The Gold Report: We're about 1.5 years into the Obama administration's multi-trillion dollar bailouts and expansion of the Fed balance sheet to $2.3 trillion from about $800 billion. What are your thoughts on that?
John Doody: I think it's a bailout that continues with $1 trillion-a-year deficits as far as the eye can see. There's no end to it; unless we get some significant tax increases and/or spending cuts, there's no hope to ever to pay down the debt. The best hope is to get the economy growing faster than the debt so that, as a percentage of GDP, the debt level shrinks.
TGR: Do you agree with the administration's fiscal policies?
JD: Oh, yeah. I really don't know where we'd be if we didn't undertake all these remedies from the Treasury side on the deficit side, as well as the Federal Reserve side. The mess that this economy was in as a result of the Wall Street and housing collapse continues. You go by a strip mall here in South Florida with 10 stores, and at least one or two are empty. Almost 10% of workers are still without jobs. I was surprised to read that about 11% of all prime mortgages—these are the best mortgages—are either in foreclosure or delinquency. People are hurting.
TGR: How do you see all of this affecting the gold market?
JD: Everything that's being done creates inflation. You don't really care if somebody gives you a $1,000 government bond as payment for a debt or $1,000 cash. They're equivalent. We're creating a tremendous amount of money trying to get the pump primed to get the economy moving, but it's obviously a very difficult task.
TGR: You mentioned inflation and, in your last interview with The Gold Report, you said: "Bernanke and the Fed are pursuing a loose monetary policy with a 0% interest rate. There's actually no way we cannot end up in inflation." We're starting to see signs of it now. How is gold going to act in an inflationary environment and, perhaps, even in a hyperinflationary environment?
JD: Gold's going up now; it's going to go up more. One of the uses of gold is to protect your purchasing power from inflation, and it's done a damn good job! It always drives me crazy when these talking heads on TV talk about gold now vs. $850 in 1980. They say, "Oh, look where it's gone!" It's gone nowhere. That was a one-day high. The next day the gold price was $738. More important is to look at the gold price from when it was set free in 1968. It was fixed at $35 for over 30 years. If you just took that $35 from March '68, and I did in a recent issue of the Gold Stock Analyst, and adjusted it by the Consumer Price Index (CPI), gold would have grown from $35 to about $225. That's your inflation protection; everything above $225 all the way up to the current price and the next $1,000—that's all investment gains. From '68 to the present, gold had had an 8.6% compound annual growth rate that was 4.4% above the inflation rate for the period.
TGR: But you hold gold equities, and you don't hold bullion. In the last market crash, everything crashed—even the gold equities.
JD: That's true. The reason that I hold gold equities is because you get better leverage to the gold price. We always have to remember that while the stocks are derivatives of gold, they are stocks first. If the buyers disappear for stocks, they disappear for gold stocks too. But when they come back, they come back with a vengeance. In 2009, the gold price was up 28% and the XAU was up 37% but the Gold Stock Analyst's Top 10 was up 130%. That's the leverage you can get from owning the right stocks.
TGR: Congratulations on being up 130%.
JD: We're up 1,000% for the last decade.
TGR: That's impressive.
JD: Investors in exploration stocks got killed in the 2008 crash. There were no fundamentals underneath those stocks. All the stocks I cover are producers or very near producers. We know there's something there, so we're not just arm waving over some drill results. That's one of the things that makes Gold Stock Analyst unique: We don't cover the exploration stocks because I'm not a geologist. I can't interpret drill results. I want data. I want data that you can analyze and that's productions and reserves.
TGR: In a recent issue of Gold Stock Analyst you said: "As we're in a bull market underpinned by negative real interest rates, loose monetary policies and exploding government deficits, it's best to keep riding the bull and don't let it throw you off." How high can the bull ride through the end of 2011?
JD: First we've got to understand what the real interest rate is. That's the risk-free return on money, such as short-term U.S. Treasuries. The U.S. Treasury can't default. They can always print more dollars and give them to you. I like to use 90-day T-bills. Or you can use savings-account rates, which are about 0.1%. It's trivial. If you have in a savings account or in 90-day Treasuries and you start the year with $100, at the end of the year you're going to end up with $100 plus 0.1% interest. But if inflation is 2%, the money is going to buy you only $98 worth of goods. When real interest rates are negative, and people can't get positive return on their money by putting it in the bank or risk-free situation, they naturally flock more to gold to protect the purchasing power of their money. Gold has been a sanctuary in monetary crises and inflation for centuries. In the 2000s, Chairman Greenspan lowered the Fed Funds rate to 1% and the inflation rate has generally been higher. That's why gold has done so well.
TGR: What gold price will we be looking at through the end of this year and 2011?
