MINING MARKETS & INVESTMENT NEWS — INVESTMENT COMMENTARY — Producers focus on cost-cutting in absence of gold rally

A year ago, mining companies talked mostly about their expanding reserves and resources. At the recent Mining Investment Forum in Denver, gold producers were grilled by mining analysts and fund managers about their production costs, and exactly what is, or is not, included in the numbers.

Mining executives also fielded tough questions about their financial strength, hedge positions and strategies to survive weak prices. While a few brave souls predicted that a price rally might be around the corner, most executives appeared resigned to the new reality of US$300-per-oz. gold.

“We’re feeling better [about the outlook],” said John Willson, president of Placer Dome (PDX-T). “But those blasted central bankers in Europe are still wondering what to do with gold. So our focus is on building a quality portfolio and unlocking hidden value in our mines.”

John Carrington, chief operating officer of Barrick Gold (ABX-T), delivered a similarly succinct message: “Our job is to produce the maxinum number of gold bars from the minimum amount of rock, at the lowest cost, for the greatest profitability.”

Both Barrick and Placer Dome cut costs at almost all their operating mines this year. Carrington told delegates that Barrick is on track to produce 3.1 million oz. in 1998, while reducing cash costs to about US$165 per oz., and total costs to US$185 per oz.

Willson projected 1998 production could total 3 million oz. at a cash cost of US$140 per oz., with total costs estimated at below US$200 per oz., including royalties.

At presstime, the gold rivals released results for the first nine months of this year. Barrick produced 2.3 million oz. during the period, 5% more than a year ago. Cash costs fell 14% to US$160 per oz., while total costs (including royalties) came in at US$181 per oz. Net income was US$218 million.

Rival Placer Dome churned out 2.2 million oz. in the same period at an average cash cost of US$151 per oz. and total cash costs of US$223 per oz. Net earnings were US$74 million. The company slashed cash costs at its Cortez joint venture in Nevada to a mere US$50 per oz.

Both companies hedge their production. Placer realized prices (on 9-month sales) averaging US$55 per oz. higher than the average market price of US$294 per oz. However, Barrick did even better, realizing a US$105-per-oz. premium over the average spot price. It generated US$241 million in additional revenue, compared with Placer Dome’s US$117 million.

Several producers that don’t hedge much, if at all — including Agnico-Eagle Mines (AGE-T), Battle Mountain Gold (BMG-N) and Newmont Mining (NEM-N) — sold themselves as offering investors the best potential to benefit from any rally in gold prices.

“It’s our goal to offer the best upside potential to a rising gold price,” said Newmont Chairman Ronald Cambre. “Therefore, we remain largely unhedged because we want our shareholders, who have suffered in this downturn, to benefit from the coming rebound.”

Newmont also is focused on cost-cutting, and expects to produce 4 million oz. gold at a cash cost of US$183 per oz.

South African and Australian companies assumed a higher profile than in past years, with their executives making the case that their shares were undervalued, relative to North American producers. They also promoted benefits they were reaping from currency differentials and hedging programs. “I haven’t sold my gold for less than the spot price in 11 years,” one Australian executive said. “Why should I start now?”

Bobby Godsell, chairman of Anglogold (AU-N), made a case for longer-term hedging policies and took the opportunity to describe his company’s unique plan to “go down the value chain” by marketing its own gold in Dubai, and the Asian jewelry market.

Godsell blamed “speculators with a negative view of gold” for the lower prices of the past two years. “Their unrelenting short sales have, in a real sense, provided a self-fulfilling outcome in the gold market,” he added.

Without doubt, the senior golds garnered the most attention. Several fund managers confessed that they were restricting their buying to the top-tier producers until they see some light at the end of the tunnel.

“This flight to quality has helped most senior golds recover nicely from the drubbing they took earlier this year,” one analyst said. “There are a lot of people trying to squeeze through the Barrick and Franco-Nevada doors.”

Meanwhile, some of the smaller producers admitted that the tough times were already taking their toll. Margaret Witte, president of Royal Oak Mines (ROY-T), wearily conceded that the company was “living day to day” after having drained its till to bring into production the new Kemess gold-copper mine in northern British Columbia. “But we’re happy to report that we’ve reached commercial production and achieved our target metallurgical recoveries for hypogene and supergene ores,” she added. “Kemess is the turnaround for Royal Oak.”

With a share price below US$1, management of Metallica Resources (MR-T) worried aloud that its Nasdaq listing might be in jeopardy. And Clive Johnson, president of Bema Gold (BGO-T), outlined some of his company’s struggles to get the Refugio gold mine in Chile operating on a even keel.

“Our problems are not about grade and recovery,” Johnson said. “The problems have been in construction of the mine, and bad weather. We’ve had mechanical problem after mechanical problem.”

Bema and its partner are now attempting to negotiate a settlement with their primary contractor.

The tough times experienced by some of the smaller-cap companies had delegates making lists of potential takeover targets, while mentally calculating which companies had the biggest war chests to go on the acquisition trail.

“Everyone’s looking at acquisitions,” cautioned Louis Leprey of Metallica. “But they’re not easy to find. The odds are about the same as exploration.”

With exploration a mere blip on the radar screen, Canadian analyst Catherine Gignac reminded delegates that “exploration drives the gold market and the pipeline of projects.”

Toronto-based Goldcorp (G-T) got the most mileage from Gignac’s remarks by unveiling details of ongoing exploration at its Red Lake gold mine in northern Ontario. While the mine itself is not producing, owing to a labor dispute, recent exploration has outlined reserves with grades three times higher than the material previously mined. As a result, cash costs are projected to tumble to as low as US$88 per oz. once mining of the higher-grade ore begins.

Jim-Bob Moffett of Freeport-McMoRan Copper & Gold (FCX-N) gave exploration full credit for having turned the company’s Grasberg deposit in Indonesia into one of the world’s largest copper-gold deposits.

Moffett challenged the notion that the company is vulnerable because its major asset is in Indonesia. “People have said to me, ