The gold mining giant, Goldcorp (GG), has been exposed to weak gold prices and increased cost pressures. Lower gold prices not hurt only revenues but also profit in the third quarter of 2013. On the other hand, the company is consistently making progress in its pipeline mine projects. The company claims that these projects, when completed, are expected to enhance production by at least 70%. Let us analyze these projects and their impact on the company's financial performance.
Since 75% of the company's revenues are based on gold sales, in this article, I will be focused on the production of gold while excluding the by-products such as silver, copper, lead and zinc.
Goldcorp has been operating 11 mines, mainly in Mexico, Canada and in Central and South America. Together these mines have contributed 637,100 ounces of gold. In addition to these mines, the company has been aggressively pursuing the development of other mines as well. Let us discuss them one by one.
The company expects production will begin in mid- 2014, while the commercial production is expected in the fourth quarter of 2014. The expected production is estimated to yield between 130000 and 180000 ounces in 2014, while thereafter the company expects production to yield 525000 ounces from 2015 onwards.
After the initial delays, the initial capital cost estimate is now expected to be between $1.6 and $1.8 billion.
Another project that is aimed at ensuring growth for the company is Eleonore. During the third quarter of 2013, the construction progress reached 65%. Moreover, the engineering activities also progressed significantly. Owing to the development progress, it is estimated that the project is on track for its first gold production by the end of 2014. After 2014, the mine is expected to contribute around 600,000 ounces per annum.
The project is expected to start its production in the first half of 2015. On a standalone basis, the project will be contributing almost 225000 ounces annually while the prime focus is to integrate its operations with Red Lake. The initial capital expenditure is estimated to be $540 million.
The table above shows the impact on the production Goldcorp experienced after incorporating the production of its developing projects. For 2013, I have considered the production estimates as given by the company in its recent investors' presentation. The additional production is estimated as per the dates of commencement of production provided by the company.
For 2014, the company is expected to provide production guidance in early January of 2014. But to the best of my knowledge, I believe that the production estimates will be around 3000000 ounces and there are certain risks that can adversely affect the scenario.
The table above demonstrates estimated revenues while assuming that the gold prices will remain USD 1400 per Ounce. Similarly, the all in sustaining cost (AISC) is also assumed to be increased from the current $992 per ounce to $1050 given the higher capital spending requirements for ongoing projects. AISC includes by-product cash costs, sustaining capital expenditures, corporate administrative expenses, exploration and evaluation costs and reclamation cost accretion. So, based on the aforementioned assumptions and estimates the earnings from mining operations are projected.
Given the above assumptions, I have calculated the intrinsic value of the stock, $29.4 with an almost 37% upside potential from the current market price of $21.49.
Factors that can adversely affect the above valuation
Delay in Projects
The ongoing projects, for instance, are subject to a number of potential challenges like construction delays. Any unforeseen delay in construction will cause an unprecedented increase in the all-in-sustaining-cost which will be reflected in lowering the top line growth and consequently the bottom line of the company.
The increase in production would mean nothing if the gold price continues to decrease in the international market. Although analysts at J.P Morgan and Bank of America are expecting a long term recovery in gold prices and projects it to be trading in the range of USD 1400 per Ounce, any unforeseen event can make the analysis irrelevant. Therefore, I have taken this price as my key assumption. However, in the worst case scenario, if the price continues to decrease, it would mean that Goldcorp will be draining its reserves. This scenario will hurt the company badly both in the short and long terms.
The above factors are company-specific factors but there are some factors that are generally attached to the mining industry i.e. environmental issues, political risks, litigation etc. As far as the company is concerned, a majority of its mines are located in politically-sound regions. During the 2ndquarter of 2013, the company paid $2558 million as an impairment charge mainly for its Pueblo Viejo mine (Dominican Republic) and the fractional amount is attributed to Alumbrera mine (Argentina). The payments were made due to changes in the regulatory framework. Other than that, there are no ongoing litigation's and regulatory changes expected. However, these factors need to be closely observed before making any investment decision.
The company is a leading gold producer and is carrying out its operations at low costs. Moreover, its development projects are located in politically stable jurisdictions throughout the Americas. With increased production expected in the later years the future prospects for the company seem to be quite impressive. Moreover, the fair value, as per the assumptions and inputs given above, of the company is 37% above the current market price.
There are certain risks that can interrupt the smooth functioning of the company. Investors are advised to consider the above mentioned factors and keep an eye on any developments that can adversely affect the stock price.