor is a really cheap stock, even after this run-up.

That is largely because excitement around gold has been zero FOREVER, and no one has given two farts about a tiny gold processor regardless of how well they run their business.

If interest is returning to the gold sector, this could just be the beginning of a change in that sentiment. With it, so will Dynacor’s share price.

THE VETA DORADA PLANT

Dynacor has been processing third-party ore for over 20 years.

When the company was started, the processing business was an afterthought to the exploration business. CEO Jean Martineau came up with the idea that toll processing could pay for exploration.

Today it’s the processing business that drives the stock.

Dynacor began with a 230 tpd (ton per day) mill in Huanca Peru, which they operated until the fall of 2016. Since then, that mill has been on care and maintenance and the operation has moved to a larger, newer mill in Chala, Peru, called Veta Dorada, which was commissioned in 2016. Veta Dorada is in the heart of Peru’s gold mining belt.

Source: Resource World Magazine

The Veta Dorada mill started out at 300 tpd. Dynacor built this as a modular mill with the intention of expanding in stages as demand warranted—which is exactly what they’ve done.

Dynacor expanded Veta Dorada’s capacity by 25% in 2021. In late 2022 they completed a second plant expansion, increasing capacity to 500 tpd. Through these expansions Dynacor has been steadily growing tonnage through the mill.

Source: Dynacor Q3 MD&A

That increased tonnage translates directly into increased gold production.

Source: Dynacor Q3 MD&A

In Q3 Dynacor produced 34,103 ounces of gold equivalent, a new record for the mill.

LOW MARGINS ARE NOT

THE SAME AS HIGH COSTS

I have to wonder how much of Dynacor’s valuation has to do with investors looking at the highlighted line item in the MD&A.

Source: Dynacor MD&A

Dynacor’s gross margin per ounce is small which means their “cash cost” per ounce is large.   Dynacor’s effective cash costs per ounce in Q3 were $1,682.

I’ve already explained how this is not the same “cash cost” as a miner. If the gold price dropped to $1,500 Dynacor’s cash cost would drop to around $1,250. A miner’s cash costs are what they are, doesn’t matter what the gold price does.

But I wonder how many investors know the difference. Do they just give a cursory look at the cash cost number and go YIKES – another high-cost miner that deserves a low valuation?

Dynacor is not a miner and so those margins aren’t comparable. In fact, it is not even fair to compare Dynacor margins to a low margin manufacturing business, because Dynacor’s primary Cost-Of-Goods, or COG, (the ore) is tied at the hip to the price of its product (gold).

Absent a failure of the mill Dynacor will always be operating at a cash cost that is lower than the price of gold and Dynacor won’t see these costs spiral out of control.

The important metric to look at for Dynacor is gross margin, that chart I gave at the start.  Their gross margins are VERY consistent. This tells me that Dynacor runs a tight ship. Which is what matters for the business, not the cash costs.

A PARABOLIC CHART,

BUT STILL A CHEAP STOCK

Dynacor has had a big run in the last 3 weeks. The stock went from $3.20 to $3.85.

After that kind of move, we could be in for a pullback. Technically the stock is way overbought. But the valuation is still dirt cheap.

Dynacor’s twelve-month trailing (TTM) EBITDA is a little over $25 million. That puts the stock at 3.1x EV/EBITDA.  Free cash flow before working capital (their working capital is pretty lumpy quarter to quarter so I choose to ignore it) for the TTM was $11.5 million. That puts the stock at 6.8x EV/FCF (Enterprise Value / Free Cash Flow)

Dynacor has US$33 million of cash and no debt. Less the cash, the enterprise value is only US$78 million.

This is a cheap stock. No doubt about it. But the more skeptical part of me says – its been cheap for a LONG, LONG time.

There is no obvious internal catalyst to drive the stock higher. Dynacor increased the dividend from 12c to 14c last week. They bought back 137,000 shares in Q3, but buybacks are limited because the stock doesn’t have much volume.

There is a longer-term growth plan. They are nearing construction on a second mill in Peru and have plans to expand to West Africa and South America.

Source: Dynacor Investor Presentation

But none of this is imminent. In the meantime, Dynacor is operating a business steady as she goes but don’t expect a big event that will lift it another level.

I think what drives the stock higher is what drove this move—an interest in gold mining shares. If that continues, investors are bound to pile into the cheap and relatively safe operations of Dynacor.

The risk is that if the price of gold swoons again and investor interest tapers back off, Dynacor will likely go back to being unloved.

But it should ALWAYS be profitable! Few gold producer stocks give true peace of mind.

DISCLOSURE–I own 3,000 shares of Dynacor.