Yamana Gold (AUY) has just announced major news: the company is selling its Chapada mine to Lundin (OTCPK:LUNMF) for a total consideration of over $1 billion. The news is very material, so let's immediately get to the details of the transaction.
The compensation that Yamana will receive in exchange for its Chapada is the following:
- $800 million in cash.
- Additional cash payments of up to $125 million based on the price of gold over the five-year period from the date of closing.
- $100 million payment contingent on the development of a pyrite roaster at Chapada by Lundin.
- 2% net smelter return royalty on gold production from the Suruca deposit.
The gold price-linked payment will require higher gold prices: $10 million per year for each year over the next five years for average prices over $1350/oz, $10 million per year for each year for average prices over $1,400/oz, and $5 million per year for each year over $5 million for average prices of $1450/oz. I'd note that these targets are realistic, but they imply gold starting a new material uptrend following years of range-bound trading:
On the other hand, any longer-term investment in gold equities with a time frame of, say, five years hardly makes sense if the investor does not see gold prices over $1,400/oz on a five-year horizon.
Thanks to the transaction, the company is going to increase the annual dividend by 100% to $0.04 per share and purchase up to 5% of the outstanding common shares on Toronto Stock Exchange and New York Stock Exchange. At ~$2.50 per share, Yamana Gold will have to spend roughly $120 million. The company finished the fourth quarter with about $100 million of cash, so investors should expect gradual purchases rather than a concentrated buying effort.
Besides the dividend, the company plans to increase exploration efforts to deliver organic growth and to prioritize balance sheet improvements. With $1.76 billion of debt at the end of the year 2018, Yamana Gold has rather material leverage, and will certainly feel more comfortable when debt decreases.
Source: Yamana Gold press release
Following the deal, Yamana Gold expects a flat production profile for the following years. The emphasis is obviously being put on free cash flow generation, dividends, stock buyback and deleveraging. Interestingly, the company issued a presentation in which it admitted that Chapada needed substantial capital just to maintain gold production, a major problem for the industry where a significant portion of the so-called "growth" capital is de-facto "sustaining" capital:
Source: Yamana Gold presentation
Yamana's move follows the general trend this year - miners try to reassure investors that they will not bury millions of dollars underground and will prioritize shareholder returns. Previously, IAMGOLD (IAG) announced the decision not to proceed with the construction of Cote Gold project while Eldorado Gold (EGO) decided against building Kisladag mill.
The original market reaction to the news is negative. However, I view Yamana's move as a step in the right direction. It is obvious that the industry can no longer rely on die-hard gold bugs to bid gold miners' shares up. The gold price has been trading in a range for too long, and many investors are obviously turning to other sectors in search of growth opportunities. This situation has been exacerbated by gold miners themselves, which, as an industry, have generally been poor stewards of shareholders' capital as evidenced by the stock price charts of many miners.
In this situation, the industry needs to focus on shareholder returns, and such a focus implies dividends and stock buybacks. In this light, Yamana Gold's decision is a conceptually correct move. Should the current weakness persist, shares will become increasingly interesting for a speculative rebound play.
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Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in AUY over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I may trade any of the above-mentioned stocks.