Update to The Copper Goldmine 2

Nevsun Resources (NSU) is up 40% since we first recommended buying it in The Copper Goldmine, but it still has great long-term upside potential. This update to The Copper Goldmine provides an in-depth look at where NSU is now.

For the current price of $3.50 you get:• An annual dividend of $0.16 fully funded by annual positive cash flows of $0.3

from NSU’s Bisha mine in Eritrea.• A book value of $3.19 and $500 million, or $1.66 per share, in the net present

value of the Timok Upper Zone project not included in the current book value. • Expected positive cash flows of $1.3 per share in 2020 when the Timok project is

developed.• Exposure to the two metals expected to enter into a supply gap, zinc and

copper, along with some gold which is a great hedge to potential inflation due to excessive monetary easing.

• Exposure to promising tier 1 mining districts: the growing Bisha district, and the promising Timok Lower Zone.

• The risks of copper and zinc are related to the chance of a global recession and of doing business in Eritrea.

Earlier in 2016, we published a full research report on Nevsun Resources Ltd. (NYSE: NSU) with a recommendation to buy the stock.

This recommendation was based on the fact that NSU had 90% of its share price in cash, a 6.6% dividend yield, a price to book value of 0.7, and a positive future outlook as it is a mid-tier copper and zinc producer and both of these metals are expected to enter a supply gap in the next few years.

We hope that you seized the opportunity as opportunities like NSU are rare. At the time of our first report, NSU’s price was $2.5 and is currently around $3.5, which represents a 40% gain. Many other miners experienced similar gains in the last 6 months, but NSU was unique because of its limited downside due to its high cash position and stable dividend.

Summary

Introduction

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As the primary aim of investing is to reach maximum returns with minimum risks, in this follow-up report we are going to elaborate on the current risks and rewards for NSU to see if it is still such a good investment.

NSU is a Canadian based mineral mining company that operates the Bisha mine in Eritrea. The Bisha Mine Share Company (BMSC) is owned 60% by NSU and 40% by the state owned Eritrean National Mining Corporation (ENAMCO). Currently the main mined minerals are copper and zinc with minor amounts of gold and silver. NSU has recently acquired a second mining asset, the Timok project in Serbia, by acquiring Reservoir Minerals Inc.

Company Overview

Reservoir Minerals Acquisition – Timok Project in SerbiaNSU is now a completely different company as it acquired Reservoir Minerals, which is important because it diversifies NSU’s Eritrean operations with the Timok copper-gold project in Serbia, Central Europe. The Timok project is located in the Bor district in Serbia where mining operations have been going on for more than half a century. The district was the main mining district in the Former Republic of Yugoslavia. This is important because NSU will find it easy to arrange for the construction of the mine, attract skilled workers, and has the benefit of a fully government funded, and new copper smelter in the town of Bor, which is 10 km from Timok and gives a cost-competitive advantage to NSU, and shows how important mining is for Serbia. The central government mine is the Majdanpek mine close to Bor which has estimated reserves of 619.5 million tons of ore grading 0.33% copper. In order to be profitable, the government mine in Bor requires copper ore grades to be above 0.3%.

Let us now look at what NSU has acquired.

NSU paid $500 million in cash and shares for the acquisition of Reservoir Minerals. NSU’s management estimated the net present value of the future cash flows of the upper Timok project, the Cukaru Peki mine, to be at $1 billion which should make the acquisition very accretive for NSU shareholders in the long term.

The Timok copper-gold project consists of the Cukaru Peki Upper Zone and Lower Zone. NSU owns 100% of the Cukaru Peki Upper Zone. The Lower Zone is a joint venture with Freeport McMoRan (NYSE: FCX).

Timok Upper Zone Project

The Upper Zone is the current crown jewel of the Reservoir Minerals acquisition as it has extremely high copper grades, averaging 13.5% for the indicated resources (high

What Has Changed In The Last 6 Months?

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certainty) and 2.9% for the inferred resources (probable).

Figure 1: Upper Zone mineral resource. Source: NSU.

The high copper and gold grades are what will bring higher cash flows to NSU as soon as the new mine in constructed. NSU will complete a pre-feasibility study by the end of next year and continue exploration drilling in the area. As things are now, we can expect the Upper Zone mine to be operational and accretive to NSU’s cash flow by 2020.

The Preliminary Economic Assessment (PEA) for the Upper Zone estimates necessary capital investments of $213 million in order to start mining. NSU’s management plans to finance the project with a loan, given their quick payback times, in order not to put the current dividend in jeopardy. Expected cash costs for the Upper Zone are $0.7 to $1 per copper pound. Future estimated netcash flows from the Upper Zone mining project cumulate to more than $2.5 billion. With the current number of shares outstanding and $300 million of net cash flows in the first production years, investors can expect positive cash flows per share of around $1 from 2020 onwards, and this only from the Upper Zone Timok project.

Net cash flow of $1 per share with a PE ratio of 10 would result in a share price of $10 which represents an almost three-fold potential upside. But there is more than just

Figure 2 Upper Zone estimated cash flows. Source: NSU.

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the tested and highly probable Upper Zone of the Timok project.

Timok Lower Zone Project

The Timok Lower Zone project will be owned 54% by FCX and 46% by NSU, and according to NSU’s CEO, it is the biggest potential upside of the whole Reservoir Minerals acquisition. NSU will spend $20 million in further exploration of the Lower Zone in the next two years in order to establish if the complete Timok project can become a Tier 1 mining asset. The figure below shows the potential of the Lower Zone, which is much greater than the Upper Zone.

Figure 3: Timok Lower Zone Project. Source: Lundin Mining.

