Gold Mining Stocks Q2'19 Fundamentals / Commodities / Gold & Silver 2019

The major gold miners’stocks have soared in recent months, fueled by gold’s decisive breakout to newbull-market highs.  Nothing motivatestraders like performance, so interest in this long-neglected sector has exploded.  While gold stocks’ technicals and sentiment havegreatly strengthened, their just-reported Q2’19 results reveal whether theirunderlying fundamentals support their powerful surge and further upside.

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.

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 $11.8b this week were a staggering 44.0x larger than the next-biggest 1x-long major-gold-miners ETF!  GDX is effectively this sector’s blue-chipindex.

It currently includes 44component 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 94.5% of GDX’s total weighting.  Last quarter they combined to mine 297.6metric tons of gold.  That was 33.7% ofthe aggregate world total in Q2’19 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 essential.

The major gold minersdominating GDX’s ranks are scattered around the world.  20 of the top 34 mainly trade in US stockmarkets, 6 in Australia, 5 in Canada, 2 in China, and 1 in the United Kingdom.  GDX’s geopolitical diversity is excellent forinvestors, but makes it more difficult to analyze and compare the larger goldminers’ results.  Financial-reportingrequirements vary considerably 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 wasmade available, I split it in half for a Q2 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 is essential to see how they are doing.  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 Q2’19 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 but lumped all production into gold-equivalentounces, those GEOs are included instead. Then production’s absolute year-over-year change from Q2’18 is shown.

Next comes gold miners’most-important fundamental data for investors, cash costs and all-insustaining costs per ounce mined. The latter directly drives profitability which ultimately determinesstock prices.  These key costs are alsofollowed by YoY changes.  Last but notleast the annual changes are shown in operating cash flows generated, hard GAAPearnings, revenues, and cash 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.  In Q2’19 theworld’s larger gold miners continued their longstanding struggle againstdeclining production.  Last quarter was anothermajor transition one with this past year’s gold-stock mega-mergers finallysettled out.  They’ve considerably alteredmajor gold miners’ global landscape, ramping concentration risks in GDX.

Since Q2’19 waseffectively the first quarter with those gold-stock mega-mergers complete, wehave to start with them.  In lateSeptember 2018, the world’s second-largest gold miner Barrick Gold rocked thissmall contrarian sector.  It declared itwas buying competitor Randgold in an all-stock acquisition worth $6.5b!  That deal was to make Barrick the world’slargest gold miner, and was finalized in early January 2019.

But Barrick’s arch-rivalNewmont wasn’t willing to lose the pole position, so within weeks it respondedwith a bigger salvo.  In mid-January itannounced it was buying its own major gold miner Goldcorp, which was abouttwice as large as Randgold in gold-output terms!  Size does matter for elite gold-mining executives.  This massive $10.0b all-stock deal wasn’tconsummated until mid-April, encompassing most of Q2’19.

So last quarter was thefirst one where these new bigger and badder gold-mining behemoths dominatedthis sector and therefore GDX.  Understandingthese mega-mergers and their implications is essential for gold-stock traders.  Back in mid-February I wrote a comprehensiveessay explaining these deals and why they were done.  They weredesperate and expensive attempts to mask flagging production at bothgiants.

By the end of 2018, Barrickhad suffered colossal annual production declines in 7 of the last 9 quartersaveraging 12.4% year-over-year!  It hadproven incapable of growing its own operations organically, and thus had toresort to buying more.  While Newmont haddone a far-better job of maintaining its massive gold output, that too shrunkby an average of 5.9% YoY in 2018’s first three quarters.  That trend was concerning.

I doubt Newmont’smanagers would’ve bought Goldcorp if Barrick hadn’t forced their hand.  But seeing their largest competitor gobble upa major gold miner was a shrill wake-up call. New gold deposits that are large enough to support operations at these giants’huge scales are almost impossible to find, and take over a decade to develop.  So buying production is the only way theycan maintain their mining tempos.

But sadly for Barrickand Newmont shareholders, these mega-mergers look like an epic boondoggle!  Both Randgold and Goldcorp were alsosuffering shrinking production as I outlined in that mega-merger essay.  Combining two sets of major gold miners whereall four already struggled to maintain their outputs wouldn’t fix this intractableproblem.  The mergers just mask it, andonly for the first four quarters post-deals.

Narrowly the world’slargest gold miner by market cap, Barrick Gold reported its Q2’19 results onAugust 12th.  Its mega-merger was trumpetedas “building a business that would be a model of value creation for the miningindustry.”  Barrick’s Q2 gold productionrocketed 26.8% higher YoY.  But if Randgold’sfrom Q2’18 is added in to those comparable results, the combined giant actuallysaw a 2.0% YoY decline in output!