JD: Well, I'm not a guy who predicts the gold price because my philosophy is I can find value at any gold price. I'm just looking at the next $100 ahead. People who predict $1,500 or $2,000 or $5,000 are foolish because there's no basis for that. I don't doubt gold will get to those levels, but I have no idea when. I find undervalued stocks now and profit as Mr. Market discovers them. So, if gold does nothing, we can still profit. If gold goes up, then we've got two ways to profit.
TGR: Alright, how long do you think gold's bull run will last?
JD: I think it's got a lot longer to run because the negative real interest rate environment is going to run a lot longer. When's the Fed going to raise interest rates significantly? They can't raise them now. We've got almost 10% of the country unemployed and that much, again, underemployed. So, until the economy gets going, we're not going to see any real change.
TGR: What about holding bullion vs. equities?
JD: The reason the stocks give you more leverage than physical gold is because all of the ounces are yet to be mined. Typically, a gold mine is going to have 10 times or more reserves in the ground than what they're producing in the current year. If a company is producing one million ounces a year and the gold price goes up by $1, that dollar falls right to the bottom line. That's $1 million more in profits. But because they've got 10 million ounces still in the ground, those ounces are now worth $10 million more than before. That's what gives you the leverage that owning bullion just doesn't give you. If you own bullion and gold goes up $1, your coins are worth $1 more. No big deal.
TGR: Let's talk about some gold equities, starting with the majors: Barrick Gold Corp. (TSX:ABX; NYSE:ABX), Newmont Mining Inc. (NYSE:NEM) and Goldcorp Inc. (NYSE:GG; TSX:G).
JD: Goldcorp is a Gold Stock Analyst Top 10 stock. Barrick is not, though there's nothing wrong with the stock now that they bought back their hedge book.
TGR: Please explain that deal.
JD: What Barrick spent to buy back its hedge book was more than all the profits it earned over the whole time the company was hedging. Ultimately, its average hedge delivery price was about $400/oz. They bought back the book at about $1,100/oz., so it cost them $6 billion. That offset all the earnings they ever had from hedging. It was a lousy strategy for a rising gold market. That's not a reason not to like Barrick. I think it's definitely a blue chip company—great management, great bunch of projects.
Barrick's producing around 7.8 million ounces (Moz.) of gold a year. They've got three great projects coming online that they're going to have to fund. These projects are going to require about $8 billion worth of capital. They're going to deliver about maybe 3 Moz. more a year, but the $8 billion is a lot of money to come up with.
One is Pascua-Lama. It straddles the Chile/Argentina border at 16,000 ft.; two is Cerro Casale also at 16,000 ft. in Chile; and third is Donlin Creek, of which they own half in Alaska. The problem there is we don't know if it's going to get permitted. They've got a partner, NovaGold Resources Inc. (NYSE.A:NG;TSX.V:NG). How they'll raise their half of the $4+ billion of capital needed for Donlin Creek we don't know. It might be possible for Barrick to get a bigger percentage of Donlin Creek by helping NovaGold with the capital cost. Great company, but not a Gold Stock Analyst Top 10.
TGR: And Newmont?
JD: I don't have anything against Newmont; also a great company. It had a change in management style. They're not looking for growth. There's sort of flat production over the next few years at around 5.5 Moz./year. What they're looking to do is maximize cash flow, which is a good objective, but we don't know what they're going to do with the cash flow. Are they going to use it for acquisitions or are they going to raise dividends? I think it's best to invest in growth. Barrick's going to give some growth. I think Newmont, by not giving growth, may be penalizing investors unless they start paying out a dividend higher than the current $0.40.
The third one you listed, Goldcorp, pays a smaller $0.18 dividend but it's got growth. It's the only miner growing from an intermediate stage. Right now it's the largest intermediate at 2.6 Moz./year with a cash cost at around $300. It's growing to 4 Moz./year and a cash cost at around $300. That's a cash cost that really is better than anybody else's in the business. They have that because of the big copper byproducts. They seek out mines that have a copper byproduct.
The nice thing about Goldcorp is it's all self-funded. The mines are in the pipeline. You can see how the new mines are going to come online. Beyond that are projects they're working on but are not yet in the development pipeline. Those are going to add another one million ounces a year. Goldcorp could be a 5 million ounce producer by the end of this decade.
TGR: In the June issue of the Gold Stock Analyst, you raised your short- and long-term target prices for Golden Star Resources Ltd. (TSX:GSC), Golden Queen Mining Co., Ltd. (TSX:GQM), Northgate Minerals Corp. (TSX:NGX; NYSE:NXG) and Terrane Metals Corp. (TSX:TRX). Can you tell us about those decisions?
