Ann: Red 5 and Silver Lake Resources to Merge, page-83

Red 5 Limited (RED) - Hold on, there’s a better deal coming (Petra 6/2/24)

RED and SLR have agreed to merge via a Scheme of Arrangement (3.434:1 RED:SLR), with implementation in June 2024, upon a positive vote by SLR holders. The combined company will have a proforma EV of c.A$2bn and FY24 gold output of 405-445koz at $1,850-2,074/oz AISC. Clearly, this creates a new, diversified mid-tier gold producer with a strong balance sheet and cash flow, increasing investor appeal. However, with no operational synergies, the investment thesis for RED is now materially different.
After a difficult few years, RED is well positioned to rapidly deleverage and open a pathway to dividends; holders are being asked to trade this outlook for the inherent uncertainties which come with the short-life and redevelopment assets in SLR’s portfolio.
Cash/time/expertise needs to be invested in SLR, with uncertain outcomes.
RED’s re-rating pathway becomes more complex with this deal.
However, RED is now clearly “in play” & this process will draw attention to its unique, long life, low cost and expandable assets which should be at the heart of a consolidated Leonora region. With extensive operational insights and strong investor backing, GMD must move now, in our view.
Maintain BUY, PT of A$0.43/sh (unchanged). Spot valuation is A$0.61/sh

Bull case of the RED/SLR deal:

• Asset diversification from three operating gold centres
• Increased scale – larger gold output, index upweighting, potential ASX200 inclusion, improved trading liquidity
• Acquiring SLR at a cheaper multiple, delivering near-term earnings and cash flow accretion to RED
• Diluting RED’s out-of-the-money hedgebook
• Accelerating KOTH growth to better utilise the large mill

Bear case of the RED/SLR deal:

• Exposure to SLR’s short-life assets, requiring significant effort to extend mine lives, thus increasing RED holders’ exposure to cost and timeline uncertainties
• Multiple undervalues RED – implies a value of $0.37/sh for RED vs our $0.43/sh PT or A$0.61/sh at spot

Our view – a better deal is coming

• RED’s asset base is unique in the domestic gold sector
• Whilst this deal allows growth to be accelerated, RED is overpaying for growth that could be organically funded, with any residual cash returned to holders in 1-2 years
• RED is too unique and valuable in its current form, with a likely bid coming from GMD given its detailed understanding of RED’s assets. Without the ability to undertake DD, other bidders are unlikely to emerge