In the course of recent events concerning the precious metals market, the stock price for Barrick Gold (ABX) has declined by 34.3% in the month of April. The decline in gold prices has had devastating impact on the companies in the sector. The company was downgraded to neutral by JPMorgan (JPM) following the events regarding its Pascua-Lama project in South America. Therefore, it is being suggested by analysts that the tide has turned for Barrick Gold as the situation continues to become undesirable for the company. The plunge in gold prices has raised concerns about the valuation of gold production companies.
Barrick Gold is the largest gold mining company in the world. Its regional operations are well diversified as the business units are located in North America, South America and Australia. Its headquarters is in Canada where it also holds a stake in a few oil and gas properties. The company is also involved in the production and sales of copper; however a disproportionately large part of the business comes from gold.
First Quarter Financial Results and Pascua-Lama Project Update
In the first quarter of 2013, the company reported earnings of $0.85 per share as compared to $1.04 per share in the first quarter of 2012. This decrease in earnings was caused by lower prices of both, gold and copper. A higher cost of sales was also noted for both products and the sales volume was also reported to have declined.
Pascua-Lama is one of the larger gold mining sites for the company. The situation has developed a lot of friction as Chilean regulatory requirements hinder the operations of the company. The regulatory requirements are aimed at improving dust mitigation and address the standard of water management in the country. The situation has exacerbated to the point that the company is considering a suspension of the entire project. Recently, matters have worsened as some of the key management personnel in the region, including the company's President for South America, have resigned in the middle of the suspension issue.
Tackling Gold Price: What can Barrick do?
Due to the fall in gold prices, mining companies are expected to run into severe cash trouble. In order to deal with this situation, Barrick can pursue one of three strategies to limit the damage from falling prices. Firstly, the company can shut down or sell non-core assets. This is something that has been done by many companies before in order to contain their expenses within manageable bounds. Secondly, the company can reconsider the timeline for the execution of longer term projects, and perhaps delay some of the costs to a future time period. Lastly, the expenditure on equipment can be reduced in order to cope with the situation. A slowdown in capital expenditures is already adapted by the company in the face of a variety of problems. It is important for Barrick to pursue one of these strategies in order to conserve cash as the margins for the mining industry are damaged substantially by the gold price fall.
In such a situation, metal production companies usually hide behind the argument of commodity's intrinsic value. In the face of undesirable circumstances, Barrick's management has also tried to make this argument by suggesting that the long-term prospects of the company reside in the value of copper and gold and therefore, they remain safe, specifically due to rising demand from emerging markets. To be fair, the view point is valid but only to a certain extent. The short-term threats of diminishing margins and cash concerns need to be addressed as they are vital for the sustenance and performance of the company.
Conclusion: What Should Investors Consider?
The short-term prospects for the whole gold production industry appear to be weak. However, the recent fall in prices allows for a decent entry point for long-term investors. With respect to the earnings growth of the company, Barrick looks overvalued as the PEG ratio is 3.01. However, the company is currently trading at a P/B of 0.85 as compared to the industry average of 2.51. The P/E and P/S ratios also indicate undervaluation but the application of these metrics to mining stocks has been questioned a number of times.
Simply put, the company is offering a decent dividend yield of 4.51% for investors who are willing to wait for their returns. The prices of key commodities have started to improve already. If the company can efficiently address its other issues like Pascua-Lama project, it can become an attractive investment for the long-term investors.