Will Miners Shut Down at Gold Prices Under $1,200 per ounce?
Gold prices have declined from a September 2011 high of over $1,900 to a recent price of around $1,200. In aggregate, bullion holdings in gold ETPs declined from 2,632.5 tons to 1813.3 tons over the course of last year.
With rapidly declining gold prices and record outflows from bullion held in gold (GLD) ETPs, notably the SPDR Gold Trust, many have asserted that miners will be shutting down and that a 'supply shock' will arise.
Much has been written about this prospect of a looming gold supply shortage of late.
However, while we believe this is partially right, it is mostly wrong:
- Although many gold miners have all-in sustaining costs in excess of $1,200 per ounce, they will not discontinue operations unless gold prices fall substantially lower than this
- Rather, gold prices less than $1,200 all-in sustaining costs will stunt the development of new gold mines, reducing future supply of gold 5-10 years down the road; an immediate supply shock is not expected
- However, in the short term, gold prices must fall below the operating 'cash cost' per ounce to cause miners to cease operation (or go bankrupt, in the case of those with weak balance sheets)
- It is the junior miners, rather than the senior producers, which are likely to shut down if gold prices continue to slide
Explanation Of The Rationale
'All-in sustaining costs' per ounce may be in the $1,200 to $1,400 range for many major gold producers (let's say for example $1,200), however this does not mean that gold producers will immediately discontinue operations when gold prices are below $1,200:
Rather, miners will stop developing *new* mines with projects with an anticipated all-in sustaining cost per ounce of over $1,200.
For a mine already in operation, the cash costs per ounce (i.e. COGS) is the relevant consideration. This is lower than all-in sustaining costs.
For example, if all-in sustaining costs are $1,200 per ounce, cash costs might be $800 per ounce (depends on capex)
In these cases, since the mine has already been built; the capex has already been expended, so they might as well continue to produce unless the price of gold declines to an extent to which it would actually be unprofitable to mine an incremental ounce.
At What Price Will Miners Shut Down?
Most major gold miners have cash costs between $500 and $800 per ounce:
Intermediate and junior producers tend to have higher cash costs (with some exceptions), and run the risk of going bankrupt in this gold price environment.
Note as well that there may be variations with how these operating or 'cash costs' are calculated, such as by-product vs co-product, and what costs are attributed directly to the operations.
What Does This Mean for Gold Miners?
Most senior gold producers enjoy lower cash costs than their smaller "junior" counterparts: Senior gold producers front-end load their cost structure by spending more money (in the form of capex) developing large, technologically complex mining projects. This leaves them with (relatively speaking) lower operating costs per ounce.
Poor capital allocation decisions which led to ballooning mine development capex costs are in the past. The mines are already built, and it makes sense to continue producing until the price of gold is less than the cash cost.
So while enduring gold prices which are less than the all-in sustaining costs for miners don't bode well for the companies, the major producers are unlikely to shut down operations until/unless gold prices fall to levels under $800 per ounce.
For smaller gold producers with marginal mines exhibiting high cash costs (sometimes in excess of $1,200), the situation is far more dire. Some of these mines have only option value in the current gold price environment.
Many of them will go bankrupt. These companies also tend to have less cash resources and less capacity to access the capital markets to raise the funds they need to maintain some level of operation (i.e. to keep the lights on, so to speak).
- Most major miners will not shut down operations until gold prices are under $800 (or possibly $900, as cash costs are rising)
- It is at this gold price < cash cost point at which each incremental ounce of production would create a larger loss than not producing at all (ignoring mine-closure expenses)
- Gold prices under the all-in sustaining costs of $1,200 - $1,400 per ounce will curb the development of new mines, which will effect the supply of gold many years down the road
- Some smaller miners and those with higher cash-costs per ounce will become unprofitable (on an operating basis) at gold prices between $800 - $1,200 per ounce (some already are)
- These high-cash cost miners will be the first to shut down operations
One final aside: it is also important to consider some other important factors influencing gold prices and gold supply:
- Gold ETPs still contain the better part of a year's worth of global gold production: This can compensate for slowing global gold production in a falling gold price environment, because falling gold prices tend to cause gold ETP holders to sell their holdings of the ETP. The gold held on their behalf then gets sold into the market
- The paper gold market (derivatives) is far larger than the physical gold market, and it can affect gold prices more than supply and demand factors, particularly in the short term