In this analysis we will calculate the true costs of production of Eldorado Gold (EGO), a gold producer that owns operating mines in China, Turkey, and Greece. In addition, EGO owns two base metal mines located in Brazil (an iron-ore mine) and Greece (a base metal mine). EGO also owns a few development projects located in China, Greece, Turkey, and Romania.
One thing that investors should note is that EGO owns development properties (and one operating mine) in Greece - which is a country with significant political risk. Investors in EGO should follow developments in Greece closely.
Calculating the True Mining Cost of Gold - Our Methodology
In a 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.
Cost Per Gold-Equivalent Ounce - is the costs incurred for every payable gold-equivalent ounce. It is Revenues minus Net Income, which will give an investor total costs. We use payable gold and not produced gold, because payable gold is the gold that the miner actually keeps and is more reflective of their production. Miners also use payable gold and not produced gold when calculating their cash costs, so this is pretty standard.
We then add Derivative Gains (or minus Derivative Losses), which will give investors total costs without the effects of derivatives. Finally, we add Foreign Exchange Gains (or minus Foreign Exchange Losses) to remove the effects of foreign exchange on the company's costs.
Cost Per Gold-Equivalent Ounce Excluding Write-downs - is the above-mentioned "Cost per gold-equivalent ounce" minus Property/Investment Write-downs and Asset Sales. This provides investors with a metric that removes exceptional gains or losses due to write-downs and asset sales.
Cost Per Gold-Equivalent Ounce Excluding Write-downs and Adding Smelting and Refining Costs - is the above-mentioned "Cost per gold-equivalent ounce excluding write-downs" adding in smelting, refining and all other necessary pre-revenue costs. This is a new metric that we are now introducing to our true all-in cost series because it will more accurately measure all-in costs and allow comparisons between miners.
Most investors are unaware that many miners will remove smelting, refining, and other costs before reporting their total revenues figures and these pre-revenue costs are not reported in the income statement. The result of this is that it skews all-in costs higher for miners that refine themselves or include the costs in their income statement, while inaccurately showing lower costs for miners that remove it before reporting revenues.
A simple test can be done on any miner to see if there are any pre-revenue costs that are not reported in the income statement. Simply take payable production and multiply it by average realized sales price and this should come relatively close to the total revenues figure. If it gives you a number much higher than reported revenues then there are pre-revenue costs that are not being reported.
This line should alleviate these issues and allow comparisons on a fair basis.
Tax Calculations - Since we are removing Derivative Gains/Losses, Foreign Exchange Gains/Losses, and Write-downs we have to estimate the approximate tax benefit (or loss) based on this removal - otherwise we would be removing a gain/loss but not removing the associated benefit/loss associated with the taxes related to that gain. We use a 30% base tax rate for these calculations, but investors can use whatever tax rate they feel most comfortable with.
For example, if a company reports a $100 million dollar write-down, we will remove $100 million from its total costs (removing the effect of the write-down) and then add $30 million to costs (30% * $100 million) to represent the estimated tax benefit that the company gained from this write-down. You must do this if you want to remove any item from the income statement, otherwise you will be using taxes based on a removed income statement item.
True Costs of Production for EGO Q2FY13
Let us now use this methodology to take a look at EGO's results and come up with their average cost figures. When applying the methodology for the most recent quarter and FY2012, we standardized the equivalent ounce conversion to use the average LBMA price for Q2FY13. This results in an iron-to-gold ratio of 13.3:1 iron tonnes to ounces of gold.
Additionally, EGO mines a concentrate mix of lead and zinc at its Stratoni mine in Greece and we converted this mix to gold at a 1.8:1 ratio of tonnes of concentrate to ounces of gold, which was based on the average quarterly price for each sold tonne of concentrate (each tonne sold in Q2FY13 at an average of $781). We like to be precise, but minor changes in these ratios have little impact on the total average price - investors can use whatever ratios they feel most appropriately represent the by-product conversion.
Since our conversions change with metal prices, this may influence the total equivalent ounces produced for past quarters - which will make current-to-past quarter comparisons much more relevant.
Observations for EGO Investors
True Cost Figures - EGO's true all-in costs for Q2FY13 was $1069 per gold ounce, which was an improvement on both a sequential (from Q1FY13) and a year-over-year basis. Additionally, gold production increased to 183,971 ounces and 204,471 gold-equivalent ounces, which was primarily due to an increase in gold ounces mined with a slight decrease in concentrate production.
Compared to other gold miners that we've analyzed, EGO's quarter was fairly strong, with many competitors such as Barrick Gold (ABX) (costs around $1300), Goldcorp (GG) (costs over $1250), Yamana Gold (AUY) (costs over $1300), Newmont Gold (NEM) (costs over $1600), Allied Nevada Gold (costs over $1300), Alamos Gold (AGI) (costs under $1250), IAMGOLD (IAG) (costs over $1300), and Richmont Gold (RIC) (costs over $1300) all reporting true all-in costs above EGO's costs.
Compared to the Q1FY13 numbers (for general comparison purposes only since these are FIRST QUARTER numbers), EGO's competitors reported the following costs: Goldfields (GFI) (costs over $1500), Randgold (GOLD) (costs just under $1200), Silvercrest Mines (SVLC) (costs below $1100), Kinross Gold (KGC) (costs just under $1400), and Agnico-Eagle (AEM) (costs around $1400).
All in all it was a fairly strong quarter for EGO in terms of true all-in costs, and EGO was one of the few gold miners to report positive EPS with gold prices averaging below $1400 in Q2FY13. We do emphasize that this is only one metric to analyze a miner, but in terms of their all-in costs EGO did a very good job in Q2FY13.