Argonaut Gold to hedge production at El Castillo mine

After a challenging second quarter at its El Castillo complex in Mexico, Argonaut Gold (TSX: AR) will hedge a portion of the operation's remaining life-of-mine production.

The company told shareholders late last month that it had entered into a series of "zer0-cost collar option contracts" covering 145,500 oz. gold through mid-2022 from its El Castillo mine, which along with its San Agustin mine, makes up the El Castillo mining complex, 100 km north of Durango.

Argonaut has set the floor price of the monthly gold collars at US$1,450 per ounce. and the ceiling price of the collars from US$1,630 per oz. in the fourth quarter of 2019 to US$1,760 per oz. for the first half of 2022. The company will realize the actual gold sales price if the price of gold remains within the range of the collars.

Management explained that the "price protection program" on a portion of El Castillo's estimated remaining life-of -mine production would "ensure profitability" and "extend the mine life at our highest cost operation."

During the second quarter, the El Castillo mine produced 14,758 oz. gold-equivalent at cash costs of US$976 per ounce. Costs were elevated due to higher waste to ore ratios, the company said.

The San Agustin mine produced 14,800 oz. gold-equivalent at cash costs of US$910 per ounce. Higher waste to ore ratios were also a factor in San Agustin's cash costs, but water shortages stemming from an underperforming third water well also contributed.

Altogether, the El Castillo mine complex (El Castillo and San Agustin) produced 28,017 oz. gold-equivalent at a cash cost of US$945 per oz. sold, compared with 26,518 oz. gold-equivalent at cash costs of US$638 per gold oz. sold during the second quarter of 2018.

Argonaut's El Castillo open-pit gold mine. Source: Argonaut Gold

"There is no doubt it was a challenging quarter operationally, particularly at our San Agustin mine, where we experienced a shortage of water that impacted our ability to get ounces under lease and, therefore, forced us to slow down our crushing and stacking rates to avoid short cycling of the leach pad," Pete Dougherty, the company's president and CEO, told analysts and investors on an Aug. 7 conference call.

Also during the quarter, Argonaut completed two heap leach expansions at El Castillo and a leach pad expansion at San Agustin. It also finished a $15 million crushing and stacking expansion at San Agustin that will enable the mine to move from 20,000 tonnes per day to 30,000 tonnes per day.

"Last year, we drilled a third well to meet our solution flow rate requirements for the increased crushing throughput of 30,000 tonnes per day. Although this well tested positive, after sustained pumping, it did not meet our requirements," Bill Zisch, the company's chief operating officer, explained on the call. "Therefore, we incurred cost to drill, blast, mine, crush and stack ore on the leach pad, and have experienced a delay in recovering and selling the ounces."

Zisch noted that the company was completing the drilling of a fourth water well (which was completed on Sept. 6) and that Argonaut should hit 30,000 tonnes per day at San Agustin during the fourth quarter of 2019 - a three-month delay from its original plan. With the additional water well, the company said it anticipates catching up on recovered ounces in the second half of the year.

Argonaut's La Colorada mine in Mexico's Sonora state produced 12,200 oz. gold-equivalent at US$894 per oz., a 7% increase from the year-earlier quarter due to an increase in the waste to ore ratio. "At La Colorada during the first quarter of the year we ran into a situation where we were struggling to strip waste fast enough to keep up with ore requirements to the crusher," Zisch said. "To compensate for this, when we could, we supplemented with low grade stockpile material - this led to less tonnes and a lower grade going to the pad during the first quarter, which meant lighter Q2 production. We are now operating on wider laybacks and have better access to ore."

For the full year, Argonaut expects to produce between 200,000 and 215,000 oz. gold-equivalent at cash costs of between US$800 and US$900 per oz. sold, up from its previous estimate of US$775 to US$875 per oz. sold. All-in sustaining costs (AISCs) are forecast to rise from US$975 to US$1,075 per oz. sold to between US$1,025 and US$1,125 per oz. gold sold.

Argonaut said costs will trend lower in the second half of the year with sufficient water at San Agustin to meet planned solution flow rates of the expanded 30,000 tonne per day crushing and staking rate; a reduction of crushing costs at El Castillo due to run-of-mine ore available in phases nine and ten of the pit; a higher proportion of production from the lower cost San Agustin mine and lower production from the higher cost El Castillo mine; and improved grades and a lower waste to ore ratio at La Colorada.

The company said it expects to generate significant free cash flow in 2020. "With approximately 60% of our 2019 capital spent through the first six months of the year and next year's capital reduction by approximately US$25 million, we are poised to generate significant additional free cash flow during 2020," Dougherty said. "So while Q2 was challenging, on a go-forward basis we are in a great position."

Argonaut Gold's San Agustin gold project in Mexico's Durango state. Credit: Argonaut Gold.

The company's development assets include the Magino project in Ontario and the San Antonio project in Baja California Sur, Mexico.

At the end of June, Argonaut had US$24 million in cash with US$14 million drawn on its revolver and US$23 million in VAT receivables.

Net income in the second quarter reached US$5.4 million, or 3 ? per basic share, an increase from $0.4 million, or nil per share, in the second quarter of 2018.

Argonaut acquired El Castillo in December 2009. The open-pit gold and silver mine started commercial production in 2008. The San Agustin gold and silver open-pit mine was acquired in December 2013. Commercial production at San Agustin commenced in October 2017.

At press time in Toronto, Argonaut is trading at $2.44 per share with a 52-week range of $1.18 to $2.87. The company has 178 million common shares outstanding for a $435-million market capitalization.