In an earlier article, we discussed one of the most important metrics to analyze the silver industry, the actual cost of mining an ounce of silver, which can help an investor figure out whether it is time to buy SLV, PSLV, or the silver miners. In that analysis, we used the FY2012 financials to calculate the combined results of publicly traded silver companies and come up with a true all-in industry average cost of production to mine each ounce of silver.
In this article we will categorize all the silver miners based on their true all-in costs. This will give investors a chance to see how each miner ranks in its true all-in costs of production and compare them with their competitors.
We must stress that even though the true all-in costs are an important metric to measure miners, investors must still do their due diligence and evaluate other important factors that may affect each miner. Mines coming online, political risk, share dilution, management experience, and balance sheet health are all important things that must also be taken into consideration. This list is best used to identify potentially strong or weak miners to begin further research.
Calculating the True Mining Cost of Silver - Our Methodology
In the previously mentioned article, we gave a thorough overview of the current way mining companies report their costs of production and why it is inaccurate and significantly underestimates total costs. Then we presented a more accurate methodology for investors to use to calculate the true costs of mining gold or silver. Please refer to that article for the details explaining this methodology, and I would encourage all precious metals investors to understand this concept.
Top Tier Miners
Here is a list of the top miners that had the lowest true all-in costs for 2012.
Gold Resource Company (GORO) leads off the list and wins the 2012 crown with a terrific cost structure of $17.75 per silver-equivalent ounce. The company's focus is on keeping operating costs low by avoiding many costs associated with resource development that other companies undertake. They also return a large amount of their net earnings to investors in dividends. Though we would caution investors that GORO also is not a traditional silver company, so those interested in investing in GORO need to do their due diligence and understand their business model. But congratulations to GORO management for being the lowest silver producer in 2012.
First Majestic Corporation's (AG) costs of $18.44 per silver-equivalent ounce were only slightly behind GORO. But for investors seeking pure silver exposure, AG produces silver at a much higher percentage than GORO, at around 90% silver production versus GORO's 55%.
Pan American Silver (PAAS) did a good job producing silver-equivalents at $20.81 per ounce, though they did have quite a bit of write-downs for the year and some of their properties have significant political risk. But they are one of the world's largest silver producers and should be a part of any silver mining portfolio.
Finally, Hecla Mining (HL) round out the top of the list at $24.62 per silver equivalent ounce. We consider HL more of a higher cost producer though and they probably belong in lower tier list. Management needs to significantly lower costs in the future to maintain their standing on the top tier of this list.
Bottom Tier Miners
Silver Standard Resources (SSRI) leads off the lower tier of silver miners with true all-in silver costs of around $24.72 per silver-equivalent ounce. Though they fall into the bottom tier of silver producers, their fourth quarter costs look like they were being significantly lowered and if they can keep this up in 2013 they may provide investors with a nice turnaround story.
Endeavour Silver Corporation (EXK) follows with a disappointing $24.91 per silver-equivalent ounce, followed by Great Panther Silver (GPL) at $25.18 per silver-equivalent ounce. We like management at both of these companies, but we just need to see lower costs before we increase investment in these companies. Finally, Coeur d'Alene Mines Corporation (CDE) falls to the bottom of the list for the second year in a row at $27.72 per silver-equivalent ounce.
Takeaway for Investors
True all-in costs provide investors with a good way to estimate how miners rank in terms of their total production cost structure. Miners with low cost structures tend to perform well when silver prices are low because they can remain profitable and keep a relatively healthy balance sheet. But high-cost miners can offer investors more leverage if silver prices rise since their margins are much lower, so increases in the silver price have a much greater effect on their earnings per share and P/E ratio.
Finally, true all-in costs allow investors to see if companies have a strong enough balance sheet to avoid a cash crunch if silver prices remain low. Lower cost miners can get by with less cash because their production remains profitable, but higher cost companies need to have significant cash reserves if silver prices drop because they may be unprofitable on a large amount of their silver production.
Since it is earnings season for many miners, investors should use 2012 and Q4FY12 numbers to measure first quarter miner performance. We believe investors have shifted their focus in evaluating miners from production growth to cost structure - this especially holds true since silver prices have fallen significantly from its previous year's highs. Whether they use true all-in costs or other cost metrics, investors should pay close attention to the cost structure of the miners they hold in their portfolios - we believe the miners that can demonstrate the lowest cost structures will outperform in the current negative silver sentiment environment.