Sunday, November 22, 2009

Big Gold: Acquire or Acquiesce
In the Gold mining world as in life, Darwin’s law of survival of the fittest holds true. The large Gold mining companies (which we shall refer to as “Big Gold” hereinafter) need to continue growth in order to survive. Big Gold needs to replace their mined out resources in order to continue their existence and to grow.
Bull Market for Precious Metals
The up trend for the precious metals has accelerated recently with a spat of supportive news. In September 2009, the gold bugs were buzzing with the news that China was pushing their citizens to invest in precious metals as detailed here. Then on November 4th, 2009, the Indian central bank reveals a surprise purchase of 250 metric tons of Gold bullion from the International Monetary Fund as related here. Finally on November 12, 2009 in Vietnam, which had restricted imports of Gold in mid 2008, the local price had climbed to a $60 premium from the global spot price, before the government relented. All these events are indicators that the marketplace fervour for Gold is hot and getting hotter. It is interesting that these events are all happening on the Asian side of the world, but that is another tale to be told at another time.
These events are a few of the drivers behind the precious metal prices climbing higher. Supported by the rising gold price, the valuations of the Big Gold companies are rising close to their record highs. The time draws nigh for Big Gold to make some moves, armed with the valuations of their stock price.
Gold Production Reduces Reserves
For the average investor, it is a little known fact that acquisitions for Big Gold are a way of life. As the mines of the Big Gold companies extract the gold from the ground, the reserves or amount left to be mine, has to be replenished. For example, the world’s largest gold miner, Barrick (ABX), extracted 7.8 Million ounces of the precious metal in 2008. This is a very large figure, and for an idea of the size, this could represent 7 smaller gold companies, each with 1 million ounces of Gold reserves each. For the Big Gold companies the task of replenishing their mined reserves, is a lot more difficult than you can imagine.
Depleting Resources
As Big Gold extracts the gold from their mines, they need to replace them with an equivalent amount in reserves. In order to maintain the support of their investor public, Big Gold needs new reserves to shore up their financial ratios such as their market capitalization per gold reserve ounce. This need drives the Big Gold companies in their search for acquisition of smaller rivals with good reserve ounces in order to add the numbers back into their balance sheet.
Peak Gold
Similar to the idea of “Peak Oil”, there is a slow realization of “Peak Gold”. Worldwide production of the precious metal has been on a downtrend since 2003 as described by analyst Scott Wright. Some factors driving this downtrend are the depletion of resources at existing mines, mining production expenses climbing higher and just plain expensive access to new mining resources. The low-hanging fruit of easily discovered, easily accessible and low cost mines are gone. See the chart below for the graphic display of the trend downwards.

Figure 1: Global Gold Production in Downtrend. Note the peak in 2003 and the trend downwards since. Source:
Other factors such as mine operating expenses have climbed drastically. Eskom, the South African power utility have announced a 150% price increase in electricity for South African mines. The Gold companies reactions are the closure of their uneconomic mines. For example, Harmony just announced the planned closure of some of their high cost and low productivity mines.
Just on November 16th 2009, a research scientist announced the startling finding that 90% of South Africa’s Gold reserves, just are not available for mining. The president of Barrick Gold, Aaron Regent, the world’s largest producer, publicly stated on November 11, 2009 "There is a strong case to be made that we are already at 'peak gold. Production peaked around 2000 and it has been in decline ever since, and we forecast that decline to continue. It is increasingly difficult to find ore.
Gold Exploration
Big Gold companies are not the right organizations to discover new prospective mines. They are too large and too focused on production details just to keep their investors happy. The job of finding new gold deposits is best left to the small and nimble junior exploration companies. The acquisition of newly discovered and profitably mined deposits is a much better and lower risk route for the Big Gold companies.
The Big Gold Suitors
Following is a table listing of an odd bakers dozen of the world’s largest pure precious metal miners ranked by market capitalization. They are valued by the share price as of November 20, 2009.

* Source:
Table 1: Largest Gold Miners in the World. They are listed by Market Capitalization. Note Newmont does not give Resources information.
This table of the largest Gold miners in the world is quite an eclectic collection as the valuations given by the markets are not directly attributable to a standardized metric, it is merely a snapshot at a particular time in an irrational marketplace. Note the relative high valuations for Goldcorp and Agnico-Eagle for their mines in politically safe Western hemisphere jurisdictions. Note also, the penalties given for Gold Fields and Harmony for their expensive mines in risky South Africa.
The most pressured Big Gold companies are those that have high production numbers that they need to replace in their reserves. From this listing, one conclusion that may be drawn is that the most driven suitors are the three Big Gold companies of Barrick (ABX), Goldcorp (GG) and Newmont (NEM). A fourth company is Kinross (KGC), which has a history of multiple acquisitions for growth.
The Magic of Accretive Ounces
On November 16, 2009, Goldcorp announced a friendly acquisition, “Goldcorp buys Canplats for $238-million”. The main target of the buyout was Canplats’ Camino Rojo Gold project, which is only 30 miles southeast of Goldcorp’s Penasquito mine in Mexico. Analyzing this simplistically by only considering the Gold reserve ounces available, the $227 Million USD is paying for 1.7 Million ounces of gold reserves (ignoring the inferred resources), which works out to $133 USD per ounce.
Then with the magic of accretive values, Goldcorp is valued at a market capitalization of $32 Billion based upon the 46 million ounces of reserves that it owns, which works out to $695 USD per Gold reserve ounce. Goldcorp just purchased Gold reserve ounces at $133 USD each and by just owning them, they become worth over five times more! Granted there are more variables to the calculations such as Silver resources and capital costs to bring the mine to fruition. However, the main point is that the reserve ounces belonging to Canplats are worth five times more in Goldcorp’s pocket.
Acquisition Frenzy Coming
Fortunately for the Big Gold companies the timing is just right presently, as the recent precious metals bull market has endowed Big Gold with a hefty war chest. So armed by their soaring stock price, the Big Gold Walruses are going shopping for Junior Gold Oysters.
“The time has come,” the Walrus said, “To talk of many things … Now if you're ready, Junior dear, We can begin to feed.” *

* apologies to Lewis Carroll, “Through the Looking-Glass and What Alice Found There”, 1872
Disclosure: The writer does not hold any positions in Barrick (ABX), Goldcorp (GG), Newmont (NEM) or Kinross (KGC).

Marco G. November 15, 2009
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The information and opinions contained within this document reflect the personal opinions and views of the author and should be view as information for thought and entertainment only. The author may from time to time have a position in any of the securities mentioned. Any material within should not be construed as accurate or reliable or be utilized as advice for investment or business purposes. Independent due diligence and discussions with one’s own investment and business advisor is strongly recommended. There are no guarantees of the accuracy or completeness of the information contained herein. These writing are not to be construed as an offer or solicitation with respect to the purchase or sale of any security or as an endorsement of any product or service. We do not receive or request compensation in any form in order to feature companies in this publication. It is prohibited to copy or redistribute this document to any type of third party without the express permission of the author. This document may be quoted, in context, provided proper credit is given.

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