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Free cash flow coming soon, Lake Shore Gold says

Last updated: 10:17 16 Dec 2013 EST, First published: 11:17 16 Dec 2013 EST

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The financial community is watching Lake Shore Gold (TSE:LSG) (NYSE MKT:LSG) closely as it completes a  a crucial transition, moving from multi-year, capital intensive mine development and mill construction to ramping up gold production, which has the potential to grow to between 160,000 and 180,000 ounces starting in 2014, roughly double the 85,782 ounces produced in 2012.

For the last several years, Lake Shore has been producing gold from existing infrastructure while also aggressively spending capital to gear up its Timmins Gold Camp mines, including recently completing a 50% expansion of its Bell Creek mill, which now has the capacity to process more than 3,000 tonnes a day. 

In retrospect, this may have been Lake Shore’s saving grace. By opting to produce gold while it carried out a massive expansion, the company was able to generate much needed cash flow, helping to partially fund its development plan, and therefore making the company less reliant on the whims of the capital markets. Many of Lake Shore Gold's peers have spent the same time frame preparing expensive and time-consuming bank feasibility studies, only to find they cannot raise capital in the current environment. 

“We wanted to generate cash to fund ourselves so we could limit the amount of equity we had to raise,” the company said in a recent interview with Proactive Investors.

Lake Shore Gold's operation is made up of two producing mines and a central milling facility. The Timmins West mine, 18 kilometres west of the namesake town, which has been in operation since January 2012, produced 93,200 ounces of gold in the first eleven months of 2013.  

Production during the same period at the Bell Creek mine, purchased along with the Bell Creek Mill in 2007 for $10 million from a Goldcorp joint venture, was 23,900 ounces. Bell Creek is an underground mine, which currently has 130,000 oz. of reserves, and the potential for even higher production and reserves as the shaft is deepened. 

Aggregate production could be as high as 180,000 ounces next year, according to company estimates, and now that target throughput levels and grades are being met, and at times exceeded, cash costs could drop below US$700 per ounce, compared to this year’s target of US$800 to $875/oz guidance. After the first nine months of 2013, average cash costs were US$856 per ounce, well within the target range. 

Last year, Lake Shore Gold had its peak year of capital investment, which totaled US$170 million. In 2013, this number is on track to fall to approximately $90 million, with $80 million of this amount having been invested by the end of September.  

Not only are falling costs dove-tailing with escalating production, the average grade has improved each quarter in 2013, something investors and analysts alike were eagerly awaiting. “We have completed extensive definition drilling and development over the last two years, which is now paying off. We’re  also getting into higher-grade areas of the mines,” the company said.

For the third quarter, Lake Shore Gold reported mill throughput of 202,300 tonnes at an average grade of 4.6 grams per tonne (g/t), up from 4.3 g/t in the previous quarter, and recoveries of 95.2%. Total gold production came in at 28,900 ounces, up 38% from the year-ago period. Lake Shore also reiterated its full year guidance of 120,000 to 135,000 ounces of gold. Average cash operating costs achieved the long-term target of around US$700 per ounce, while all-in sustaining costs were just over US$1,000 per ounce.

Following completion of the mill expansion in the third quarter, the company released production results for the first two months of the fourth quarter, highlighting its bolstered production capabilities. Production in October was a new monthly record at 17,500 ounces, which resulted from processing 3,550 tonnes per day at an average grade of 5.2 g/t. The company followed up these results with production of 16,700 tonnes from an average throughput of 3,420 tonnes per day and an average grade of 5.3 g/t in November. The strong results bring year-to-date production to 117,100 ounces as at November 30, 2013, positioning the company to comfortably achieve its 2013 guidance. 

The company’s share price is up over 45% since July 1, a sign that investors are anticipating further strong results heading in 2014.

Lake Shore Gold's management has made it clear to the market that its current focus is on generating cash flow from its current operations, which means that several attractive growth projects, including the Fenn-Gib project, 60 kilometers east of Bell Creek, are on the back-burner, for now.  

Fenn-Gib is a prized asset, the company told Proactive Investors, with a large, near-surface, potential open-pittable resource and excellent potential for further growth. There has not been much drilling done of late, but past drilling has already led to significant extensions in three directions, with additional exploration targets also identified. 

In the meantime, the analyst community has taken note of Lake Shore’s positive strides in getting its operational house in order, as evidenced by strong production numbers in recent months, according to BMO Research analyst Brian Quast. He noted that grades and throughput are rising as costs are falling, but also cautioned about the company’s debt load and the continued weak gold price. Still, the analyst, who took a tour of the mine earlier this month, said that it appears the operational momentum is sustainable, at least in the short-to-medium term, with operations seemingly “turning the corner”. He made positive adjustments to his 2014 forecasts, but kept his price target at 45 Canadian cents. 

CIBC analyst Cosmos Chiu also made positive revisions to next year, but said he would await confirmation that Lake Shore can consistently generate free cash flow on a go-forward basis.

Early January, when the company releases its fourth quarter and full-year production results, will undoubtedly be another key time for Lake Shore Gold. With production in the first two months of the fourth quarter of 34,200 ounces already representing a new quarterly record, it should have more good news to report as it enters 2014.     

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