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These Mid-Sized Gold Producers Are Facing Serious Trouble

By Matt Badiali, editor, S&A Resource Report
Wednesday, July 10, 2013

In late 2010, Aura Minerals was a thriving, $950 million mid-sized gold miner...
 
Today, it's a tiny, $26 million "junior" mining company.
 
It has lost 97% of its value in the last three years. The company didn't fall because of a giant fraud or major disaster. The problem that took Aura down was the bull-market mentality.
 
And that same problem is destroying value in dozens of larger gold stocks.
 
In my last two essays, I showed you how lower gold prices are crushing profit margins at major gold miners and how those gold miners are admitting their projects aren't worth what they once thought.
 
The problem is that during the run higher in gold prices, miners made incredibly stupid acquisitions. They bought properties that were expensive to mine. The market's mood in 2010 was simple: Grow at any cost. Gold is going higher...
 
Aura, for example, was wrapping up its acquisitions of two new mines in 2010. Those mines would more than double its gold production.
 
But those gold mines were expensive... incredibly expensive. In 2012, Aura's three gold mines produced 173,000 ounces of gold at a cost of $1,352 per ounce. Today, those mines lose nearly $150 for every ounce produced.
 
That's not a business I want to be in.
 
Investors began bailing out of Aura ages ago. It was so small that it was easy to see trouble coming. Bigger gold-mining companies can hide poor assets behind good ones. But I think we'll see some of them meet a fate similar to Aura's. Let me show you...
 
Here's a table of a few mid-sized gold producers that are in serious trouble...
 
Company
2012 Gold Production
High-Cost Production (%)
High-Cost Reserves (%)
Average High-Cost Production Price
African Barrick (ABG.L)
630,000 oz.
33%
16%
$1,058 per oz.
AngloGold Ashanti (AU)
3.9 million oz.
30%
28%
$1,113 per oz.
Harmony Gold (HMY)
1.3 million oz.
50%
33%
$1,115 per oz.
Source: Metals Economic Group and Bloomberg

This table came from a list of the highest-cost producing gold mines around the world. I defined "high cost" as gold production over $1,000 per ounce. In other words, mines with profit margins under 20% at the current gold price. I took that idea one step further and determined how much of the companies' reserves were high-cost, too.
 
The three gold miners listed above stand out because at least 30% of their current production is high-cost.
 
If the price of gold continues its decline, the companies will have to consider closing their mines. It's better than operating at a loss... But Harmony and AngloGold Ashanti already face political pressure to keep their South African operations open.
 
Even if the price of gold covers the cost of operating these mines, they still might end up unprofitable... For example, African Barrick spent $400 million building its Buzwagi project. It costs about $1,018 to produce an ounce of gold from Buzwagi. At the present gold price, the mine must produce 2 million ounces of gold to cover its cost.
 
That means 75% of its lifetime production will go toward repaying the original investment.
 
And African Barrick isn't alone. Its parent company, Barrick Gold, has a giant gold mine called Pierina that is in the same boat. Pierina cost over $260 million to build. But its gold costs $1,156 per ounce to produce. At the current gold price, it would take more than 3.2 million ounces of gold to pay it off.
 
The thing is, Pierina only has a little more than half a million ounces of gold reserves on the books.
 
This is a theme we'll see play out if the gold price continues lower... even if it holds at this price.
 
And this isn't just something for investors who own specific stocks. Harmony and AngloGold Ashanti make up 7% of the popular Market Vectors Gold Miners Fund (GDX).
 
Big gold miners might not drop 97% like Aura did. But they can go lower from here.
 
Good investing,
 
Matt Badiali




Further Reading:

Last year, Matt told readers what the big gold miners were getting themselves into... Over the last decade, he wrote, "an investment in gold bullion performed 30% better than the largest gold miners in the industry." If you don't understand why, "you could be making a huge mistake..." Read more here: A Scheme Even the Biggest Gold Miners Are Running.
 
In a recent episode of S&A Investor Radio, Frank Curzio asked mining expert and fund manager Marin Katusa when he thought the crash in resource stocks would come to an end... and what he's waiting to see before he jumps in. Katusa agrees that investors should stay away from gold stocks... and suggests another major resource to buy instead. Listen to the episode (or read the transcript) right here.

In The Daily Crux
Market Notes
The U.S. dollar index breaks out to a three-year high as investors prepare for less stimulus.
 
"Stealth" biotech boom continues... the Nasdaq Biotech Index is up 33% so far in 2013.
 
Insurance stocks are quietly booming... Prudential and MetLife surge 31%-plus in the past three months.
 
"Offense" sector keeps soaring... fresh highs for Lockheed Martin and Northrop Grumman.
Market Watch
Symbol Price
Change
52-Wk
S&P 500 1588.23 -2.5% +17.2%
Oil (USO) 33.60 -3.4% +10.2%
Gold (GLD) 123.44 -5.5% -20.9%
Silver (SLV) 18.96 -8.0% -30.5%
U.S. Dollar 81.82 +0.6% +0.5%
Euro 1.32 -0.7% +3.9%
Volatility (^VIX) 21.16 +27.2% +22.7%
Gold Stocks (^HUI) 225.51 -8.5% -50.1%
10-Year Yield 2.42 +4.8% +47.6%

World ETFs
Symbol Price
Change
52-Wk
Israel (ISL) 14.40 -4.0% +19.4%
Japan (EWJ) 10.72 -4.3% +18.7%
USA (SPY) 159.14 -2.6% +19.5%
Singapore (EWS) 12.35 -5.9% +4.8%
Taiwan (EWT) 12.74 -3.9% +6.3%
India (IFN) 18.18 -4.6% +4.2%
Canada (EWC) 26.37 -3.5% +2.3%
Russia (TRF) 13.30 -4.0% -1.7%
China (FXI) 32.23 -4.1% -4.8%
S. Korea (EWY) 51.25 -4.0% -7.5%
Lat.America (ILF) 35.30 -4.3% -14.5%
S. Africa (EZA) 53.57 -5.2% -17.7%

Sector ETFs
Symbol Price
Change
52-Wk
Construction (PKB) 18.97 -3.9% +44.0%
Media (PBS) 20.52 -2.9% +43.3%
Financials (IYF) 70.10 -2.5% +29.7%
Defense (PPA) 24.39 -2.0% +31.1%
Health Care (IYH) 98.63 -2.7% +27.6%
Consumer Svcs (IYC) 100.26 -2.7% +25.3%
Biotech (PBE) 27.70 -3.4% +22.9%
Industrials (IYJ) 82.60 -2.5% +24.1%
Retail (PMR) 30.06 -3.1% +23.2%
Water (PHO) 21.72 -2.7% +21.6%
Alt. Energy (PBW) 5.14 -4.5% +16.5%
Transportation (IYT) 109.61 -2.3% +17.9%
Insurance (PIC) 19.01 +0.1% +18.3%
Telecom (IYZ) 25.15 -2.3% +16.3%
Software (PSJ) 29.43 -2.8% +12.1%
Big Tech (QQQQ) 70.88 -2.6% +11.4%
Nanotech (PXN) 6.78 -2.7% +7.5%
Semis (PSI) 15.81 -2.6% +7.5%
Basic Mat (IYM) 68.50 -3.2% +6.6%
Real Estate (IYR) 63.46 -4.2% +4.3%
Utilities (XLU) 36.39 -3.0% +2.4%

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