If copper grades in the Lower Zone come out above 0.5%, the Timok project would become a Tier 1 copper mine which would propel NSU’s share price. We will know more after more drilling is done but the Lower Zone, which is not included in the above net present value calculations nor in the PEA, but if positive results emerge, it will be a great bonus.

Other Reservoir Minerals Minerals Projects

In addition to what has already been discussed regarding the Timok project, Reservoir Minerals (now Nevsun) is involved in several other projects in Serbia, Macedonia (near Serbia) and Africa that are not economical at the moment, but as long as there is drilling, you never know what might emerge.

It is important to mention that 4 of the above exploration projects are in a joint venture with Rio Tinto (RIO) and are

Figure 4: Other research projects. Source: Reservoir Minerals.

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valued at $75 million with prospects similar to the Timok project.

Development of Bisha District in EritreaEven with the Reservoir Minerals acquisition, NSU didn’t stay still in its principal mining district in Bisha, Eritrea.

Zinc Plant Commissioned On Time & Under Budget

Management announced that the final cost of the zinc plant for the Bisha mine is $77 million, $23 million less than the $100 million initially estimated. Full production is expected at year end and has been perfectly timed as the zinc supply gap is starting to form. Zinc prices have increased from below $0.7 per pound to the current $1.03. As NSU hasn’t yet commissioned any of its zinc production, it will benefit greatly from higher prices. The zinc plant will double NSU current production from the Bisha mine.

Figure 5: Expected Bisha mine production. Source: NSU.

Increased Exploration License in the Bisha District

On July 26, NSU announced that it has expanded its Bisha exploration license nearly 20-fold. Such a license will enable NSU to fully analyze the potential of the Bisha district and potentially develop it into another tier 1 asset like the Timok project discussed earlier.

Currently the Bisha district has 6 deposits, while similar volcanogenic massive sulfide ore deposits like the Noranda and Flin Flon

Figure 6: Expanded Bisha license. Source: NSU.

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have 25 and 18 deposits, respectively. As nothing of this is priced into NSU’s current value, all of it represents a potential future bonus for NSU shareholders.

NSU has issued 100 million shares in order to pay for the Reservoir Minerals acquisition, plus additional cash that it paid FCX for the 100% ownership of the Timok Upper Zone. This lowered NSU’s cash balance to $225 million which ends up at $0.75 per share. NSU has no long term debt which will make it much easier to finance the development of the Timok project. In total, NSU’s book value is $3.19 per share, of which 23% is cash and the rest is equally divided between Reservoir Minerals (Timok) and Bisha.

On top of the excellent book value and positive future prospects, NSU is also profitable with its current operations. EPS in Q1 2016 was $0.05 and in Q2 2016 $0.04. According to NSU’s guidance, we can expect similar earnings for the rest of the year and increased earnings for 2017 as the zinc plant will be fully ramped up. The current PE ratio is around 15 which is excellent given NSU’s future prospects (NSU share price for calculation $3.5).

Maybe even more important than EPS, NSU has positive operational cash flows which enables it to pay a quarterly dividend of $0.04, giving a current yield of 4.5%. Q2 positive cash flows from operations were $33.6 million, or $0.7 per NSU share (60% NSU ownership, 40% Eritrean government), which is clearly sufficient to sustain dividend payments in the future.

With anything that is supposed to happen in the future, there are many risks.

A global recession could lower zinc and copper prices and eat up NSU’s cash position which would certainly lower NSU’s price, but also give it better buying opportunities.

Another risk is Eritrea. Despite nothing bad happening there in the last 20 years, it is still a third world country helmed by a dictator.

And the final risk are delays in the development of the Timok project or bad news about the grades in the Lower Zone.

With such risks, miners always carry a premium, but bad news like the January commodities slump also give great opportunities. NSU has shown in the past that it can mitigate risks and deliver on its promises, so we will continue following NSU and inform you on what is going on.

Current Fundamentals

The Risks

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NSU’s price of $2.5 from January when we published the first report was much more attractive and practically riskless. The current price of $3.5 is logical due to copper and zinc price increasing and a better global outlook than in January.

All of the future projects involve some risk as nothing in the future is certain, but given NSU’s track record of being always on time and under budget, we can expect NSU to deliver on both the Timok project and the development of the Bisha district. From what is highly probable at the moment, NSU will continue to have positive cash flows from Eritrea which is enough to sustain the 4.5% dividend. If copper prices increase as expected, those cash flows will only increase. The current yearly cash flows from Eritrea for NSU shareholders are around $0.3 per year. So for now, you have cash flows of $0.3 per year up to 2025 with potential increases if copper prices increase. On top of that, we can expect additional cash flows of $1 per share when the Upper Zone Timok project is finished. So in 2020, net positive cash flow per NSU share will be around $1.3 per year.

We will leave it to you to assess how much you are willing to pay now or how much of your portfolio you are willing to invest in NSU given the future expected cash flows. However we do recommend that investors take a position in NSU with up to 6% of their total portfolio assets, with a maximum buy-up-to price of $4.50 per share. Because Nevsun Resources is a small cap company with potentially higher volatility, we recommend you use a 50% trailing stop from your purchase price, and continue to adjust your stop higher as NSU makes new highs.

The uncertain potential is what gives NSU the potential to be a once in a lifetime investment. The Timok Lower Zone, if proven, will be at least double the value of the Upper Zone and the additional explorations in Eritrea further add many decades to the current life of mine.

We’ll conclude by saying that NSU has developed from a short- to mid-term positive investment in January to a long-term positive investment at current prices. If you are a long-term investor, you might want to hold your shares and if you are a trader, you might want to follow NSU and buy the dips as sooner or later NSU value will unlock itself.

Conclusion

Disclosure:  One or more of the Principals of Investiv and the analysts who compiled the research for this report are long shares of Nevsun Resources.

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