JD: Both Golden Star and Northgate are highly leveraged to the gold price. They both have high cash costs of about $600/oz. We do this target price analysis that incorporates gold price, proven and probable reserves, the recovery percentage, the cash cost per ounce, number of shares outstanding, debt, capital costs to build mines and the stage of production a company is in. Is it at feasibility stage, in construction or in production? All these are incorporated into our nifty formula and the formula told us that Golden Star's and Northgate's target prices should be raised because gold had increased to $1,200/oz. The increases weren't big; they were about $0.50 a share, but type of adjustment can happen regularly. We incrementally raise or lower target prices as information comes available as part of our ongoing analysis.
We raised the target price on Terrane because they did an equity financing. Terrane's got 6 Moz. of proven and probable reserves, fully permitted and ready for development in British Columbia. Those ounces are now selling for $60/oz. Gold is $1,200, and you can buy their ounces at a 95% discount, making Terrane pretty interesting. The only fly in this ointment is it has to raise the money to build the mine. It did a $100-million financing and has enough equity to be able to move forward over the next year. The bigger financing is likely going to come from an Asian smelter, as it's a copper/gold project and somebody like Mitsubishi Corp. (TK:MC) or Sumitomo Metal Mining Co. Ltd. (STMNF:US) is going to end up buying 25% of it for $250 million or something like that. Plus, Caterpillar Inc. (NYSE:CAT) will finance $100 million over their equipment. There'll be some development loans. There'll be some project debt. Low and behold this time next year, they'll be in construction. But, at this point, the stock's only selling at around $1 and there's some uncertainty as to how all this is going to shake out. That's what creates the opportunity. We raised our price on their success raising $100 million in equity, which they did at $1.10.
TGR: What would it take for Goldcorp take Terrane out?
JD: Goldcorp owns about 53% of the company. Frankly, it was my expectation that they would take out Terrane. But at decision time, they had the opportunity to buy El Morro and beat Barrick to the punch for about the same amount of money, roughly $500 million. I still think there's a possibility that Goldcorp will buy out Terrane. It's got everything that Goldcorp wants—6 Moz. in a politically safe location and a negative cash cost per ounce due to the copper byproduct. It may take Sumitomo saying: "Alright, we're going to buy 25% interest in the mine." Will Goldcorp let that happen, or do they want the whole mine to themselves?
TGR: In your last interview with The Gold Report, you mentioned several royalty companies including Franco Nevada Corp. (TSX:FNV), Royal Gold Inc. (NASDAQ:RGLD; TSX:RGL) and Silver Wheaton Corp. (NYSE:SLW; TSX:SLW). Please update us on those.
JD: I love the royalty model. It's not one that a lot of investors know about or understand. Typically, royalties are generated in two ways. When a property is sold, the seller gets either cash or shares upfront; and they'll often take back a residual royalty. Sometimes it's a percentage of profits, which is not the best royalty. The best is a percentage of sales.
A great example of royalty transaction was Kennecott (a subsidiary of Rio Tinto Ltd. (LSE:RIO; NYSE:RTP; AUS:RIO), the original owner of Peñasquito in Mexico. Goldcorp is developing that property into a twin mill mine. One 50,000 ton/day mill is in production and the second will be in full production this summer. It's a polymetallic mine that, over its 20+ year life will average 500,000 oz./year of gold, 30 Moz. of silver and about 400 million pounds (Mlbs.) of zinc and lead. That's huge production.
At current prices, the revenues from Peñasquito will be about $1.6 billion annually. Kennecott sold that property to Western Silver Corporation (TSX:WTC; NYSE.A:WTZ), which was acquired by Glamis Gold (NYSE:GLG), and then Glamis was acquired by Goldcorp. The 2% NSR royalty that Kennecott initially kept was sold to Royal Gold for $100 million about three or four years ago, and will now generate $32 million a year in royalty income at current prices. Because Royal Gold has issued only 50 million shares, that's roughly $0.60 a share. That's going to continue as long as the site is producing, which is probably going to be another 30 years.
Royal Gold has another royalty that comes online in August from Teck Resources Ltd. (NYSE:TCK; TSX:TCK.A; TCK.B)'s Andacollo copper/gold mine in Chile. which was originally and open-pit oxide mine. As mining went deeper, the ore turned more sulfide and they had to build a mill to process the sulfides. Teck was in financial trouble in 2008, when the markets crashed, and had to sell a gold stream to Royal Gold for roughly $260 million in order to build a mill to keep getting the copper. They effectively sold Royal Gold 40,000 oz. gold a year out of Andacollo at no cost per ounce. So 40,000 oz. times $1,200 oz. is $48 million a year. That's almost $1 a share for Royal Gold starting in August.
My target for Royal Gold is a double from here. It's about $50 now. They have a history of paying out 20% of their earnings in dividends. I can easily see at current prices a $5-a-share royalty income stream, which could be $1 a share in dividends. You look at any of the dividend-paying gold stocks, and they're all going to be between 0.5% yield and 1.5%. If we just take the average 1% yield with $1 per share dividend, that's a $100 stock.
TGR: What about Silver Wheaton?
JD: Silver Wheaton is a royalty company of a little different flavor because it's focused purely on silver. They buy royalty streams where they put up money upfront to help build the mine. Once the mine has been built, they buy the silver from the mine at $4/oz. Sometimes it's even the silver byproduct from a base metal mine. They spent $475 million to buy 25% of the silver output from Goldcorp's Peñasquito, which is about 7 Moz. a year. On the royalty streams in place now, this year they're going to receive about 23 Moz. They pay on average about $4/oz. for the silver. Silver is now $18 an ounce. If they're paying $4, they make a $14 profit on every ounce that comes in. If you carry existing projects through to 2013, they'll have a royalty income on 40 Moz. That 40 Moz. of silver at $18, less the $4/oz. cash cost gives them $560 million a year in royalty stream income. That's $1.64 a share in royalty income. Silver Wheaton doesn't pay a dividend yet, but they're saying they will soon. If they stay at the typical 20% payout ratio, that gives us a dividend of around $0.30 a share of Silver Wheaton. If we simply use the 1% rule of thumb that I'm using for dividends, that's $30 for Silver Wheaton, which is now around $20.
Franco-Nevada was a Top 10 stock last year. It has great management and is really the originator of the royalty stock concept. I would never bet against these guys. Franco was one of these situations where we bought it at $17, and it got to $27—our target price. We couldn't justify a higher target, so we took it off the list. Boy, we'd love to buy it back at $17 again; and, if it gets there, we'll be first in line to buy it. It's just fully priced right now, so its upside is not as clearly defined as the other two.
TGR: Where should a value investor go to find value among the mid-tiers—something like Yamana Gold Inc. (TSX:YRI; NYSE:AUY; LSE:YAU)?
JD: Yamana's a good play. Yamana is a mini Goldcorp. It's got growth. It's going to produce about 1.1 Moz. from its mines this year. The company's in politically safe areas of South America; growth will reach 1.5 Moz. in 2012 or 2013, and then the next year 1.7 Moz. are from mines currently in the development pipeline. It is self-funding all its growth—no need to sell any shares or borrow any money. Because of the copper byproducts, Yamana's got a cash cost of about $200/oz.—which, for a 1.1 Moz. Producer—is the lowest of any of the equivalent size guys.
Then there's Agnico-Eagle Mines Ltd. (NYSE:AEM; TSX:AEM), which is at about the same production level; but Agnico's cash costs are around $400. I love the Yamana story. The stock is suffering a little bit right now because it's not clear what's going to happen with Agua Rica, a 7 Moz. project in Argentina. They really don't have any new mines entering production until the end of 2011. The market is just letting it mark time. When it becomes clearer that these mines are getting ready to come into production, I think the market will start bidding up prices. I'd rather be early on a stock because that's how you get the biggest percentage gains. Our long-term target for Yamana is $20.
TGR: Any other names people should get in early on?
JD: One of the most undervalued ones out there in my opinion is Minefinders Corp. (TSX:MFL; NYSE:MFN). It has a single gold/silver mine in Mexico coming into production. This year, it will produce about 134,000 ounces of gold equivalent at around $400/oz. The cash cost is coming down because they're still ramping up to their 180,000 oz./year gold equivalent for 2011. So it's definitely time to get on the train for Minefinders. Our target for Minefinders, when they're in full production, is $15. It's a big deposit. It's simple metallurgy. It's the kind of project a Yamana could fold into its mine portfolio. I think it's a great target for an acquisition.
An Economics Professor for almost two decades, John Doody became interested in gold due to an innate distrust of politicians. In order to serve those that elected them, politicians always try to get nine slices out of an eight slice pizza. How do they do this? They debase the currency via inflationary economic policies. Success with his method of finding undervalued gold mining stocks led Doody to leave teaching and start the Gold Stock Analyst newsletter late in 1994. The newsletter covers only producers or near-producers that have an independent feasibility study validating their reserves are economical to produce.
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DISCLOSURE:
1) Brian Sylvester of The Gold Report conducted this interview. He personally and/or his family own the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Gold Report: Goldcorp, Terrane, Franco Nevada and Minefinders.
