As the government fails to address unsustainable entitlement spending, gold is not only a safe haven against inflation but also an asset well positioned to appreciate. In this article, I will run you through an operating model on Goldcorp (GG) and then triangulate the result against Freeport (FCX) and Barrick Gold's (ABX) fundamentals. I find that Freeport and Barrick are more substantially discounted right now (click here for 3 good reasons to buy Freeport).
First, let's begin with an assumption about the top-line. Goldcorp finished FY2011 with $5.4B in revenue, which represented a 43.5% gain off of the preceding year. I model a 11.1% per annum growth rate over the next half decade or so.
Moving onto the cost-side of the equation, there are several items to consider: operating expenses, capital expenditures, and taxes. I model cost of goods sold as 51% of revenue versus 4.3% for SG&A, 1.2% for R&D, and 31% for taxes. We then need to subtract out net increases in working capital to get free cash flow -- the true measure of returns to capital providers. I estimate that net increases in working capital will hover around 1% over the explicitly projected time period.
Overall, I find that the company does not have enough free cash to justify an investment over competitors Freeport and Barrick. Free cash flow of $689K would also not justify the current valuation if it were to grow $100M per year over the next six years.
All of this falls within the context of Freeport's strong cash position and increased dividend distribution:
"We ended the quarter in a strong financial position. Our consolidated cash totaled $4.5 billion, which exceeded our total debt of approximately $3.5 billion. During the quarter, we sold $3 billion of senior notes in 3 tranches with a weighted average interest rate approximating 3%. We used the proceeds to reduce higher cost debt. We redeemed the remaining $3 billion of our 8.375% senior notes and will generate interest cost savings associated with this transaction of $160 million per year.
In February of 2012, our board authorized an increase in our common stock dividend to an annual rate of $1.25 per share, with the first quarterly dividend at the higher rate to be paid on May 1 to shareholders of record on April 13".
From a multiples perspective, Freeport and Barrick are also cheaper than Goldcorp. Freeport trades at a respective 9.5x and 7.3x past and forward earnings, versus 9x and 6.9x for Barrick and 17.9x and 11.8x for Goldcorp.
Consensus estimates for Barrick's EPS forecast that it will grow by 3.6% to $4.84 in 2012, grow by 23.6% in 2013, and then fall by 6.4% in 2014. Assuming a multiple of 10x and a conservative 2013 EPS of $5.94, the stock would hit $59.40 for 46.1% upside.
Consensus estimates for Freeport's EPS forecast that it will decline by 16.7% to $4.03 in 2012 and then grow by 29.8% and 1.3% in the following two years. Assuming a multiple of 10x and a conservative 2013 EPS of $5.19, the stock would hit $51.90 for 36.1% upside. Combined with the 3.3% dividend yield, Freeport is not only an income play, it is a value play.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
