Gold Mining Stocks Fundamentals / Commodities / Gold and Silver Stocks 2019

The major gold minersare grinding higher in a solid upleg, fueling growing interest in this small contrariansector.  They’ve mostly finished reportingtheir fourth-quarter results, revealing how they are really faring fundamentally.  Collectively the world’s biggest gold minerscontinue to face serious challenges, which often stem from declining production.  That makes stock picking more important thanever for investment success.

Four times a yearpublicly-traded companies release treasure troves of valuable information inthe form of quarterly reports.  Requiredby the US Securities and Exchange Commission, these 10-Qs and 10-Ks contain thebest fundamental data available to traders. They dispel all the sentiment distortions inevitably surrounding prevailingstock-price levels, revealing corporations’ underlying hard fundamentalrealities.

While 10-Qs with filingdeadlines of 40 days after quarter-ends are required for normal quarters, 10-Kannual reports are instead mandated after quarters ending fiscal years.  Most gold miners logically run theiraccounting on calendar years, so they issue 10-Ks after Q4s.  Since these annual reports are larger and must be audited by independent CPAs, theirfiling deadlines are extended to 60 days after quarter-ends.

The definitive list ofmajor gold-mining stocks to analyze comes from the world’s most-populargold-stock investment vehicle, the GDX VanEck Vectors Gold Miners ETF.  Launched way back in May 2006, it has aninsurmountable first-mover lead.  GDX’snet assets running $10.6b this week were a staggering 47.1x larger than the next-biggest 1x-long major-gold-miners ETF!  GDX is effectively this sector’s blue-chipindex.

It currently includes45 component stocks, which are weighted in proportion to their market capitalizations.  This list is dominated by the world’s largestgold miners, and their collective importance to this industry cannot be overstated.  Every quarter I dive into the latest operatingand financial results from GDX’s top 34 companies.  That’s simply an arbitrary number that fitsneatly into the tables below, but a commanding sample.

As of this week theseelite gold miners accounted for fully 94.1% of GDX’s total weighting.  Last quarter they combined to mine 300.8metric tons of gold.  That was 35.2% ofthe aggregate world total in Q4’18 according to the World Gold Council, whichpublishes comprehensive global gold supply-and-demand data quarterly.  So for anyone deploying capital in gold orits miners’ stocks, watching GDX miners is imperative.

The largest primarygold miners dominating GDX’s ranks are scattered around the world.  21 of the top 34 mainly trade in US stockmarkets, 6 in Australia, 5 in Canada, and 1 each in China and the UnitedKingdom.  GDX’s geopolitical diversity isgood for investors, but makes it more difficult to analyze and compare thebiggest gold miners’ results.  Financial-reportingrequirements really vary from country to country.

In Australia, SouthAfrica, and the UK, companies report in half-yearincrements instead of quarterly.  Thebig gold miners often publish quarterly updates, but their data is limited.  In cases where half-year data is all that ismade available, I split it in half for a Q4 approximation.  While Canada has quarterly reporting, thedeadlines are looser than in the States. Some Canadian gold miners drag their feet in getting results out.

While it is challengingbringing all the quarterly data together for the diverse GDX-top-34 gold miners,analyzing it in the aggregate to see how they are doing is essential.  So each quarter I wade through all availableoperational and financial reports and dump the data into a big spreadsheet for analysis.  The highlights make it into these tables.  Blank fields mean a company hadn’t reportedthat data as of this Wednesday.

The first couplecolumns of these tables show each GDX component’s symbol and weighting withinthis ETF as of this week.  While most of these stocks trade on USexchanges, some symbols are listings from companies’ primary foreign stockexchanges.  That’s followed by each goldminer’s Q4’18 production in ounces, which is mostly in pure-gold terms.  That excludes byproduct metals often presentin gold ore.

Those are usuallysilver and base metals like copper, which are valuable.  They are sold to offset some of theconsiderable expenses of gold mining, lowering per-ounce costs and thus raisingoverall profitability.  In cases wherecompanies didn’t separate out gold and lumped all production into gold-equivalentounces, those GEOs are included instead. Then production’s absolute year-over-year change from Q4’17 is shown.

Next comes gold miners’most-important fundamental data for investors, cash costs and all-in sustainingcosts per ounce mined.  The latter directlydrives profitability which ultimately determines stock prices.  These key costs are also followed by YoYchanges.  Last but not least the annual changesare shown in operating cash flows generated, hard GAAP earnings, revenues, andcash on hand with a couple exceptions.