3) John Doody: I personally and/or my family own shares of the following companies mentioned in this interview: All. I personally and/or my family am paid by the following companies mentioned in this interview: None.
John Doody: I think it's a bailout that continues with $1 trillion-a-year deficits as far as the eye can see. There's no end to it; unless we get some significant tax increases and/or spending cuts, there's no hope to ever to pay down the debt. The best hope is to get the economy growing faster than the debt so that, as a percentage of GDP, the debt level shrinks.
TGR: Do you agree with the administration's fiscal policies?
JD: Oh, yeah. I really don't know where we'd be if we didn't undertake all these remedies from the Treasury side on the deficit side, as well as the Federal Reserve side. The mess that this economy was in as a result of the Wall Street and housing collapse continues. You go by a strip mall here in South Florida with 10 stores, and at least one or two are empty. Almost 10% of workers are still without jobs. I was surprised to read that about 11% of all prime mortgages—these are the best mortgages—are either in foreclosure or delinquency. People are hurting.
TGR: How do you see all of this affecting the gold market?
JD: Everything that's being done creates inflation. You don't really care if somebody gives you a $1,000 government bond as payment for a debt or $1,000 cash. They're equivalent. We're creating a tremendous amount of money trying to get the pump primed to get the economy moving, but it's obviously a very difficult task.
TGR: You mentioned inflation and, in your last interview with The Gold Report, you said: "Bernanke and the Fed are pursuing a loose monetary policy with a 0% interest rate. There's actually no way we cannot end up in inflation." We're starting to see signs of it now. How is gold going to act in an inflationary environment and, perhaps, even in a hyperinflationary environment?
JD: Gold's going up now; it's going to go up more. One of the uses of gold is to protect your purchasing power from inflation, and it's done a damn good job! It always drives me crazy when these talking heads on TV talk about gold now vs. $850 in 1980. They say, "Oh, look where it's gone!" It's gone nowhere. That was a one-day high. The next day the gold price was $738. More important is to look at the gold price from when it was set free in 1968. It was fixed at $35 for over 30 years. If you just took that $35 from March '68, and I did in a recent issue of the Gold Stock Analyst, and adjusted it by the Consumer Price Index (CPI), gold would have grown from $35 to about $225. That's your inflation protection; everything above $225 all the way up to the current price and the next $1,000—that's all investment gains. From '68 to the present, gold had had an 8.6% compound annual growth rate that was 4.4% above the inflation rate for the period.
TGR: But you hold gold equities, and you don't hold bullion. In the last market crash, everything crashed—even the gold equities.
JD: That's true. The reason that I hold gold equities is because you get better leverage to the gold price. We always have to remember that while the stocks are derivatives of gold, they are stocks first. If the buyers disappear for stocks, they disappear for gold stocks too. But when they come back, they come back with a vengeance. In 2009, the gold price was up 28% and the XAU was up 37% but the Gold Stock Analyst's Top 10 was up 130%. That's the leverage you can get from owning the right stocks.
TGR: Congratulations on being up 130%.
JD: We're up 1,000% for the last decade.
TGR: That's impressive.
JD: Investors in exploration stocks got killed in the 2008 crash. There were no fundamentals underneath those stocks. All the stocks I cover are producers or very near producers. We know there's something there, so we're not just arm waving over some drill results. That's one of the things that makes Gold Stock Analyst unique: We don't cover the exploration stocks because I'm not a geologist. I can't interpret drill results. I want data. I want data that you can analyze and that's productions and reserves.
TGR: In a recent issue of Gold Stock Analyst you said: "As we're in a bull market underpinned by negative real interest rates, loose monetary policies and exploding government deficits, it's best to keep riding the bull and don't let it throw you off." How high can the bull ride through the end of 2011?
JD: First we've got to understand what the real interest rate is. That's the risk-free return on money, such as short-term U.S. Treasuries. The U.S. Treasury can't default. They can always print more dollars and give them to you. I like to use 90-day T-bills. Or you can use savings-account rates, which are about 0.1%. It's trivial. If you have in a savings account or in 90-day Treasuries and you start the year with $100, at the end of the year you're going to end up with $100 plus 0.1% interest. But if inflation is 2%, the money is going to buy you only $98 worth of goods. When real interest rates are negative, and people can't get positive return on their money by putting it in the bank or risk-free situation, they naturally flock more to gold to protect the purchasing power of their money. Gold has been a sanctuary in monetary crises and inflation for centuries. In the 2000s, Chairman Greenspan lowered the Fed Funds rate to 1% and the inflation rate has generally been higher. That's why gold has done so well.
TGR: What gold price will we be looking at through the end of this year and 2011?
