Gammon says project is flawed but not fatal

Analysts and investors are looking for reasons to restore their faith in Gammon Golds (GAM-T) Mexican projects after the company posted a US$25.5-million-loss for the second quarter.

With projections of producing 200,000 oz. gold and 10 million oz. silver a year (400,000 oz. gold equivalent) from its El Cubo and Ocampo mines in Chihuahua state, Mexico, Gammon is well below its goal with about 32,000 oz. gold and 1.4 million oz. silver this quarter and 37,000 oz. gold and 1.6 million oz. silver in the first quarter.

At the same time, cash costs increased to US$614 per gold equivalent oz. from US$474 per oz.

Gammon could also be looking at a minimum US$3 million lawsuit from Midas Funds, which has filed a complaint with a New York state court, accusing Gammon of overstating its target production to induce investors to buy shares in its April 2007 public offering, through which Gammon raised US$200 million. Gammon has not yet been served the complaint but company CEO Russell Barwick, who was appointed in the second quarter, says the claim is without merit and will not affect Gammons operations.

In a conference call on August 10, Barwick said it would likely be the second quarter of 2008 before the Gammon can meet its production goal.

For me to give out a more detailed number at this stage wouldnt be appropriate because I dont want to have to come back and correct myself in the future, Barwick said.

A more experienced management team has been put in place over the last two months, including the chief financial officer, chief operating officer and president of Mexican operations, who have since evaluated the projects and are addressing laundry list of problems.

Barwick, who admitted there have been more problems than usual in this start-up, said he has been asked whether the projects have a fatal flaw, but said investors should look at the mine as one in its infancy.

We are seeing gold in the pit where its meant to be we are seeing gold underground where its meant to be, Barwick said.

The Ocampo leach pad crushing and mill operation, which went into commercial production in the first quarter, operated at less than 70% its capacity.

First lightening struck the mill causing problems and then two motors needed replacing. The company also found itself mining a low-grade area and fell behind in resource development.

The rainy season has slowed down the crusher leading Barwick to warn few improvements over the third quarter.

A fourth crusher is being installed at the open pit, which will increase daily throughput capacity at the mill by 10 to 15% and a third tailing filter is being added at the mill to increase high grade throughput by 33% to 2,000 tonnes per day from 1,500 in the first quarter of 2008.

Management has declared some of the underground equipment at El Cubo too old for use and are making replacements to improve efficiencies. The same goes for two older mills, one of which Barwick says could be put in a museum. A newer more efficient mill was restarted in the second quarter but was only working at 45% its capacity. Management plans to shut down at least one of the older mills. As well, the company is making changes to the underground mine plan, where grades are up to 30% lower.

Gammon shares dropped 9% or $1.01 in Toronto today to $10.21 on a trading volume of about 3.5 million shares.

The stock was priced at more than $20 per share in April and has been steadily falling since its $200-million financing.