Silver Wheaton: Still Waiting for the Growth

Silver Wheaton (SLW) has released their 2nd quarter results and they look a lot like the first quarter, flat earnings! When I wrote about the Q1 results I noted the company had been level at 9¢ to 11¢ per share earnings for several quarters and this quarter they made a field goal at 10¢ per share.

Listening to the conference call gave me a little more of a warm fuzzy about SLW. A non-cash charge reduced the net income by $5 million or about 5¢ per share. This charge, as I understand it, is against future income tax benefits and will never affect the actual cash flow of the company. Actual silver sales were also flat from 2007 and Q1 at 2.9 million oz. As silver sales so far this year have totaled 5.7 million oz. company management has reduced their guidance for 2008 sales from 15 million oz. down to 13 million oz. This is still 7.3 million oz. for the remaining two quarters of 2008, a 28% improvement on the first half of the year. From what I read and hear, I am a little skeptical they will hit the new lower number.

There are some positives for the slightly more distant future. Silver Wheaton inked 8 new contracts for future silver streams durning the second quarter, a couple of which will start shipping silver immediately. Also, Goldcorp’s (GG) Peñasquito mine is just starting to ship silver. This mine is expected to reach 8.5 million oz. of annual sales for SLW (someday!). SLW management is projecting 25 million oz. of silver sales in 2010.

My conclusion is: Silver Wheaton has a unique business model that should yield tremendous cash flow at some point in the future. The prospects for higher silver prices is just a silver lining to their model. At this time I am looking for the quarterly silver sales to bust out of the 3 million oz. per quarter range they have been in for the last 6 quarters. Until then this will be a trading range stock based on silver prices and market rumors. I would be very interested in the stock if it settles down to around $12 or lower, LEAP options could be an aggressive option.

Disclosure: I currently have no position in SLW.

Comments

[Greg Pinelli:]

My thinking runs alkong the lines of yours..SLW hs a unique business model..it's hard to argue management bloat with 4 employees....The upside that's hard to quantify on a silver proxy is the really low risk involved.
I've traded in and out of SLW and done respectably well...I think waiting for $12 is a stretch...below $13 and I always jump in!

2008 Jul 30 08:06 PM

[GMiki1:]

$12 is a stretch because silver will be going up soon.

2008 Jul 30 08:18 PM

[Marc Courtenay:]

Thanks for the clear, concise analysis and insights on their quarterly results and management comments. Your projections sound realistic.

2008 Jul 30 10:02 PM

[User 30121:]

Agree with GMiki...silver (and Gold) going UP VERRRRRRY SOON!

2008 Jul 31 08:57 AM

[Tom Szabo:]

If SLW can leverage the price of silver in the long term, it has yet to prove it. Owning SLV with none of the company risks has been a superior investment during the past couple of years (the same goes for just about every silver producer as well).

In any case, I don't think it makes sense to view SLW on an EPS basis--the prevent value of the assets on a discounted cash flow basis seems more appropriate. If we assume 25 million ounces annual production for 40 years (to match the 1 billion or so ounces in silver resources across all categories), $1 billion up front cost, $4/oz. cash cost and some long term silver price, and a risk free rate, we can get a pretty good picture of the investment merits. For example, let's use $15 silver and 5% interest rate, an Excel formula might be: =PV(0.05,40,-275,0)-10... The result is $3.7 billion. SLW basic market cap today is around $2.9 billion. Thus, the market seems to value some assumption less positively compared to these assumptions.

Is it the discount rate? The long term silver price? Annual production? Life of mine? Or likely some combination. Regardless, I find this simple method superior to analyzing EPS. One reason is that SLW financial performance is directly related to the price of silver, which will fluctuate from quarter to quarter.

Another advantage of PV is the ability to demonstrate leverage. For example, let's switch the long term silver price to $20. The Excel formula now gives us a present value of $5.8 billion. Thus, a 33% rise in silver price gives us a 56% rise in PV of SLW's assets (to be presumably matched by a similar rise in SLW share price). If we use $30 silver, we get $10 billion in PV, so a 100% rise in silver price gives us a 170% rise in SLW's PV. If we do this using a bunch of silver prices, what we see is that SLW should generate around 70% leverage to any rise (or fall) in the price of silver. One would need to determine for themselves if this is sufficient to warrant the risk that one or more of the mines providing the silver stream could falter or shut down, thus reducing the amount of silver produced for the benefit of SLW. Maybe the best way to use the PV would be as a buy and sell signal when SLW price reaches an extreme by comparison. The necessary info to build a historical model is available for each quarter end, which isn't a lot of data points but it would still be interesting to see what it says. Maybe if I get some quiet time I'll try to put something together and post it.

2008 Jul 31 02:53 PM

[au trader:]

nice review, axis. I'm using $50 silver in my equation. : )

2008 Jul 31 11:31 PM

[Tom Szabo:]

Using $50 silver isn't a bad idea, at some point that will be a floor for the silver price. Assuming such price level is the result of rampant inflation, one can't emphasize enough how powerful SLW's business model is compared to silver miners whose cost structure will rise along with silver prices. My only concern in that scenario is that SLW's business model might actually be TOO GOOD in that depriving the mines who sold silver streams to SLW of the full market price of silver by-product could actually bankrupt them.

LOL, I just noticed a classic Freudian slip in re-reading my prior comment: "PREVENT value"!!! My side hurts from laughing too hard!

2008 Aug 01 12:23 PM

[Paul Lopez:]

Something is up, there is 25,000 open interest at the 15 Sept call. There was a large trade last week.

2008 Aug 03 10:16 PM

[Arty:]

At what silver spot price would Silver Wheaton be threatened to extinction by these large mining companies who provide the silver to SLW, going out of business because of extraction costs, heavy equipment, diesel prices, etc...???

Any guesses?

2008 Aug 07 06:54 PM

[Bob'29:]

Yesterday was the day: SLW bounced off of its low of 9.50. Is that below$12.00 enough to be interesting? What is the per ounce price now and what was it a year ago? Is there a web site source for this info? Thanks.

2008 Aug 12 02:44 AM