JD: Well, I'm not a guy who predicts the gold price because my philosophy is I can find value at any gold price. I'm just looking at the next $100 ahead. People who predict $1,500 or $2,000 or $5,000 are foolish because there's no basis for that. I don't doubt gold will get to those levels, but I have no idea when. I find undervalued stocks now and profit as Mr. Market discovers them. So, if gold does nothing, we can still profit. If gold goes up, then we've got two ways to profit.
TGR: Alright, how long do you think gold's bull run will last?
JD: I think it's got a lot longer to run because the negative real interest rate environment is going to run a lot longer. When's the Fed going to raise interest rates significantly? They can't raise them now. We've got almost 10% of the country unemployed and that much, again, underemployed. So, until the economy gets going, we're not going to see any real change.
TGR: What about holding bullion vs. equities?
JD: The reason the stocks give you more leverage than physical gold is because all of the ounces are yet to be mined. Typically, a gold mine is going to have 10 times or more reserves in the ground than what they're producing in the current year. If a company is producing one million ounces a year and the gold price goes up by $1, that dollar falls right to the bottom line. That's $1 million more in profits. But because they've got 10 million ounces still in the ground, those ounces are now worth $10 million more than before. That's what gives you the leverage that owning bullion just doesn't give you. If you own bullion and gold goes up $1, your coins are worth $1 more. No big deal.
TGR: Let's talk about some gold equities, starting with the majors: Barrick Gold Corp. (TSX:ABX; NYSE:ABX), Newmont Mining Inc. (NYSE:NEM) and Goldcorp Inc. (NYSE:GG; TSX:G).
JD: Goldcorp is a Gold Stock Analyst Top 10 stock. Barrick is not, though there's nothing wrong with the stock now that they bought back their hedge book.
TGR: Please explain that deal.
JD: What Barrick spent to buy back its hedge book was more than all the profits it earned over the whole time the company was hedging. Ultimately, its average hedge delivery price was about $400/oz. They bought back the book at about $1,100/oz., so it cost them $6 billion. That offset all the earnings they ever had from hedging. It was a lousy strategy for a rising gold market. That's not a reason not to like Barrick. I think it's definitely a blue chip company—great management, great bunch of projects.
Barrick's producing around 7.8 million ounces (Moz.) of gold a year. They've got three great projects coming online that they're going to have to fund. These projects are going to require about $8 billion worth of capital. They're going to deliver about maybe 3 Moz. more a year, but the $8 billion is a lot of money to come up with.
One is Pascua-Lama. It straddles the Chile/Argentina border at 16,000 ft.; two is Cerro Casale also at 16,000 ft. in Chile; and third is Donlin Creek, of which they own half in Alaska. The problem there is we don't know if it's going to get permitted. They've got a partner, NovaGold Resources Inc. (NYSE.A:NG;TSX.V:NG). How they'll raise their half of the $4+ billion of capital needed for Donlin Creek we don't know. It might be possible for Barrick to get a bigger percentage of Donlin Creek by helping NovaGold with the capital cost. Great company, but not a Gold Stock Analyst Top 10.
TGR: And Newmont?
JD: I don't have anything against Newmont; also a great company. It had a change in management style. They're not looking for growth. There's sort of flat production over the next few years at around 5.5 Moz./year. What they're looking to do is maximize cash flow, which is a good objective, but we don't know what they're going to do with the cash flow. Are they going to use it for acquisitions or are they going to raise dividends? I think it's best to invest in growth. Barrick's going to give some growth. I think Newmont, by not giving growth, may be penalizing investors unless they start paying out a dividend higher than the current $0.40.
The third one you listed, Goldcorp, pays a smaller $0.18 dividend but it's got growth. It's the only miner growing from an intermediate stage. Right now it's the largest intermediate at 2.6 Moz./year with a cash cost at around $300. It's growing to 4 Moz./year and a cash cost at around $300. That's a cash cost that really is better than anybody else's in the business. They have that because of the big copper byproducts. They seek out mines that have a copper byproduct.
The nice thing about Goldcorp is it's all self-funded. The mines are in the pipeline. You can see how the new mines are going to come online. Beyond that are projects they're working on but are not yet in the development pipeline. Those are going to add another one million ounces a year. Goldcorp could be a 5 million ounce producer by the end of this decade.
TGR: In the June issue of the Gold Stock Analyst, you raised your short- and long-term target prices for Golden Star Resources Ltd. (TSX:GSC), Golden Queen Mining Co., Ltd. (TSX:GQM), Northgate Minerals Corp. (TSX:NGX; NYSE:NXG) and Terrane Metals Corp. (TSX:TRX). Can you tell us about those decisions?
