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Barrick Gold Corporation (USA) (ABX), Goldcorp Inc. (USA) (GG): What’s The Future Hold?

Evy Hamro the manager of BlackRock’s commodities funds, recently told a room full of investors in London that ‘Gold miners will become a barbarous relic, without change’ after shares of Barrick Gold Corporation (USA) (NYSE:ABX) fell to a 20-year low last week and the company lost its position as the largest gold miner in the world by market cap to peer Goldcorp Inc. (USA) (NYSE:GG).

But how did it get this way? Many people and investors are blaming poor management decisions as not just Barrick, but all the gold miners have expanded rapidly during the decade, spending shareholder cash and diluting their share capital in order in an attempt to win over shareholders during a decade of booming gold prices — destroying value for long-term investors.

Indeed, the number of shares in issue for each of the four major gold miners, Barrick Gold Corporation (USA) (NYSE:ABX), Goldcorp Inc. (USA) (NYSE:GG), Newmont Mining Corp (NYSE:NEM), and Kinross Gold Corporation (USA) (NYSE:KGC) have increased rapidly, despite the fact that the miners were highly cash generative and should actually have been buying back shares rather than issuing them.

Company 5-yr Percentage increase in fully diluted number of shares
Barrick 13%
Goldcorp 16%
Newmont 10%
Kinross 81%

Moreover, the share prices of the world’s five largest gold miners have fallen faster than the price of gold during the first quarter of this year, as rising labour costs, lower ore grades and project budget overruns drain company profits.

Company Performance Since The Beginning of the Year
Barrick Gold -43.4%
Goldcorp. -21.9%
Newmont Mining -29.7%
Kinross Gold -45.0%
SPDR GLD -12.4%

Over the last few years, it appears that the mistakes the miners have made have been masked somewhat by the exciting ride that is the price of gold. Investors have been transfixed by the shiny metal’s move upwards without studying the activities of the miners in general.

Now, the mistakes are coming to light and the miners are paying for it with plummeting stock prices. Indeed, many high profile investors are calling for larger cash returns to shareholders as a way to prop up stock prices, but this could be an unrealistic proposition as margins are coming under pressure in the mining industry.

The projected all-in cost of mining an oz of gold for each of the five main gold miners. What’s interesting here is the fact that although Barrick Gold Corporation (USA) (NYSE:ABX) used to be the biggest gold miner by market cap. its production costs are exactly the same as its smaller rivals, indicating that the company has not been able to achieve the economies of scale it should have as the market leader.

This chart illustrates the falling profit margins of the companies. I have used an average production cost to simplify things. On an individual basis, both Newmont Mining Corp (NYSE:NEM) and Kinross Gold Corporation (USA) (NYSE:KGC) are producing an ounce of gold for an average of $1,150, more than the average I have indicated above, which indicates that their profit margin per oz for this month will be around $300 an ounce — still a good 26% margin.

Balance Sheets have room for expansion

Another proposition could be a wave of takeovers, which is an entirely viable option as all four of the miners above have plenty of room on their balance sheets for leveraged acquisitions. Furthermore, interest on existing debt is already well covered, as shown below.

Revenue $14.50 $5.40 $9.90 $4.30
COGS $8.10 $3.10 $5.90 $2.80
EBITDA $6.40 $2.30 $4.00 $1.50
Interest Expense $0.17 $0.01 $0.25 $0.04
Interest Cover by EBITDA 37 230 16 38
Cash $2.2 $1.0 $1.8 $2.0
Short-Term Debt $1.8 $0.0 $0.0 $0.5
Long-Term Debt $12.0 $0.8 $6.3 $2.1
Net Debt (Cash) $11.6 ($0.2) $4.5 $0.6
Shareholder Equity $21.8 $22.6 $13.8 $9.8
Net Debt to Equity 53.4% -0.8% 32.6% 6.1%
Net Debt to EBITDA 1.8 -0.1 1.1 0.4

Figures in millions of USD except for ratios

Barrick Gold Corporation (USA) (NYSE:ABX), Goldcorp Inc. (USA) (NYSE:GG), Newmont, and Kinross all have plenty of room on their balance sheets for further borrowing to finance takeovers. Barrick is limited, as the company already has a net debt to equity value of slightly over 50%, but interest costs are covered nearly 40x so there is plenty of room for addition borrowing.

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