The inexorable depletion-drivenshrinkage continues, which will become glaringly apparent when Q1’20 rollsaround after 2019’s four quarters of pre-merger to post-mergercomparisons.  Barrick sure looks to havesquandered $6.5b of shareholders’ capital on four quarters of productiongrowth!  They should have been furious.  If Barrick failed to grow its own output foryears, how can it grow that from Randgold’s mines?

So in these tables theyear-over-year comparisons show the new post-merger Barrick versus the smallerpre-merger Barrick and Randgold combined in Q2’18.  I did the same thing for Newmont andGoldcorp, comparing the newly-merged giant’s Q2’19 results with the total ofboth its predecessors in Q2’18.  It isreally important investors and speculators understand that these gold-miningbehemoths are not growing.

The new NewmontGoldcorp released its Q2 results on July 25th, touting its mega-merger as having“positioned Newmont Goldcorp as the world’s leading gold business for decadesto come.”  And not surprisingly Newmont’squarterly gold production soaring 36.6% YoY looked amazing.  With gold stocks surging with gold in the monthor so before that release, the financial media celebrated Newmont’s hugegrowth.

Yet shockingly when thispost-merger giant’s Q2’19 production is compared to both its predecessors’ fromQ2’18, it actually plunged 8.4% YoY! One-upping Barrick, Newmont’s managers apparently blew $10.0b of their investors’holdings to show four quarters of big trans-merger production growth through Q1’20.  But once Q2’20 arrives, all the comparisons willbe post-merger and the shrinkage will again become apparent.

These new gold-mininggiants are dominating and really distorting their sector.  This week Newmont and Barrick commanded atotal market capitalization of $63.4b, or 28.7% of the GDX top 34’s total!  In terms of GDX weighting, they now accountfor 21.2% together.  That compares to 16.4%in Q2’18 for just the two acquiring companies, and 26.1% for all four majorgold miners.  GDX is very concentrated inthese giants.

Together Barrick andNewmont controlled 30.7% of the total Q2’19 gold production of the GDX top 34.  If either of these colossi stumble in comingquarters hurting their stock prices, GDX will get dragged down with them.  Traders need to realize GDX is more risky andless diversified than it was before these gold-stock mega-mergers.  If you have doubts that Barrick and Newmontcan grow, be wary of owning GDX!

Prior to last quarter,the primary theme of the major gold miners was inexorably decliningproduction.  I’ve discussed it extensivelyin earlier essays in this series, including the ones on Q1’19’s and Q4’18’s results from theGDX top 34.  The gist of their core problemis large economically-viable gold deposits are getting ever-harder to find, andincreasingly-expensive and time-consuming to exploit.  Gold’s scarcity is mounting.

The world has beenscoured for gold for centuries, with the low-hanging fruit long since picked.  Really compounding these challenges, the lowgold-stock prices in recent years left these companies largely starved of capital.  So their exploration budgets cratered,further pinching their pipelines of new deposits to develop into new mines toreplace current depleting ones.  Thus Q2’sproduction growth looked amazing.

Together these elitetop-34 GDX majors reported mining 9.6m ounces in Q2’19, which was up a big 5.6%YoY!  If we could celebrate this as thepotential start of a new production-growth trend, these latest results wouldhave a very different tone. Unfortunately this higher collective gold output is another distortionfrom the mega-mergers.  They combinedfour Q2’18 GDX component stocks into two, making room for two more.

One of the replacementGDX-top-34 components that climbed into these ranks is Harmony Gold, SouthAfrica’s third-largest gold miner.  It shotfrom being GDX’s 44th-largest holding a year earlier to 33rd this week.  Harmony produced 357k ozs of gold in Q2’19now included in the GDX-top-34 total, while none of its was in Q2’18’s.  Excluding it alone collapses the GDX top 34’soutput growth to 1.7% YoY, relatively flat.

The silver miners FirstMajestic Silver and SSR Mining were also newly included, producing 34k and 81k ozsof gold in Q2’19.  Another traditionalmajor silver miner Pan American Silver diversified heavily into gold over this pastyear, buying Tahoe Resources.  So Tahoe’s former gold output not included inthe GDX top 34’s in Q2’18 was added to Pan American’s in Q2’19, which nearlytripled it to 155k ozs last quarter.

Adjust for these newinclusions into GDX’s top-34 ranks, and their total Q2’19 gold production amongthe comparable companies actually shrunk a modest 0.7% YoY!  The major gold miners’ long-vexing growthproblems certainly haven’t gone away.  Andgold-stock investors have long prized production growth above everything else,as it is inexorably linked to company growth and thus stock-price-appreciationpotential.