Percentage changesaren’t relevant or meaningful if data shifted from positive to negative or viceversa, or if derived from two negative numbers. So in those cases I included raw underlying data rather than weird ormisleading percentage changes.  Companieswith symbols highlighted in light-blue have newly climbed into the elite ranksof GDX’s top 34 over this past year. This entire dataset together is quite valuable.

It offers a fantastic high-levelread on how the major gold miners are faring fundamentally as an industry.  Unfortunatelythey were generally struggling on multiple fronts in Q4’18.  The more quarterly reports I read and data I gathered,the more apparent it became that many if not most of the world’s biggest gold minerscontinue to face serious challenges. That makes GDX itself way less attractive to gold-stock investors.

GDX’s holdings grewmuch more concentrated over this past year, with the top 34’s total weighting risingfrom 90.5% in Q4’17 to 94.1% in Q4’18. That is partially due to increased merger-and-acquisition activitydriven by big gold miners trying to replace depleting production.  For years many have proven unable toreplenish mined gold organically, leaving buyingother companies the only option to maintain mining tempos.

Production has alwaysbeen the lifeblood of the gold-mining industry. Gold miners have no control over prevailing gold prices, their productsells for whatever the markets offer.  Thusgrowing production is the only manageable way to boost revenues, leading toamplified gains in operating cash flows and profits.  Higher production generates more capital toinvest in expanding existing mines and building or buying new ones.

Gold-stock investorshave long prized production growth above everything else, as it is inexorably linked to company growth and thusstock-price-appreciation potential.  Butfor some years now the major gold miners have been struggling to growproduction.  Large economically-viablegold deposits are getting increasingly harder to find and more expensive to exploit,with the low-hanging fruit long since picked.

More and moregold-industry experts believe peak gold is nearing, after which global mine production will start declining.  For many years now new deposit discoveriesand mine builds have failed to keep pace with depletion at existing mines.  So production growth is slowing.  According to the World Gold Council’s latestfundamental data, global mine production only edged 0.8% higher in 2018 comparedto 5.3% in 2013!

GDX’s major gold minersare the biggest in the world, with access to many billions of dollars ofcapital to expand their operations.  Yeteven with those vast resources by his sector’s standards, the top 34 have stillfailed to grow their production.  In Q4’18they collectively produced 9.7m ounces of gold, plunging a colossal 7.5% YoYfrom Q4’17’s 10.5m!  That is shockinglybad, and the root of the major gold miners’ problems.

Total world goldproduction per the WGC merely slipped 0.9% YoY last quarter.  Incidentally that was just the second YoYquarterly decline in the past 32 quarters, adding more fuel to peak-goldtheories.  Across all of them growth averaged2.5% YoY.  Seeing the top 34 GDX gold miners’production plunge at 8.3x the world rate in Q4’18 is very concerning.  Many majorgold miners are stagnating, retarding GDX’s potential.

Just over half of GDX’stop 34 gold miners, fully 18 of them, suffered average production declines of8.9% YoY!  The worst in terms of impact camefrom GDX’s largest component Barrick Gold. GOLD’s gold mined fell 5.8% YoY in Q4’18, representing 1/10th of thetotal drop among the GDX top 34.  Barrickis so desperate to buy production to offset its serious depletion that itrecently purchased major gold miner Randgold.

That deal completed onJanuary 1st, 2019, so GOLD’s Q4’18 results don’t yet reflect it.  Randgold mined 374.6k ounces last quarter,which was actually up an impressive 9.9% YoY. That helps explain some of the big production drop among the GDX top34.  Randgold’s production was includedin the GDX top 34 in Q4’17, but of course its stock no longer exists this week whenI downloaded GDX’s current component list.

Adding Randgold’s Q4’18production in cuts the GDX top 34’s production decline to 3.9% YoY.  Going the other way and instead removing itfrom Q4’17’s total leaves the top 34’s mined gold down 4.4% YoY.  But that’s still much worse than that overall0.9% YoY decline in global gold mine production last quarter.  As I explained in depth in a mid-Februaryessay, gold-stock mega-mergers won’t solve this depletion problem.

Before Q4’18, Randgoldsuffered 4 quarters in a row of falling production averaging declines of 7.4%YoY.  Barrick’s quarterly production hasfallen for 6 quarters in a row, averaging hefty 13.4% YoY drops!  Merging depleting major gold miners together doesn’tmagically boost their collective production. It just masks production declines for a single year, the first 4 quarters comparing post-merger results withpre-merger ones.

