Gold miners’ earnings surge but valuations lag: Sprott

Gold producers aren’t getting full credit from investors for stronger profits and tighter spending discipline, Sprott Asset Management says.

The NYSE Arca Gold Miners Index traded at 5.7 times expected operating earnings at Sept. 30, about 22% below its roughly 7.3-times average over the past 20 years. Its forward earnings-per-share measure has climbed to more than four times its level at the end of 2023, according to the Toronto-based investment manager.

“We believe that major gold miners favour capital discipline and profitability, which has at least been partly reflected in their balance sheets and rising shareholder distributions,” Director of Research & Investment Strategy Kenny Zhu said in an emailed reply to The Northern Miner. “Net debt levels have fallen to their lowest point in the past 20 years, even as return on capital rises and shareholder distributions increase.”

The disconnect tests whether producers have broken the spending habits that disappointed shareholders after the 2011 gold boom. Stronger finances support Sprott’s argument, but pressure to replace depleted deposits could require more construction spending and acquisitions, potentially testing that discipline.

Valuation gap

The index’s forward enterprise-value-to-EBITDA multiple stood at 6.59 times at the end of 2023, Zhu said. The measure compares the value of a business, including debt and subtracting cash, with expected earnings before interest, taxes, depreciation and amortization.

The discount to the long-term average doesn’t alone establish that miners are cheap, he acknowledged. Sprott’s argument is that valuations may understate earnings forecasts that remain near historical highs.

The index’s 12-month forward earnings-per-share measure rose about 4.4 times between the end of 2023 and Sept. 30, according to Sprott’s quarterly report, published Oct. 7. Those figures represent expected earnings rather than profits already earned.

Investors may instead be anticipating lower gold prices, Zhu said. Higher costs and operational setbacks could also erode miners’ margins.

Gold producers remain overlooked despite stronger finances, Toronto-based investment dealer Maison Placements Canada President John Ing wrote in his September report, Gold: An October Reckoning?

“Gold miners have become value plays,” veteran gold analyst Ing wrote. “Most have rock solid balance sheets, churning out record cash flows and will end the year with record dividend payments.”

Cash cushion

BMO Capital Markets’ latest GoldPages report supplies company-level evidence of those stronger finances. Cash held by its producer universe exceeded debt by about $19.6 billion (C$28 billion), based on the latest reported quarterly balance sheets, mostly from June.

Agnico Eagle Mines (TSX, NYSE: AEM) had about $3.3 billion in net cash, while Barrick Mining (TSX: ABX; NYSE: B) had about $1.2 billion, BMO’s Oct. 12 report showed. Net cash means cash on the balance sheet exceeds short- and long-term debt.

Their valuations nevertheless differ. Using BMO’s commodity-price forecasts and Oct. 9 share prices, Agnico traded at 7.3 times forecast 2026 EBITDA, compared with 3.5 times for Barrick.

Those company estimates aren’t directly comparable with Sprott’s rolling 12-month index measure. They illustrate how differently investors value producers within the same sector.

Ing favours Agnico’s growth prospects and Barrick’s asset portfolio, but cautions that strong finances don’t eliminate the need to replenish production.

“Reserve replacement is key but few miners have been successful, suggesting continued M&A activity,” he wrote.

Growth test

BMO’s forecasts show that growth prospects vary considerably. Agnico’s gold-equivalent production is forecast to fall about 3% next year to 3.2 million oz., while Barrick’s is expected to rise about 13% to 4.3 million ounces. The measure includes other metals converted into equivalent gold ounces.

Ing also points to producers taking stakes in explorers as a way to build future growth options. Agnico’s Radisson investment, announced in August, supports underground exploration at the O’Brien gold project in Quebec.

The balance between replacing reserves and avoiding excessive spending is also a concern for Sprott Managing Partner John Hathaway, who urged producers to put reserve replacement first and avoid diluting shareholders in an interview with The Northern Miner last month.

Sprott’s investment case also depends on gold retaining support from reserve diversification and central bank demand. Ing maintains an interim bullion target of $6,000 per oz., citing U.S. fiscal deficits and geopolitical uncertainty.

Central bank demand remains substantial but uneven. Net purchases totalled 345 tonnes in the first half, the lowest first-half total since 2022, despite a sharp second-quarter rebound, the World Gold Council said in its July report.

For miners, the question is whether stronger earnings and balance sheets will survive both bullion-price volatility and the investment needed to sustain production. Zhu argues the evidence doesn’t yet suggest a broad return to excessive risk-taking.

“Although the conditions for risk-taking may return, we believe management teams would likely need to pursue aggressive M&A, substantially ramp up their exploration activity, and pay significant valuation premiums for acquisitions,” he said. “Generally, the data do not currently suggest that has occurred.”