By Tim Plaehn
For investors who are looking to add gold exposure to an investment portfolio, there is a range of gold price focused investment choices. In a brokerage account investors have the option to buy exchange traded funds - ETFs - which hold gold bullion and directly track the price of gold, or to buy shares of gold mining companies. Of the gold mining company stocks, Goldcorp (GG) is often viewed as one of the best investment choices.
Historically, when the price of gold increased significantly, the share prices of gold mining stocks would go up at an even faster rate. The reason was that mining companies were considered to be a leveraged bet on the price of gold. As an example, if a mining company's costs were $300 per ounce and the price of gold climbed from $400 to $500, profits for the mining company doubled, while the price of gold climbed by 25%. With that type of profit growth, the gold company's share price should also increase faster than the price of gold. Another perceived advantage of mining stocks over direct gold investment is the ability of a mining company to reinvest profits to increase gold production and produce growth even if the price of gold is flat or rising very slowly.
In recent years, the gold mining company stocks have lagged significantly behind the rising price of gold. Over the last five years, the price of gold is up about 150% and an index tracking the major gold mining stocks - the NYSE Arca Gold Miners Index - has only gained about 15%. There are several theories why the share values of gold mining companies have lagged the price of gold during the last five years as gold has run up from the $700 per ounce range to the current $1,700. One theory is that the expenses incurred by the mining companies to explore for and find new reserves have increased faster than the profits generated from higher gold prices. Another reason could be the popularity of the gold bullion ETFs since the first one was issued in 2004. Billions of investment dollars which could have gone to gold mining companies have instead been invested in the easier to understand gold bullion ETFs. Less demand for mining stock shares means less share price appreciation.
Goldcorp has been one of the better performing gold mining stocks. Over the five year window, the Goldcorp share price has gained almost 60%, four times better than the average gold mining stock as indicated by the miners stock index. Goldcorp, mines in politically low risk countries like Canada, Mexico, Chile and Argentina, with 80% of the projected 2012 production coming out of North American mines. The company's gold reserves have increased by 50% over the last five years including an 8% increase in 2011.
2011 was a breakout year for Goldcorp. Net income per share increased by 55% to $2.22, up from $1.43. Operating cash flow increased by $1 billion to $2.9 billion and the cash margin increased to $1,349 per ounce, up from $966. Gold production was 2.51 million ounces, compared to 2.46 million in 2010. In spite of these very good financial results, the Goldcorp share price is 9% below where it started out in January 2011.
Comparing Goldcorp to some competing gold miners, in 2011, Newmont Mining (NEM) generated a 9% increase in cash from continuing operations on a gold cash margin of $1.068 per ounce. Barrick Gold (ABX) reported an adjusted operating cash flow increase of 8% with net cash costs to produce gold about $90 per ounce higher than the costs reported by Goldcorp.
Goldcorp has at least five new mining projects which will start producing gold in the next several years. The company forecasts production will increase by 70% over the 2011 production level by 2016. Production for 2012 is forecast to be 260 million ounces, up 3.5% from 2011. The Wall Street consensus earnings estimate for 2012 is $2.46 per share, up from earnings of $2.22 in 2011. For 2013, Goldcorp is forecast to earn $3.38 per share.
The share value of Goldcorp has definitely lagged the price of gold, and the company's strong 2011 results plus the projected production growth for the next five years indicates this stock has the potential to strongly outperform the market price of gold. Investors must realize the shares of gold mining stocks are influenced by both the price of gold and investor sentiment about the sector and company results. Poor financial performance by other gold mining companies could hold down Goldcorp's share value. A decline in the price of gold would be a definite negative, with the share price probably declining faster than the metal price. With discussion of these negatives covered, there is a strong possibility that gold will again resume its upward price trend, first breaking $2,000 per ounce, and $2,500 is not out of the question, over the next few years. Under this scenario, Goldcorp, with its rapidly expanding production, could be a double or triple in five years, compared to a 20% to 50% gain in the price of gold.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.