Shares of Barrick Gold (NYSE:ABX) fell about 1% after-hours after the company reported slightly disappointing quarterly results. Much of Barrick's future is out of its control as it cannot control the price of its main product, gold (NYSEARCA:GLD), which is one of the most heavily traded commodities in the world. With mild inflation and fears of another global crash relatively low, much of the bull case underpinning gold has not materialized, and the metal seems trapped under $1,350 per ounce. Barrick can only be so profitable with gold so low. Moreover, I believe the Federal Reserve will start raising rates next year, which increases gold's opportunity cost. Gold generates no cash, which doesn't matter in a low-rate environment, but as yields rise, that lack of cash flow is an increasing drag on the gold price. Additionally, countries like India, which are major gold purchasers, have instituted capital controls to protect their currency, further hitting demand for the precious metal.
Given this environment, it is really unsurprising that gold has been unable to break out. Unfortunately, Barrick was caught up in the hype of 2005-2010 when gold soared to record highs and acquired high-cost mines at excessive valuations. With gold falling, many of these mines are no longer profitable, forcing Barrick to take $11.5 billion in asset write-downs in 2013. In the most recent quarter, Barrick took another $514 million impairment, this one relating to a copper project (all financial and operating data available here). Barrick has compounded the problems of a soft market by previously buying assets for an inflated price.
Adjusting for the non-cash impairment, Barrick earned $0.14 in the quarter while analysts were looking for $0.16. Revenue of $2.43 billion was in-line with estimates but was down by 24% year over year due to output cuts and lower realizations. Gold production came in at 1.485 million ounces while I was hoping for 1.5 million. Still, ABX did maintain its full year guidance of 6-6.5 million ounces. Barrick has also been high-grading its mines. In other words, it is mining in the higher quality areas that are cheaper while costs are low to maintain profits in the hopes prices will rise eventually, making more expensive areas profitable again.
As a consequence of this strategy, all-in sustaining costs were $865 per ounce, and it expects full year costs to be $900-$940, which is much better than previous guidance of $920-$950. Thanks to lower costs, I now expect Barrick's all-in cash margin to be about $2.37 billion. Now, Barrick did cut its cap-ex guidance by $200 million, but it is still a large $2.2-$2.5 billion. With $800 million in interest but with some proceeds from asset sales, Barrick's free cash flow will finish right around the flat-line for the year.
Now, Barrick at some points need to generate significant free cash flow if it wants to meaningfully pay down its $13.1 billion debt, which is another unfortunate legacy of ill-timed expansions. With debt to equity of 81% and debt to cash margin of 5.5x, Barrick is still a highly levered entity and needs to see gold consistently sell for more than $1,400 to generate the cash flow necessary to de-lever. Fortunately, Barrick carries $2.5 billion in cash and has $4 billion in an undrawn credit facility. Meanwhile, total maturities through 2017 are only $1 billion. Put simply, Barrick has plenty of liquidity to ride out low gold prices. Barrick faces no near term liquidity problems.
Owning Barrick with its debt load is essentially a levered play on gold. If gold prices stay low for a decade, Barrick could face problems rolling over debt or being consistently free cash flow positive. Conversely, if gold resumes its prior run and moves back above $1,500, Barrick will generate over $800 million in free cash flow. One's opinion on gold is the investment driver for Barrick, which is just a levered play on the metal. With mild growth, rising rates, and low inflation, I do think gold will be tame for at least the next 12-18 months and would wait for shares to trade to $17 before pulling the trigger. At $17 (about 15x earnings), I think Barrick is worth buying, given its liquidity and the longer-term potential for inflation or a major geopolitical problem.
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