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In the first nine months of 2013, Goldcorp (GG) generated 94.8% of its total revenue from the sale of gold, thus making it vulnerable to falling gold prices. As a result, the company's stock price has dropped almost 43% since the beginning of this year. The World Bank's forecast for gold prices also doesn't look promising as gold is expected to stay in the range of $1,300/oz-$1,350/oz in the next four years. With a gloomy price environment, the future growth of Goldcorp will be highly dependent on its ability to increase production and lower operating costs.

Even though the company's average realized gold price in the first nine months of 2013 declined 13.7% year over year, its production of gold increased 10.6% from 1.696 million ounces to 1.898 million ounces during the same period. However, the company's AISC was disappointing, as seen below.

Goldcorp

9 months 2013

9 months 2012

AISC ($/oz)

1,136

872

Goldcorp's AISC of $1136/oz in the first nine months of 2013 came in much higher than Barrick Gold's (ABX) AISC of $919/oz during the same period. Both of these companies are stakeholders in the Marigold mine, with Goldcorp owning 66.7% and Barrick owning 33.3%. The Marigold mine reported the highest AISC of $1,604/oz during the first nine months of 2013. Understandably, both Goldcorp and Barrick are looking to sell their respective stakes in the Marigold mine in a bid to optimize their overall portfolios. Barrick has successfully followed the strategy of selling higher-cost mines by disposing of its three gold mines in Australia for a sum of $300 million. These mines reported an AISC of $1145/oz in the first six months of 2013 compared to the company's overall AISC of $931/oz.

The company's plan to stay competitive

Goldcorp AISC reduced from $1,279/oz in the second quarter to $992/oz in the third quarter. The company is relying on the development of lower cost projects that will not only help increase its overall production but also in reducing the operating costs. The Pueblo Viejo mine, which Barrick (60%) and Goldcorp (40%) jointly own, is a prime example of Goldcorp's effort to achieve improved efficiency. Below, I compared the AISC of the Pueblo Viejo mine with the overall AISC of the company.

AISC ($/oz)

3Q 2013

9M 2013

Pueblo Viejo AISC

661

934

Goldcorp AISC

992

1136

As seen above, the Pueblo Viejo mine reported a substantially lower AISC compared to the company's overall AISC. In the first nine months of 2013, Goldcorp's share of gold production from the mine was 220,500 ounces. The mine is expected to reach full capacity in the second half of 2014 and will produce more than one million ounces of gold a year in the first five years of operation at an AISC of $650/oz-$750/oz. With a mine life of more than 30 years and reserves of 25 million ounces, I expect the Pueblo Viejo mine to make a considerable contribution in increasing Goldcorp's production at a lower AISC in the coming quarters.

Production expansion

The increased production will help companies meet the rising gold demand. The consumption of gold in the production of jewelry, gold bars, and coins has increased in the first nine months of 2013, year over year globally. Going forward, the demand for physical gold is expected to rise, led by increasing demand in countries like China, India, Vietnam, and Indonesia. The demand for jewelry, gold bars, and coins in these countries constitutes 60% of the worldwide demand.

Gold demand (in tons)

9 months 2013

9 months 2012

Increase

Jewelry

1644.5

1372.7

19.80%

Bar and coin

1252

919.1

36.22%

Source: World Gold Council

Goldcorp is targeting to increase its annual gold output to 4.2 million ounces by 2017, which will be a 75% increase from the 2012 annual output. The increase in production is expected to be met by the completion of various new projects like Cerro Negro project, Eleonore project, and Cochenour project. The company expects the Cerro Negro and the Eleonore project to begin commercial production by late 2014, and the commercial production from the Cochenour project is expected to start by the first half of 2015. Importantly, the company expects these three projects to increase the annual gold production by at least 1.3 million ounces after achieving full capacity.

In order to expand its production base, Goldcorp raised additional debt in March 2013, increasing its total debt from $783 million at the end of 2012 to $2.3 billion at the end of the third quarter of 2013. However, the company's debt position seems to be better than Barrick and Newmont (NEM).

Parameter

Goldcorp

Barrick

Newmont

Total debt to equity

11.10%

113.30%

56.67%

Total debt to assets

7.68%

38.74%

24.39%

Cash flow coverage

0.63

0.29

0.3

As seen above, Goldcorp is operating with a much lower debt compared to its peers. Moreover, its cash flow coverage ratio is higher than its peers are which indicates a better ability to pay off debt obligations. I believe the company is in a better position to raise additional debt to expand its production.

Conclusion

Goldcorp is operating at a much higher AISC compared to Barrick Gold. However, I expect the full capacity production at the Pueblo Viejo mine will help Goldcorp decrease its overall cost of production. Moreover, the company's current capital structure will enable it to continue its expansion plan without facing any financial difficulties. I recommend investors hold onto their positions in Goldcorp.

Source: Goldcorp: A Bumpy Road Ahead