Sooner or later globalpeak-gold production will be reached, after which it starts declining onbalance as major gold miners fail to find enough new deposits to replace depletingones.  That will leave smaller mid-tiergold miners able to consistently grow their output far more attractive forinvestors than the stagnating larger majors. So the major-dominated GDX isn’t the best way to deploy investmentcapital in this sector.

The production-costfront in Q2’19 highlighted the majors’ challenges.  Gold-mining costs are mostly fixed quarter afterquarter, with production generally requiring the same levels of infrastructure,equipment, and employees.  These bigfixed costs are largely determined during mine-planning stages, when engineersand geologists decide which gold-bearing ores to mine, how to dig to them, and howto recover their gold.

Because these ongoing miningcosts are spread across quarterly production, gold output and unit costs areusually inversely proportional. The richer the gold ores fed through fixed-capacity mills, the more goldproduced.  The more gold produced, the moreounces to bear mining costs which lowers per-ounce costs and thus increasesprofitability.  Q2’19’s slightly-lowergold output should’ve led to slightly-higher costs.

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 Q2’19 these top-34-GDX-component goldminers that reported cash costs averaged $641 per ounce.  Bucking the production trend, this wasactually up a sharp 5.2% YoY from Q2’18’s read!

Neither of the newmega-miners helped, with Barrick and Newmont seeing cash costs climb by 7.6%and 1.1% YoY to $651 and $759 respectively. Dragging the average higher was Peru’s Buenaventura, which continues tostruggle with production issues.  Its goldmined in Q2’19 plunged 22.0% YoY, forcing cash costs up 16.7% to an extreme$930!  Excluding that wild outlier, therest of GDX’s top 34 averaged $630.

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 depleting deposits,mine-development and construction expenses, remediation, and mine reclamation.  They also include the corporate-leveladministration 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.

These GDX-top-34 goldminers reported average AISCs of $895 per ounce in Q2’19, surging 4.6% higherYoY despite slightly-lower production! Those were relatively high absolutely too, the highest seen out of all 13quarters since Q2’16 when I started this deep-quarterly-results researchthread.  Plenty of major gold miners areseeing their own costs rise as their production declines, ratcheting up theindustry average.

$895 certainly isn’t aproblem with gold prices averaging $1309 in Q2’19, enabling hefty profitmargins around $414 per ounce.  But thetrend of rising production costs among the majors leaves them relatively lessattractive going forward compared to their smaller peers gradually loweringtheir costs through higher outputs.  Thisrising-cost trend needs to be watched, as it will retard the majors’ profitsgrowth if it persists.

With gold rocketingback over $1500 in the last couple weeks to hit 6.3-year secular highs, it is easyto assume the gold miners must be thriving fundamentally.  And they likely are.  But realize the lion’s share of the recenthuge gold gains didn’t start until late June when gold decisively broke out to newbull-market highs.  So these Q2 resultsdon’t yet reflect these new higher gold prices. That will come in Q3’s results.

Gold’s lofty $1436average price so far this quarter is a whopping 9.7% higher quarter-on-quarterthan Q2’s!  So the current potential profitabilityof the gold miners post-gold-breakout is far higher than seen lastquarter.  Assuming the GDX top 34’saverage all-in sustaining costs hold flat near $895 this quarter, that impliesQ3 profits running $541 per ounce.  That’sup a massive 30.7% QoQ from what was seen in Q2!

This incredible profitsleverage to gold is what makes gold stocks so alluring during major golduplegs.  Their earnings grow so darned fast,3.2x gold’s advance in this example, that big stock-price gains are usuallyfundamentally-justified.  In Q2’19, GDXaveraged $22.03 per share.  That’s when youshould’ve been buying gold stocks, when they were low and out of favor.  I explained their bullish outlook in earlyApril.

So far in Q3’19 whichis about half over, GDX has averaged $27.32 which is 24.0% higher QoQ.  That is right in line with expected profits growthamong the major gold miners this quarter given the much-higher prevailing goldprices.  So gold stocks’ strong gains inrecent months are likely fundamentally-righteous, supported byunderlying earnings growth and sustainable as long as gold holds over $1436into quarter-end.

The GDX top 34’saccounting results in Q2’19 didn’t match their slight production decline whenadjusted for the mega-mergers.  Interestinglytheir total revenues of $11.0b were dead flat compared to Q2’18’s, despite averagegold prices being 0.2% better.  A materialfactor in the relatively-weak sales was silver, with the GDX top 34 mining 11.3%less than they did in Q2’18.  Miners areincreasingly diversifyingout of silver.

With its price languishingat miserable lows compared to gold for years now, it has been nowhere near asprofitable to mine as gold.  Silver recently started outperforming again after gold’s bull-market breakout, which began to improve precious-metalssentiment.  But silver’s upside will haveto exceed gold’s on balance for years to convince gold miners to investin gold deposits with significant silver byproducts again.