JD: Both Golden Star and Northgate are highly leveraged to the gold price. They both have high cash costs of about $600/oz. We do this target price analysis that incorporates gold price, proven and probable reserves, the recovery percentage, the cash cost per ounce, number of shares outstanding, debt, capital costs to build mines and the stage of production a company is in. Is it at feasibility stage, in construction or in production? All these are incorporated into our nifty formula and the formula told us that Golden Star's and Northgate's target prices should be raised because gold had increased to $1,200/oz. The increases weren't big; they were about $0.50 a share, but type of adjustment can happen regularly. We incrementally raise or lower target prices as information comes available as part of our ongoing analysis.
We raised the target price on Terrane because they did an equity financing. Terrane's got 6 Moz. of proven and probable reserves, fully permitted and ready for development in British Columbia. Those ounces are now selling for $60/oz. Gold is $1,200, and you can buy their ounces at a 95% discount, making Terrane pretty interesting. The only fly in this ointment is it has to raise the money to build the mine. It did a $100-million financing and has enough equity to be able to move forward over the next year. The bigger financing is likely going to come from an Asian smelter, as it's a copper/gold project and somebody like Mitsubishi Corp. (TK:MC) or Sumitomo Metal Mining Co. Ltd. (STMNF:US) is going to end up buying 25% of it for $250 million or something like that. Plus, Caterpillar Inc. (NYSE:CAT) will finance $100 million over their equipment. There'll be some development loans. There'll be some project debt. Low and behold this time next year, they'll be in construction. But, at this point, the stock's only selling at around $1 and there's some uncertainty as to how all this is going to shake out. That's what creates the opportunity. We raised our price on their success raising $100 million in equity, which they did at $1.10.
TGR: What would it take for Goldcorp take Terrane out?
JD: Goldcorp owns about 53% of the company. Frankly, it was my expectation that they would take out Terrane. But at decision time, they had the opportunity to buy El Morro and beat Barrick to the punch for about the same amount of money, roughly $500 million. I still think there's a possibility that Goldcorp will buy out Terrane. It's got everything that Goldcorp wants—6 Moz. in a politically safe location and a negative cash cost per ounce due to the copper byproduct. It may take Sumitomo saying: "Alright, we're going to buy 25% interest in the mine." Will Goldcorp let that happen, or do they want the whole mine to themselves?
TGR: In your last interview with The Gold Report, you mentioned several royalty companies including Franco Nevada Corp. (TSX:FNV), Royal Gold Inc. (NASDAQ:RGLD; TSX:RGL) and Silver Wheaton Corp. (NYSE:SLW; TSX:SLW). Please update us on those.
JD: I love the royalty model. It's not one that a lot of investors know about or understand. Typically, royalties are generated in two ways. When a property is sold, the seller gets either cash or shares upfront; and they'll often take back a residual royalty. Sometimes it's a percentage of profits, which is not the best royalty. The best is a percentage of sales.
A great example of royalty transaction was Kennecott (a subsidiary of Rio Tinto Ltd. (LSE:RIO; NYSE:RTP; AUS:RIO), the original owner of Peñasquito in Mexico. Goldcorp is developing that property into a twin mill mine. One 50,000 ton/day mill is in production and the second will be in full production this summer. It's a polymetallic mine that, over its 20+ year life will average 500,000 oz./year of gold, 30 Moz. of silver and about 400 million pounds (Mlbs.) of zinc and lead. That's huge production.
At current prices, the revenues from Peñasquito will be about $1.6 billion annually. Kennecott sold that property to Western Silver Corporation (TSX:WTC; NYSE.A:WTZ), which was acquired by Glamis Gold (NYSE:GLG), and then Glamis was acquired by Goldcorp. The 2% NSR royalty that Kennecott initially kept was sold to Royal Gold for $100 million about three or four years ago, and will now generate $32 million a year in royalty income at current prices. Because Royal Gold has issued only 50 million shares, that's roughly $0.60 a share. That's going to continue as long as the site is producing, which is probably going to be another 30 years.
Royal Gold has another royalty that comes online in August from Teck Resources Ltd. (NYSE:TCK; TSX:TCK.A; TCK.B)'s Andacollo copper/gold mine in Chile. which was originally and open-pit oxide mine. As mining went deeper, the ore turned more sulfide and they had to build a mill to process the sulfides. Teck was in financial trouble in 2008, when the markets crashed, and had to sell a gold stream to Royal Gold for roughly $260 million in order to build a mill to keep getting the copper. They effectively sold Royal Gold 40,000 oz. gold a year out of Andacollo at no cost per ounce. So 40,000 oz. times $1,200 oz. is $48 million a year. That's almost $1 a share for Royal Gold starting in August.
