Companies are mining gold out of the ground in full knowledge that watching grass grow would be a more productive use of their time. Right now, the majority of gold mines in the U.S. are toilet bowls for money. The average all-in cost for gold mining in the U.S. is $1,200 per ounce. Add in corporate and operating expenses, and their cost of pulling gold out of the ground is higher than what it fetches in the marketplace ($1,300 per ounce). Tragically, mining companies could put their cash to better use as bathroom tissue.
"$1,300 is not a sustainable gold price" says Peter Gray, managing director of Headwaters MB. Fidelity Investments' Joseph Wickwire agreed, "Below $1,300 gold, about 30 to 40 percent of mine production is probably not cash-flow positive."
The price of gold will go up soon... this mantra has been chanted over the past two years from $1,800 to $1,700 to $1,600 to $1,500 to $1,400 to $1,300 per ounce of gold.
Shareholders are furious, and rightly so, but what should these companies do when gold has fallen $600 per ounce over the past two years, losing 1/3rd of its value? Should mining companies really layoff staff, suspend operations, and what, pray that the price of gold goes back up?
No, they unflinchingly stay their course, quoting one another as proof that the market behaving childishly and will momentarily snap back to reality, all while diluting shareholders over and over and over again to raise cash, taking historically unprecedented write-downs, unloading their own holdings, and spiraling their companies toward all-time lows.
Goldcorp (GG) discloses all-in costs for its gold mines: $1,135 per ounce. Newmont (NEM) estimates $1,100-1,200 per ounce. Barrick (ABX) estimates $1,000-1,100 per ounce. (All of these figures would increase by $100-300 per ounce if administrative and corporate expenses were included). With gold selling for just $1,300 per ounce, profit margins are nonexistent, and unsurprisingly, all three companies have fallen over 50% since 2012.
The majority of gold mines are operating at a total loss. Most gold mines should close their doors. It makes no business sense to continue operating, yet permabull executives cannot admit defeat, continuing to extract gold at a higher cost than $1,300 per ounce. If you are a shareholder in most gold mining companies, your executives are voluntarily torching cash.
Even with cost-cutting initiatives starting, the situation is insane. I want to be very clear, because most gold investors are missing this very obvious and painful point. The market price of gold equals the average cost of mining gold. If 50% of gold mines are less expensive and 50% are more expensive (the definition of an average), the more expensive ones should suspend operations. They are worthless holes in the ground until the price of gold improves, yet executives keep these mines operational, because after all, they run gold mining companies ... even if their companies report losses in their quarterly reports.
With executives deferring to prayer for higher gold prices rather than responsible business decision-making, I see only one solution to the problem: buy expensive, new projects. Let me explain.
Expensive Mine Projects Are Cheaper Than Burning Piles of Cash
If gold companies feel a corporate sense of obligation to keep mining in the current climate, they need to buy some projects with low costs, even if the projects are expensive. Consider a major gold company with 20 gold mines, 10 of which have all-in costs above $1,300 per ounce. I propose this company tighten its belt as much as possible at its existing mines (I would prefer the 10 expensive ones close altogether, but amid rampant reluctance ...), then buy one mine project nearby with lower costs per ounce and put its team to work there, even if the new mine project is expensive to purchase. Mine projects with a possibility for profit are cheaper than voluntarily burning piles of cash at existing, high-cost mines.
Consider a simple example. The Relief Canyon in northwest Nevada is a gold mine with all-in costs around $750 per ounce. There are innumerable places to find information about this mine online, and anyone can visit it in-person. It is an old, proven, safe, boring mine that has already produced 100,000 ounces of gold. It is NI 43-101 compliant with 654,000 ounces of gold that can be mined for about $500 per ounce of profit, even at current gold prices (totaling $300 million of profit potential). It has the permits, processing facilities, transportation access, power, water, workforce and political support needed to mine. Its CEO founded and sold another mine project for $186.9 million Canadian. Relief Canyon is expensive; it would cost around $100 million to buy it. Nonetheless, it is cheaper than burning a pile of cash.
Would it be nice to buy $300 million of profit potential for less than $100 million? Absolutely. It used to be easy to scoop up properties on the cheap, and many majors bought too many cheap mine projects with high costs per ounce of gold. Such was the case with Barrick's Pascua-Lama project in Chile, a $5.1 billion write-down that looked terrific when gold was selling for $1,900 per ounce.
"Expensive" yet low-cost-per-ounce mines are a solution to low gold prices and executives who want to keep their workforce busy. If everyone needs to do something, why not at least put them to work where there is a few hundred dollars per ounce of gold in profit versus knowingly burning cash at high-cost mines. The Relief Canyon is one of many mines that can produce gold cheaply, and its $100 million price tag reflects this understanding. Many companies need a safe mine that is economical at prevailing gold prices. Relief Canyon fits the bill. Many other projects fit the bill, and they are becoming more expensive as acquisition interest rises.
- At current prices, the majority of gold mines are losing money and should be closed. Companies keep them running in hopes -- hope, as a business strategy -- of higher gold prices.
- If you are a shareholder in a gold mining company with costs above $1,300 per ounce, you need to ask yourself if a better investment would be gold bullion itself, rather than shares in a company that sets cash aflame. To check the all-in costs for your favorite company, I recommend the free and open What It Really Costs to Mine column on Seeking Alpha (no affiliation whatsoever).
- Relief Canyon is just one example of many mining projects that offer legitimate profit potential, even with gold selling for just $1,300 per ounce. Some mining projects are publicly traded, and some are not; some are operational, some are not. If readers are interested in speculating on individual mining projects, a lot of research is required, yet there is considerable profit potential in identifying future acquisition targets. Be extremely careful when dealing with individual mines or small-cap stocks, as the devil is always in the details.
- Finally, if you still want to hang on to your shares of major gold companies, vote! Call your executive team. Write letters. There is no reason for shareholders to remain silent while executives operate cash-burning gold mines for a dream of higher gold prices. There is no shame in temporarily suspending operations until gold prices rally to levels that justify a re-start of mining operations.