Those $11.0b of salesthe GDX-top-34 gold miners did yielded hard GAAP earnings of $621m in Q2, for apathetic 5.7% profits margin.  Some impairmentcharges contributed, led by Wheaton Precious Metals writing down $166m on astreaming agreement it overpaid for.  Hedgingwas also a factor, as some of these major gold miners lock in future sellingprices.  That’s going to kill theirprofits in Q3 after gold’s surge.

The new monster goldminers had divergent earnings pictures last quarter.  Barrick reported $223m in net profits, 35.9%of the entire GDX top 34’s!  That waswithout any unusual gains either, clean operating results after its second mergedquarter.  Its $869 AISCs contributed,which were a long way below the average gold price in Q2.  That was a vast improvement from Q2’18, whenBarrick and Randgold lost $18m.

The newly-merged Newmonton the other hand reported a $25m loss last quarter, which was also clean withno unusual charges.  Probably thanks tothat $10.0b buyout of Goldcorp, expenses skyrocketed 55.1% YoY despite the flatgold prices!  Shareholders should begetting out the torches and pitchforks. In Q2’18, together Newmont and Goldcorp reported decent profits of $161m.  Did the merger impair that potential?

The operating-cash-flowfront looked much better, with the GDX top 34’s total climbing 10.5% YoY to $3.2bin Q2’19.  Strong OCF generation is essentialto funding future growth, both expanding existing gold mines and adding newones.  Every single GDX-top-34 component reportingOCFs had positive ones, with 18 of those 29 seeing growth despite the flat goldprices.  That’s an encouraging sign forthe majors.

These elite gold minerscollectively reported $10.1b of cash in their coffers at the end of Q2.  While that was down 20.0% YoY, it is still ahealthy treasury.  The gold miners tap intotheir cash hoards when they are building or buying mines, so declines inoverall cash balances suggest more investment in growing future production.  They desperately need to do that to slowtheir depletion inexorably shrinking their output.

Overall the major goldminers of GDX reported a solid Q2’19, which again was mostly before gold surgedin its powerful breakout rally of recent months.  Unless gold collapses in the next 6 weeks, Q3’19results should prove radically better. While the risks of a normal healthy short-term gold correction are highdue to gold-futures speculators’ excessively-bullish positioning,gold-stock fundamentals support higher prices.

A quarter ago when Ipublished my GDX Q1’19results essay, GDX had slumped 1.6% year-to-date and no one wanted to buygold stocks low despite their huge opportunities.  That has sure changed as I forecast it would,with GDX soaring to 34.7% YTD gains as of the middle of this week!  Since traders love chasing winners, goldstocks are way more popular.  GDX definitelyisn’t the best way to own this sector though.

This ETF’s potentialupside is really retarded by large gold miners struggling to grow their production.  So the smart investment capital will seek outthe smaller mid-tier and junior gold miners actually able to increase theiroutputs.  Investing in excellentindividual miners with superior fundamentals has far-greater upside potential.  While some are included in GDX, theirrelatively-low weightings seriously dilute their gains.

To multiply your capitalin the markets, you have to trade like a contrarian.  That means buying low when few others arewilling, so you can later sell high when few others can.  In the first half of 2019 well before gold’s breakout,we recommended buying many fundamentally-superior gold and silver miners in ourpopular weekly and monthly newsletters.  We’ve recently realized big gains including 109.7%, 105.8%, and 103.0%!

To profitably trade high-potentialgold stocks, you need to stay informed about the broader market cycles thatdrive gold.  Our newsletters are a greatway, easy to read and affordable.  They drawon my vast experience, knowledge, wisdom, and ongoing research to explain what’sgoing on in the markets, why, and how to trade them with specific stocks.  Subscribe today and take advantageof our 20%-off summer-doldrums sale!  Thebiggest gains are won by traders diligently staying abreast so they can ride entireuplegs.

The bottom line is the majorgold miners’ just-reported Q2’19 earnings season was solid.  Gold didn’t take off until late June, so theyhadn’t yet materially benefitted from its breakout surge.  With the recent mega-mergers finally settlingout, gold stocks saw slightly-lower production at materially-higher costs.  That hit accounting profits, but operating-cash-flowgeneration was strong.  Higher gold willgreatly improve Q3 results.

That being said, themajor gold miners are still struggling to grow their production.  The mega-mergers will help mask that for oneyear, but the intractable underlying problem persists.  That leaves smaller mid-tier gold miners withsuperior fundamentals much more attractive for future upside potential.  That is where investors should focus theircapital allocations to gold stocks, which should approach 10% in allportfolios.

Adam Hamilton, CPA

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