Once those great cross-mergerYoY comparisons pass, the relentless depletion in both companies’ gold mineswill quickly become apparent again.  Thelarger any gold miner, the harder it is to grow and even just maintainproduction levels.  Because explorationbudgets largely collapsed since 2013 when gold plunged and crushed gold stocks,the global pipeline of bigger economic gold deposits to mine has mostly driedup.

GDX’s top-two componentshave always been Barrick Gold and Newmont Gold. This week together they accounted for 19.5% of its total weighting and awhopping 28.0% of the top 34’s total Q4’18 gold mined!  Had Barrick’s and Randgold’s merger beenconsummated in Q4, GOLD’s production would’ve soared over 1.8m ounces.  Newmont didn’t want Barrick to surpass it, soin January it announced it was buying Goldcorp.

GG produced 630k ouncesof gold in Q4, which will be added onto Newmont’s production going forward oncethis deal is done.  Had Newmont andGoldcorp been together in Q4’18, this gold-mining behemoth would’ve producednearly 2.1m ounces!  Those levels arestaggering, and will really increase these two mega-miners’ dominance over this sector and GDX.  These mergers’ pro-forma impact on GDX ismassive.

Using Q4’s numbers,Newmont and Barrick would’ve accounted for a colossal 38.8% of the GDX top 34’sentire gold mined including Randgold. Their collective weighting in this leading gold-stock ETF would shoot over a quarter.  So the overall GDX future performance will bemore dominated by Newmont and Barrick than ever before.  If they can’t grow production from such stratosphericlevels, they’ll retard GDX’s upside.

With gold depositsincreasingly harder to discover, and taking even longer to get permitted andbrought into production at ever-higher costs, the biggest gold miners are goingto find it impossible to even maintain their outputs.  Any production growth is going to come fromsmaller gold miners, and their stocks will soar to reflect it.  Unfortunately the impact on GDX will bemuted, since its weightings are tyrannized by the giants.

Kirkland Lake Gold hasbeen one of the best-performing gold stocks over this past year.  In 2018 its stock rocketed 69.9% higher asGDX fell 9.3%!  The reason investorsflocked to KL is it has rapidly grown its gold output, which soared 38.8% YoYin Q4’18.  That greatly boosted itssales, operating cash flows, and profits. More gold produced spreads out the big fixed costs of mining across moreounces, amplifying earnings.

No matter how awesomeKL’s management has proved, such production growth was only possible from arelatively-low base.  KL produced 167kounces of gold in Q4’17, compared with around 8x that from each Newmont andBarrick.  The biggest gains in gold-stockprices won’t come from super-major-dominated GDX, but from smaller mid-tiergold miners.  Investors will continue to prizeand richly reward production growth.

Peak gold is likelybearish for the largest gold miners that drive GDX.  Capital inflows from investors will wanealong with their shrinking production.  Butlower gold mined supply on balance going forward is wildly bullish for the mid-tier and junior gold miners growingtheir production!  The resulting highergold prices will catapult their profits and thus stock prices far higher,attracting investors fleeing the struggling majors.

The only way to reapthese massive gains is directly investingin the best individual gold miners. Their fundamentals are far superior to their sector’s as a whole.  While buying GDX is easy, the lion’s share ofthat capital is funneled into the major gold miners with slowingproduction.  Their underperformance will diluteaway any outperformance among mid-tier miners in this ETF, leading to way-inferioroverall gains.

Given the sharply-lowergold production by the GDX top 34 in Q4’18, per-ounce mining costs should’verisen proportionally.  Gold-mining costsare largely fixed quarter after quarter, with actual mining requiring the samelevels of infrastructure, equipment, and employees.  So the lower production, the fewer ounces tospread mining’s big fixed costs across.  Theseelite gold miners indeed reported highercosts last quarter.

There are two majorways to measure gold-mining costs, classic cash costs per ounce and thesuperior all-in sustaining costs per ounce. Both are useful metrics.  Cashcosts are the acid test of gold-miner survivability in lower-gold-priceenvironments, revealing the worst-case gold levels necessary to keep the minesrunning.  All-in sustaining costs showwhere gold needs to trade to maintain current mining tempos indefinitely.

Cash costs naturallyencompass all cash expenses necessaryto produce each ounce of gold, including all direct production costs, mine-leveladministration, smelting, refining, transport, regulatory, royalty, and tax expenses.  In Q4’18 these top 34 GDX-component goldminers that reported cash costs averaged $655 per ounce.  That was up a sharp 9.1% YoY, among thehighest quarterly cash costs seen in years.