My target for Royal Gold is a double from here. It's about $50 now. They have a history of paying out 20% of their earnings in dividends. I can easily see at current prices a $5-a-share royalty income stream, which could be $1 a share in dividends. You look at any of the dividend-paying gold stocks, and they're all going to be between 0.5% yield and 1.5%. If we just take the average 1% yield with $1 per share dividend, that's a $100 stock.
TGR: What about Silver Wheaton?
JD: Silver Wheaton is a royalty company of a little different flavor because it's focused purely on silver. They buy royalty streams where they put up money upfront to help build the mine. Once the mine has been built, they buy the silver from the mine at $4/oz. Sometimes it's even the silver byproduct from a base metal mine. They spent $475 million to buy 25% of the silver output from Goldcorp's Peñasquito, which is about 7 Moz. a year. On the royalty streams in place now, this year they're going to receive about 23 Moz. They pay on average about $4/oz. for the silver. Silver is now $18 an ounce. If they're paying $4, they make a $14 profit on every ounce that comes in. If you carry existing projects through to 2013, they'll have a royalty income on 40 Moz. That 40 Moz. of silver at $18, less the $4/oz. cash cost gives them $560 million a year in royalty stream income. That's $1.64 a share in royalty income. Silver Wheaton doesn't pay a dividend yet, but they're saying they will soon. If they stay at the typical 20% payout ratio, that gives us a dividend of around $0.30 a share of Silver Wheaton. If we simply use the 1% rule of thumb that I'm using for dividends, that's $30 for Silver Wheaton, which is now around $20.
Franco-Nevada was a Top 10 stock last year. It has great management and is really the originator of the royalty stock concept. I would never bet against these guys. Franco was one of these situations where we bought it at $17, and it got to $27—our target price. We couldn't justify a higher target, so we took it off the list. Boy, we'd love to buy it back at $17 again; and, if it gets there, we'll be first in line to buy it. It's just fully priced right now, so its upside is not as clearly defined as the other two.
TGR: Where should a value investor go to find value among the mid-tiers—something like Yamana Gold Inc. (TSX:YRI; NYSE:AUY; LSE:YAU)?
JD: Yamana's a good play. Yamana is a mini Goldcorp. It's got growth. It's going to produce about 1.1 Moz. from its mines this year. The company's in politically safe areas of South America; growth will reach 1.5 Moz. in 2012 or 2013, and then the next year 1.7 Moz. are from mines currently in the development pipeline. It is self-funding all its growth—no need to sell any shares or borrow any money. Because of the copper byproducts, Yamana's got a cash cost of about $200/oz.—which, for a 1.1 Moz. Producer—is the lowest of any of the equivalent size guys.
Then there's Agnico-Eagle Mines Ltd. (NYSE:AEM; TSX:AEM), which is at about the same production level; but Agnico's cash costs are around $400. I love the Yamana story. The stock is suffering a little bit right now because it's not clear what's going to happen with Agua Rica, a 7 Moz. project in Argentina. They really don't have any new mines entering production until the end of 2011. The market is just letting it mark time. When it becomes clearer that these mines are getting ready to come into production, I think the market will start bidding up prices. I'd rather be early on a stock because that's how you get the biggest percentage gains. Our long-term target for Yamana is $20.
TGR: Any other names people should get in early on?
JD: One of the most undervalued ones out there in my opinion is Minefinders Corp. (TSX:MFL; NYSE:MFN). It has a single gold/silver mine in Mexico coming into production. This year, it will produce about 134,000 ounces of gold equivalent at around $400/oz. The cash cost is coming down because they're still ramping up to their 180,000 oz./year gold equivalent for 2011. So it's definitely time to get on the train for Minefinders. Our target for Minefinders, when they're in full production, is $15. It's a big deposit. It's simple metallurgy. It's the kind of project a Yamana could fold into its mine portfolio. I think it's a great target for an acquisition.
An Economics Professor for almost two decades, John Doody became interested in gold due to an innate distrust of politicians. In order to serve those that elected them, politicians always try to get nine slices out of an eight slice pizza. How do they do this? They debase the currency via inflationary economic policies. Success with his method of finding undervalued gold mining stocks led Doody to leave teaching and start the Gold Stock Analyst newsletter late in 1994. The newsletter covers only producers or near-producers that have an independent feasibility study validating their reserves are economical to produce.
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DISCLOSURE:
1) Brian Sylvester of The Gold Report conducted this interview. He personally and/or his family own the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Gold Report: Goldcorp, Terrane, Franco Nevada and Minefinders.
3) John Doody: I personally and/or my family own shares of the following companies mentioned in this interview: All. I personally and/or my family am paid by the following companies mentioned in this interview: None.
