Gammon Lake Resources (GRS) (recently renamed Gammon Gold), continues to struggle with operational challenges as production from its world-class Ocampo mine remains hampered by temporary startup challenges.
In the second quarter, Gammon produced 58,207 gold equivalent ounces, a level that falls far short of the company’s goal of exiting 2007 at a 400,000-ounces annualized production run rate (or a 100,000-ounce quarterly run rate). Jumping from 58,000-100,000 is not feasible, so management pushed back the company’s production goals a few quarters.
It’s still very early in Ocampo’s production life, and I think Gammon’s new management team deserves more time to address production challenges, many of which were outside of its control. This team includes several seasoned mine operators with backgrounds at very successful companies like Goldcorp.

Management said that it is determined to address setbacks in areas like equipment shortages, equipment maintenance procedures, and employee retention. Management was very forthright and transparent about Gammon’s current production status and has a clear, achievable plan to meet long-term production goals. It handled several difficult questions very professionally.

Regarding future guidance, Gammon’s CFO said, “We’re operating at less than 70% of our nameplate capacity at Ocampo, where 40-45% of our cash costs are fixed…a significant portion of our costs do not change irrespective of higher or lower productive output. [This] clearly hit us hard in terms of our cash costs per ounce in the quarter…As we migrate to higher-grade ore, we’ll see an improvement in our cash costs per ounce .”

The Ocampo mine is an incredibly valuable resource and two key variables should swing in the company’s favor by mid-2008:

A renewed rally in the price of gold should boost the top line, and positive operating leverage should greatly benefit profit margins (as Ocampo operates at a gradually higher capacity -- eventually 100% of nameplate capacity -- more revenues will fall to the bottom line).
GRS now trades at an estimated $80 per ounce of gold equivalent resources, a low price for a producer with an achievable plan to extract this resource over the next 15-plus years.

It’s a good thing that the new management team has lowered expectations for the next year. Gammon’s old management team was far too promotional and raised expectations for 2007 to an unreasonably high level.This new management team will steer the company past these temporary roadblocks over the coming year. The stock has sold off so dramatically that the market now seems to be pricing in a few more quarters of ugly production figures. Now that expectations have been lowered, the risk of holding GRS is lower, as well.

With gold poised to break out in anticipation of a long Fed easing cycle, GRS remains a good long-term investment at current prices. This is a speculative junior gold stock.