Miners who will outpace gold prices.
At first glance, the firing of Aaron Regent, Barrick Gold’s CEO, last June seemed unremarkable. The company’s share price had stalled amid concerns around cost overruns at its Pascua-Lama mine in Chile. While his dismissal was abrupt, it appeared to be a simple case of a company shakeup. But take a closer look at the gold sector and you’ll see that Regent’s ouster fits a pattern.
The list of laid-off CEOs is long. Kinross Gold’s Tye Burt, Centerra Gold’s Stephen Lang (he’s now chairman) and Great Basin Gold’s Ferdi Dippenaar are just three of the many gold company executives who found themselves out of a job or kicked upstairs.
Why the turnover? Because for the past few years, many gold companies have nearly run their businesses—and their investors’ equity—into the ground, despite an incredible rise in gold prices. Between 2008 and January 2013, gold prices climbed 82%—yet somehow, over the same period, the S&P/TSX global gold index fell about 15%. Thanks to cost overruns, labour inflation, misguided acquisitions and bad decisions, many gold companies have seen their stock plummet. Barrick’s share price has dropped 33% over the past 12 months. Kinross is down 29%.
The negative news has made the sector cheaper than it has been in years. Vincent Roy, BlackRock’s managing director of scientific active equity, points out that the S&P/TSX global gold index is trading at 16 times earnings, about half of where it traded in 2009. The inexpensive valuations, plus a gradual change in company attitudes, have made this sector attractive again. “We’re coming back to the view that it’s rational to have investments in gold equities,” says Onno Rutten, a precious-metals-focused portfolio manager with Mackenzie Investments.
Three major issues have weighed on gold equities since 2009. The first is that many management teams figured that the dramatic rise in gold prices would insulate them from climbing labour and equipment costs. It also made many overpay for assets. Chris Beer, vice-president and senior portfolio manager of global equities for RBC Global Asset Management, points to Kinross’s $7-billion purchase of Red Back Mining in 2010. It was the biggest deal in the company’s history, but last February it announced a $2.49-billion writedown after finding out that the gold at Red Back’s Tasiast mine was of a lower grade than previously thought.
Capital cost increases have also hurt miners. The inflation rate in the sector, mostly driven by labour costs, is around 15%. That’s destroyed rates of return. “We had thought returns on projects would be between 15% and 30%,” says Beer. “But they’ve come in at close to zero.” Firms’ inability to manage costs has shattered investor confidence. “The market does not trust management expectations on profitably because their production forecasts have been wildly off the mark,” he says.
For the rest of this article, please go to the Canadian Business Magazine website: http://www.canadianbusiness.com/investing/gold-stocks-time-to-shine/