That still shows themajor gold miners face no existential threat as long as gold stays over $650,which is about half current levels.  And Q4’s cash costs are artificially high dueto two anomalies.  Buenaventura and Heclaboth reported cash costs rocketing to extremes of $1627 and $1048!  Excluding these outliers, the rest of the GDXtop 34 averaged cash costs of $598, which was right in line with Q4’17’soverall $600 read.

Way more important thancash costs are the far-superior all-in sustaining costs.  They were introduced by the World GoldCouncil in June 2013 to give investors a much-better understanding of what itreally costs to maintain gold mines as ongoing concerns.  AISCs include all direct cash costs, but thenadd on everything else that is necessary tomaintain and replenish operations at current gold-production levels.

These additionalexpenses include exploration for new gold to mine to replace depletingdeposits, mine-development and construction expenses, remediation, and minereclamation.  They also include thecorporate-level administration expenses necessary to oversee gold mines.  All-in sustaining costs are themost-important gold-mining cost metric by far for investors, revealing goldminers’ true operating profitability.

The GDX top 34 goldminers reported average AISCs of $889 in Q4’18, up 3.6% YoY.  That is inversely proportional to the 4%ishYoY drop in their gold production when Randgold is accounted for.  While $889 is the highest seen since at leastQ2’16 when I started doing this quarterly research, it is still roughly in linewith the past four quarters’ averages of $858, $884, $856, and $877.  And like cash costs this is skewed high.

Buenaventura and Hecla alsoreported anomalous super-high AISCs of $1485 and $1582.  Excluding them, the rest of the GDX top 34averaged much-lower all-in sustaining costs of $837 per ounce in Q4’18.  So much to their credit, the major goldminers are ruthlessly managing their costs as their production slumps.  That’s bullish for their coming earnings growthas gold continues grinding higher in this bull market.

Gold-mining profitsreally leverage higher gold prices, and big earnings growth attracts ininvestors to bid up stock prices.  In Q4’18gold averaged about $1228 per ounce.  At theGDX top 34’s average AISC of $889, that implies the major gold miners as anindustry were earning profits of $339 per ounce.  Those are going to grow considerably this quarter.  The almost-over Q1’19 has seen average goldprices near $1303.

AISCs are likely todecline from Q4’s high levels in this current Q1, but let’s assume they remainstable at $889.  That implies the majorgold miners are earning about $414 per ounce this quarter.  In other words a mere 6.1% quarter-on-quarterrally in average gold prices could drive a major 22.1% QoQ jump in the majorgold miners’ profits!  That’s why majorgold stocks tend to amplify gold uplegs by2x to 3x or so.

It is encouraging thegold miners’ costs remain well-positioned to fuel big profits growth in ahigher-gold-price environment despite their intractable production slumps.  Investors love chasing earnings growth, which is looking to be scarce in the general stockmarkets this year.  The good gold miners’stocks are likely to see big capital inflows as gold continues climbing,driving them and to a lesser extent GDX higher.

Unfortunately the hard accountingresults in Q4’18 were far worse than AISCs. Q4’18’s average gold price was 3.8% lower year-over-year, which combinedwith the 4%ish-lower gold production including Randgold among the GDX top 34 toreally weaken financial performance. Overall quarterly revenues among these elite major gold miners fell10.3% YoY to $12.8b.  Operating cashflows amplified that drop.

Total OCFs among these GDXstocks collapsed 30.4% YoY to $3.7b in Q4’18. That means less capital available to finance mine expansions and newmine builds, exacerbating the production struggles.  Yet overall corporate treasuries fared relativelybetter with a 14.6% YoY decline to total cash balances near $12.1b for allthese miners.  All this was understandable,but hard GAAP accounting profits were atotal disaster.

Warren Buffett oncefamously joked about airline stocks, saying he would’ve done investors a hugefavor if he could’ve shot down the Wright brothers’ maiden flight in 1903 killingthat whole industry before it was born. His point was the airlines neverearned profits over the long-term, so they weren’t worth investors’ time.  The major gold stocks’ Q4 losses made it looklike they could never earn any money either, terrible.

