Companies like Barrick Gold Corporation (USA) (NYSE:ABX) have been caught off-guard after overpaying for properties during the credit boom and now, during the bust, are dealing with a mix of higher energy and base-commodity prices that are out of phase with economic growth due to central bank intervention. Now they are saddled with too much debt and not enough cash flow to return anything to investors.
Its smaller rival AngloGold Ashanti Limited (ADR) (NYSE:AU) posted a six-fold increase in adjusted profits. But that came entirely because of the impact of South African strikes last year, making the numbers look good in comparison to last year’s low production. Due to labor unrest and falling commodity prices, the South African-based firm could also sell some of its assets, as well.
The performance of the gold companies in general has been less than encouraging. Since the beginning of 2012, Barrick Gold Corporation (USA) (NYSE:ABX) has shed $28.2 billion in market cap, while Goldcorp Inc. (USA) (NYSE:GG) and AngloGold Ashanti Limited (ADR) (NYSE:AU)’s values have fallen by $13.6 billion and $9.9 billion, respectively.
Earnings
Gold is now, technically, in a bear market having dropped more than 25% off its peak. Sentiment in the hedge fund set is profoundly bearish while fundamentals and physical demand are very strong. But the current two-year counter-trend fall has taken its toll on the balance sheets on nearly all of the miners.
Barrick Gold Corporation (USA) (NYSE:ABX)’s quarterly earnings have dropped from $1.0 billion a year ago to $847 million in the first quarter of the current year. On an adjusted basis, this translates to $0.92 per share. As well, revenue has fallen from $3.6 billion to $3.4 billion. On a positive note, Barrick Gold Corporation (USA) (NYSE:ABX) has been cutting its capital expenditures and for the current fiscal year, its all-in sustaining guidance has been lowered from $1,000 to $1,100 per oz to a range of $950 to $1,050 per oz.
Meanwhile, AngloGold Ashanti Limited (ADR) (NYSE:AU)’s adjusted profits have climbed from $19 million in the same quarter last year to $113 million.
Tough environment
The gold companies now have to modify their plans and adjust to the lower gold prices of around $1,400 per oz. for the time being. The current investing environment has everyone chasing yield in the equity markets while fundamentals continue to erode, smoothed over by trillions of dollars in quantitative easing by major central banks.
This was also stated by the new CEO of AngloGold Ashanti Srinivasan Venkatakrishnan, who believes that companies must brace for a tough environment in which gold could fall to $1,300 per oz. and stay there for a while. At those prices either operational efficiency will have to go way up or mines will have to be sold or shuttered.
In Anglo’s case all marginal assets will be identified and sold. AngloGold will sell its Navachab mine in Namibia by the end of the year while another unidentified asset could also be put up for sale.
Barrick Gold’s flagship gold and silver mine Pascua-Lama located on the Chile-Argentina border will likely be sold. This is the same mine that was involved in the environmental dispute related to water supplies to the local population. The project’s budget has been increased twice so far and now stands at $8.5 billion, while the locals have received a court order that has halted the development work on some part of the mine. Pascua-Lama will stand as Barrick Gold Corporation (USA) (NYSE:ABX)’s Rubicon, as the company will likely begin doubling down in north-central Nevada.
Barrick Gold: Management issues
Currently, there is a disconnect between Barrick Gold’s shareholders and the top management. The former have given their non-binding vote of no-confidence to the new co-chairman John Thornton’s $17 million compensation package. The company’s founder and the other co-chairman Peter Munk thinks that Thornton should be given a lucrative package so that he would stick with the company for the long haul. Why does the 85-year old founder wants to keep Thornton? This was explained in an emailed statement when Munk said, “I searched the world for a successor” and with Thornton, he believes that he could have found one.
The cost blowout at one of its biggest projects has already angered shareholders. The huge compensation package being awarded to Thornton, which includes an $11.9 million sign-on bonus, could not have come at a worse time. The company is currently the largest indebted gold miner. It has recently raised $3 billion in a bond offering to refinance its enormous $14.8 billion debt. Barrick Gold has the second-lowest investment grade rating by Standard & Poor’s and Moody’s Corporation (NYSE:MCO) with a negative outlook, raising its borrowing costs.
The specter of hedging
Barrick Gold Corporation (USA) (NYSE:ABX) has already announced that it will begin forward hedging of its gold production into the teeth of what is unsustainable selling in the futures market. For that reason alone, gold investors should shun the company. Forward hedging was used as a capping mechanism during the last equity bubble in the lead up to the dot.com bust. Barrick was at the center of it with a hedge book so big it took the company years to unwind it, all the while providing bullion bank fuel to push the price down near its cost of production at the time, around $250 per ounce.
Now we’re seeing Barrick Gold Corporation (USA) (NYSE:ABX) entering into this activity again just as we are seeing a similar condition playing out in the markets with gold being pushed down near its cost of extraction.
Much has been made of the selling that has taken place from the SPDR Gold Trust (ETF) (NYSEMKT:GLD), but a great deal of that physical metal that was redeemed is not sitting around idle as fuel to short the market. It was sold and it will likely never return to the ETF.
If the major gold producers begin to hedge forward to save their skins like was done in the 1990’s, not only will the gold bull market not resume soon, it will starve the industry of a great deal of much-needed investment capital to satisfy demand at these prices, prices which are already looking unsustainable given the reported premiums being paid for the physical metal today.
The article Barrick Hedges Its Product and Its Portfolio originally appeared on Fool.com and is written by Peter Pham.
Peter Pham has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Peter is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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