In this analysis, we will calculate the true costs of production of Agnico-Eagle (AEM), a mid-tier producer with mines in Canada, Mexico, and Finland. Also, the company is led by Mr. Sean Boyd, one of my personal favorite CEOs in the mining industry.
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 revenue 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 revenue 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 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 AEM Q2FY13
Let us now use this methodology to take a look at AEM'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 a silver ratio of 61.2:1, copper ratio of 436:1, and a zinc ratio of 1704:1.
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 AEM Investors
True Cost Figures - AEM's true all-in costs for Q2FY13 was $1407 per gold ounce, which was an improvement on a sequential (from $1420 per ounce in Q1FY13) but was slightly lower on a year-over-year basis ($1357 in Q2FY12).
Gold equivalent production declined primarily because AEM's Kittila mine was down for most of the quarter for maintenance and the company expects higher production in H2FY13 as Kittila is reopened and Goldex starts production. Additionally, Mr. Boyd emphasized cost-cutting efforts for the rest of the year:
"Given the current low gold price environment, we are in the process of reviewing all aspects of our business. Today we are announcing capital and other costs reductions of approximately $50 million for the remainder of 2013. Additionally, we estimate that 2014 capital expenditures at existing mines and projects will be in excess of $200 million lower than our previous estimate of approximately $600 million. In spite of these cost reductions and spending deferrals, our growth profile in 2014 and 2015 remains intact," added Mr. Boyd.
Compared to other gold miners that we've analyzed, AEM's quarter showed production costs higher than other gold miners, 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), Eldorado Gold (EGO) (costs under $1100), Allied Nevada Gold (ANV) (costs over $1300), Alamos Gold (AGI) (costs under $1250), IAMGOLD (IAG) (costs over $1300), and Richmont Mines (RIC) (costs over $1300) all reporting true all-in costs below AEM'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: Gold Fields (GFI) (costs over $1500), Randgold (GOLD) (costs just under $1200), SilverCrest Mines (SVLC) (costs below $1100), and Kinross Gold (KGC) (costs just under $1400.
If it wasn't for the maintenance closure of Kittila and the additional cost-cutting efforts emphasized by AEM management in the upcoming year, this would have been a poor quarter in terms of all-in costs. Even though their costs were down slightly on a sequential basis, they also only had $920,000 in taxes compared to over $24 million in Q1FY13 (or close to $100 per ounce extra in taxes last quarter).
Investors should eye AEM's Q3FY13 earnings report carefully to see if cost-cutting efforts improve AEM's all-in costs and if production at Goldex increases the company's cost efficiency. After all, at current gold prices AEM is losing money (like many other miners) so investors need to either see a higher gold price or much lower all-in costs from the company.