Why Goldcorp May Climb 40% Higher

| About: Goldcorp Inc. (GG)

Fitch Ratings has recently announced that it is maintaining the 'BBB.' Issuer Default Rating [IDR] of Goldcorp (NYSE:GG). The rating on the $862.5 million senior unsecured convertible notes and the $2 billion senior unsecured revolving credit facility was reaffirmed at 'BBB,' and the rating outlook was kept at Stable.

Fitch commented that Goldcorp had substantial reserves and the lives of its mines were impressive. Of importance is the fact that the results are located in geographical areas where the geopolitical risk is believed to be low. The rating agency is inclined to agree with the observation that the company is one of the lowest cost producers of gold in the world. The company is committed to organic and inorganic growth in the long term, which will benefit shareholders. The company's liquidity is satisfactory, and it has cash and cash equivalents of $1.4 billion as at the end of March 2012. In addition, the credit line of $2 billion that is set to expire in 2016 is completely untouched. As a result of substantial capital expenditure, Goldcorp may become cash flow negative in 2012, but will return to positive cash flows by the year 2014.

To briefly recap, Goldcorp had reported results that disappointed the market for the first quarter of 2012. The adjusted EPS was $.50 per share against a consensus estimate of $.54 a share. There was an 11% growth in year on year revenue to $1.35 billion but this was short of the consensus estimate of $1.46 billion. Net income dropped by 26% to $479 million (59 cents a share) against $651 million (82 cents a share) in the same quarter of the previous year. Goldcorp is among the leaders in the industry, and it is expecting to increase production by 70% over the next few years. Growth is expected to be favorable because of the expectation of rising gold prices in the long term, the high quality of its reserves and its leadership low-cost position. In addition, Goldcorp has no long-term hedges on gold prices and will therefore receive the full benefit of rising prices.

In order to understand something about gold stocks in general and Goldcorp in particular, it is necessary to have some kind of understanding about the gold markets. It is true that an investment in gold would have given you a nice return over the past couple of years, and recent reports would indicate that many investment advisors are extremely bullish about the future trends in gold prices. In difficult economic times, gold is often regarded as a safe haven investment, and that is why the price of gold is negatively correlated to the US dollar.

There are basically two ways in which you can take advantage of rising gold prices. The first is to invest directly in gold, for instance, with a gold ETF. The second is to invest in gold stocks on the presumption that they will benefit, and you would be awarded with the capital appreciation. However, the primary driver of gold prices has not been the US economy, which is usually the case, but the uncertainties in the Euro zone countries. In fact, gold prices are likely to be volatile until investors can see some stability in Europe. Not until matters in Europe have been resolved, and the world economy returns to some kind of growth, will this volatility stop.

If gold is booming, all the companies in the industry would do well, even though some will do better than others. Let us take a look at some of Goldcorp's competitors for both comparison and assessment. The recent coup in Mali has probably impeded the progress of Randgold Resources (NASDAQ:GOLD), but things seem to have come back to normal, so that there may be no effect on the industry as a whole. Newmont Mining (NYSE:NEM) might be having second thoughts about the proposed Conga mine in Peru because of the high cost of dealing with environmental concerns. It seems to me that Barrick Gold (NYSE:ABX) has its own fair share of problems, because it is just sold off its stake in Highland Gold Mining (HGM). Either Barrick requires some quick cash or it has decided to place more emphasis on its copper business. Finally, AngloGold Ashanti (NYSE:AU) has lately become popular because it is rumored to be a favorite stock of billionaire John Paulson, though it is in the same league as Goldcorp.

Let us now take a look at Goldcorp in terms of its investment potential. There has been some downward pressure in the past on its stock price as a result of the poor handling in public relations of its cleanup problems at the Marlin mine in Guatemala. The problem has been complicated by Amnesty joining in to demand that the company pay for all cleanup costs.

Goldcorp has made several smart moves to shore up its bottom line. For instance, the acquisition of the Cero Negro project is showing immediate results, despite the price of $4 billion. Earnings multiples for gold mining companies are all over the place, and, though Goldcorp is not the cheapest, it represents value for money because of its operating efficiencies and its low-cost production. The operating margins, though not the highest, compare favorably with its peers.

You should also note that the stock prices of gold mining companies have lagged significantly behind the increasing price of gold. After all, if the entire industry is going to boom, it makes eminent investing sense to buy the lowest cost producers. It is unlikely that the bull run in gold is going to run out of steam very soon and this alone would, in my opinion, justify a buy recommendation on Goldcorp stock. On the other hand, if you are diffident about the future prospects of gold, there is no harm in waiting and watching while holding on to your existing investment. There will still be profitable opportunities for investing after a clear trend has been established. I expect Goldcorp to climb to the mid $50s on a bull run in gold.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.