Firestone Diamonds is a UK-based diamond mining and exploration company with operations in Botswana and South Africa. It is the longest standing diamond company on AIM, and, at its peak last May, it had a market cap of over £120m. Now, like all companies in the diamond and gemstones sector, it has taken a battering from the stock market; the market cap is languishing at just under £10m.
However although the share price looks bleak Firestone is well set to weather and survive the current economic storm. It has an impressive portfolio of exploration assets in highly prospective, low cost and politically stable areas, and a track record of success in exploration, mine development and mining. What’s more, following the recent news that De Beers has terminated its toll treatment agreement with Firestone at Buffels River in South Africa, it now has an extra £2.5million cash (from the compensation payment) and a ready made processing plant which can be transported from South Africa to Firestone’s principal development project – the BK11 in Botswana. This could knock spots off both the cost and time required to bring it onstream. If the imminent results from the Phase Two evaluation on BK11 are as expected then mining operations could begin as soon as mid-2010. Hopefully this will coincide with a significant recovery in the diamond market.
Looking at each of the points above in more detail:
Firestone’s Portfolio
Firestone’s strategy for some years has been to use cash generated from a number of relatively small scale alluvial diamond mining operations on the rivers and coast of Namaqualand in South Africa to finance exploration for the big prize – a large-scale hard-rock kimberlite diamond mine in Botswana, the world’s largest and lowest cost diamond producer. (For more detail on kimberlites and alluvial diamond mines read the recent Proactive Investors diamond review). To that end Firestone had amassed a portfolio which by the beginning of 2009 comprised:
· A JV with De Beers at the the Bonte Koe Mine on the Buffels River in Namaqualand in South Africa whereby Firestone used its plant and infrastructure to process alluvial gravel mined by De Beers on a toll treatment basis. This operation at full capacity provided Firestone with annual revenue of around £3.5m and profits of £1.5m.
· Three other small alluvial mining and exploration projects in South Africa.
· One hundred per cent ownership of 25,000 square kilometres of exploration permits across three locations in Botswana, making Firestone the largest holder of mineral rights in Botswana’s kimberlite fields. There are at least 95 kimberlites in the licence areas of which 24 are known to be diamondiferous and 16 are at the bulk sampling stage.
Firestone chose Botswana for its kimberlite exploration programme for a number of compelling reasons. Firstly there is no doubt that there are a lot of diamonds in Botswana. It sits on the Kaapvaal craton, a 2.5 billion year-old stable island of rock which is sandwiched between the sands of the Kalahari desert and the earth’s mantle and which hosts some of the world’s biggest and best clusters of kimberlites. Moreover although the odds on finding an economic diamond kimberlite are still relatively low they are much higher in Botswana than elsewhere; in Botswana 7% of diamondiferous kimberlites are economic while the world average is just 1%.
Secondly Botswana is a good place for mining. It has a favourable climate, particularly when contrasted with, say the diamond mines of Siberia or Northern Canada. Costs are low, and Botswana has good infrastructure and a stable political system which is supportive of mining. Indeed in the most recent Fraser Institute Mining Survey which measures the policy attractiveness for mining of 68 jurisdictions worldwide Botswana recorded the highest ever score for an African nation and was 11th overall, scoring above all the Australian states.
Thirdly it has the lowest economic threshold of any of the major kimberlite producing regions. Diamond mines in Botswana can break even at revenues of $8-10 per tonne of ore compared to $25-50 in Angola and the DRC, and $100+ in Canada and Russia.
Firestone’s licences in Botswana lie in three kimberlite fields:
· the Orapa field: which is home to 75 kimberlites of which 8 are known to be economic and 3 are already diamond mines, including De Beers’ Orapa mine which in normal economic circumstances has an annual revenue of $1bn and operating profits of $800m+. Firestone holds 10,000 square kilometres of licences in this area which includes 2 diamondiferous pipes, BK11 and BK16, which are both at the advanced evaluation stage. More on this later!
· the Jwaneng field: home to 11 kimberlites of which 3 are economic including the Jwaneng mine which is world’s biggest and most profitable diamond mine with revenues of $2bn and profits of $1.8bn. Firestone holds 6,000 square kilometres of permits in the close vicinity of the mine, and has been conducting early stage exploration in the region.
· the Tsabong field: Firestones licences cover 7,400 square kilometres and include the entire Tsabong kimberlite field which is believed to be one of the largest fields in the world with 85 known kimberlites, of which 18 have been proven to be diamondiferous. It is renowned for the exceptionally large size of many of its kimberlites, in particular the 180 hectare MK1 kimberlite (which is 4 times the surface area of Jwaneng).