Last quarter the top 34GDX gold miners, the biggest and supposedly best in the world, lost a staggering$6.0b collectively!  That compared to relatively-minortotal losses under $0.1b in Q4’17.  At$1228 gold the major gold miners should’ve been earning solid profits.  Yet they were hemorrhaging money in an accountingsense fast enough to make drunken sailors blush.  So what the heck happened in this sector?

The problem was colossal non-cash impairment charges,gold miners writing down the value of mines on their books for a variety ofreasons.  These were mainly lowerforecast gold prices reducing the economic reserves at those mines.  While an accounting fiction, these perceivedlosses must still be flushed through income statements when they are believedto happen.  The list of impairments disclosedin quarterlies was long.

GOLD reported about $1.1bin impairment charges in Q4’18, AEM $390m, AUY $151m, AG $168m, and the listgoes on.  But the writeoff king lastquarter was Goldcorp, reporting an inconceivable$4.7b in impairment charges across multiple mines!  Newmont’s offer for Goldcorp valued its minesmuch lower than their carried book value, forcing GG to write off the enormous differencesin what may be its last solo quarter.

Together Barrick andGoldcorp wrote off $5.8b in assets in Q4’18, 97% of the GDX top 34’s total GAAPlosses last quarter!  This is yet anotherreason gold-stock mega-mergers are bad news for thisentire sector.  They give the managementsof these giant gold miners cover for flushing away what were likely poor pastdecisions in allocating capital.  Smallerminers focused on fewer mines seem to suffer fewer impairments.

I’ve extensivelystudied and actively traded gold-mining stocks for decades now, and theselatest writeoffs seem really fishy.  Majorimpairments are understandable in years gold plunges sharply, like 2013 when itplummeted 27.9%.  That really changes theeconomic assumptions underlying the value of gold mines on balance sheets.  But 2018 saw nothing like that, with goldslumping a trivial 1.6%.  Big impairments made no sense.

While the average goldprice slumped 3.8% YoY in Q4’18, that isn’t even material.  And in full-year terms, 2018’s average goldprice was actually 0.8% higher YoY.  Hugewritedowns on a flat gold year don’t look righteous at all.  Gold-mining-company managements have a seriouscredibility problem with gold-stock investors, and pulling stunts like thisworsen it.  These guys need to startmanaging for their shareholders.

The major gold miners’Q4’18 results were disappointing overall. Huge sky-is-falling impairments along with sharply-lower production drivingmuch-weaker sales and operating-cash-flow generation sure made GDX look like aniffy investment at best.  Offsetting thatnegativity somewhat was good control over their all-in sustaining costs, whichonly moved modestly higher and would’ve fallen without a couple anomalousreads.

The key takeaway here is avoid GDX.  The world’s leading gold-stock ETF is increasinglyburdened with giant gold miners struggling too much fundamentally.  Their high weightings within this ETF arecertain to retard its future performance. It’s far better to deploy capital in great smaller individual goldminers with superior fundamentals.  Plenty of these companies are included in GDX,but have relatively-low weightings.

GDX’s little-brother ETFGDXJ is another option.  While advertisedas a “Junior Gold Miners ETF”, it is really a mid-tier gold miners ETF.  Itincludes most of the better GDX components, with higher weightings since thelargest gold miners are excluded.  Iwrote an entire essay in mid-January explaining why GDXJ is superior to GDX, andmy next essay a week from now will delve into the GDXJ gold miners’ Q4’18results.

Back in essentially thefirst half of 2016, GDXJ rocketed 202.5% higher on a 29.9% gold upleg in roughlythe same span!  While GDX somewhat keptpace then at +151.2%, it is lagging GDXJ more and more as its weightings aremore concentrated in stagnant gold mega-miners. The recent big mergers are going to worsen that investor-hostile trend.  Investors should buy better individual goldstocks, or GDXJ, instead of GDX.

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The bottom line is the majorgold miners are still struggling fundamentally. Their production shrinkage is accelerating, pushing costs proportionallyhigher.  That led to weaker sales andoperating cash flows in Q4.  Andaccounting profits cratered into a dark abyss on enormous and suspicious impairmentcharges by big gold miners involved in mega-mergers.  These poor results are retarding GDX’s upsidepotential.

But smaller mid-tierand junior gold miners with superior fundamentals are bucking this trend toenjoy big stock-price gains.  They arestill able to grow production off way-smaller bases, boosting their earningsand attracting investment capital.  They willcontinue amplifying gold’s uplegs, multiplying wealth for their contrarian investors.  Gold-stock upside potential remains hugeoutside of the increasingly-problematic majors.

Adam Hamilton, CPA

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