Recent developments in the world economy and the slump in the diamond market have moved the goalposts for Firestone. With investor focus now very much on cash, cash flow and production Firestone took the decision in late 2008 to focus on bringing its two most advanced projects – BK11 and BK16 in the Orapa field – into production, and to seek JV partners for some of its other assets including its South African alluvial operations and the Tsabong field. Even though Tsabong could potentially be huge it is at an earlier stage than the Orapa projects and would need significant investment before a mine construction decision could be taken. So far several expressions of interest have been received.
Current Focus: The BK11 Pipe in the Orapa Field
Phase one of the evaluation programme at BK11 suggested that the resource had a grade of 10-15 carats per hundred tonnes (cpht) with an in-situ value of $20-30/t and an operating cost which would now be $5-6/t given the recent deprecation of the rand. The diamonds were relatively large and of good colour with an average value of $200/ct at June 2008 prices (compared with a world average in 2007 of $72/ct).
Phase two of the evaluation has been underway since July 2008. Final results, including the Competent Person’s Report and an inferred resource should be available during the current quarter. If the results are as expected then Firestone are likely to undertake a further bulk sample of 1000 carats to give further confidence of the diamond valuation and if this too proves favourable they could be giving the green light for mine development by the second or third quarter of this year.
The likely timing and costs of the BK11 project have been given an enormous boost by the announcement on 9th February that De Beers have terminated the toll treatment agreement with Firestone at its Buffels River processing plant. Under the terms of the agreement De Beers will pay Firestone £2.5m while Firestone will retain ownership of the treatment plant which is of the right type and size to operate at BK11. The plant was built in a modular fashion so it is a straightforward proposition to transport it to Orapa where only minor modifications will be necessary. As an order of magnitude this could reduce capex costs by some 50-70% to around £3m, and it could cut the time required to come onstream by about a half. Mine development is now expected to take just 9 -12 months meaning that the project could be in production as soon as mid-2010. Bottlenecks caused by labour or equipment shortages are far less likely than in the boom days of last year; everything now is readily available.
Since November 2008 Firestone have also been evaluating the BK16 pipe under a JV agreement with Southern Era by which Firestone will carry the project to Bankable Feasibility in exchange for an 87.5% interest. BK16 lies 20km from BK11 and was sampled by De Beers in the 1990s. Historic results suggest that it contains a similar, or slightly better mix of diamonds to BK11 and has a grade of around 15cpht with an overburden of just 0 to 20 metres. Ore from BK16 could ultimately be processed jointly with BK11 and an initial scoping study suggested that the project could generate revenue of $120mpa with a 75% margin.
Firestone’s Track Record of Development and Exploration
Firestone is experienced in mine development having already built three mines and processing plants in South Africa. Bonte Koe, the third and largest of these was operated to De Beers standards for three years and achieved all the required throughput and operational targets. Firestone’s track record on exploration is also encouraging; in the last two years the company has discovered 18 kimberlites.
Prospects for the Diamond Market
Of course Firestone will face a number of risks, and the results from the Phase 2 evaluation and thereafter the bulk sample at BK11 will be key. The biggest risk currently however has to be outlook for the diamond market. As discussed in the recent Proactive Investors review on diamonds current conditions in the rough diamond market are extremely tough; retail sales of jewellery are falling, stocks are high, liquidity is poor, producers are cutting back sharply on production, and rough diamond prices have fallen by some 50% in the last five months. The short term outlook is challenging indeed, with many companies looking into the abyss.
However the industry has proved its resilience time and time again through many economic cycles. The rough diamond market is always hit hard during recessions as a result of a phenomenon known as the ripple or bullwhip effect whereby a downturn in consumer sales of jewellery is greatly amplified at the rough end of the pipeline because of the impact of the large pipeline inventories required in an industry with so may different types of diamonds and diamond jewellery. But when the upturn comes it generally comes quickly and sharply. Rough diamonds suddenly start to shift like the proverbial hot cakes, and with future demand likely to outpace lower levels of diamond supply following the credit crunch the outlook could be very favourable for companies who can survive the current crisis.
Outlook
Firestone has the cash and the vision to see its way through the next year or two and should then be very well positioned to make the most of the positive medium term fundamentals of the diamond market. With a market cap of less than £10m for a company with at least £3.5m cash, a modular processing plant worth perhaps £7m, a highly prospective portfolio with advanced projects in a low cost and politically stable area, and an experienced team with three mine developments under their belts, the valuation is undemanding indeed - definitely a company to watch.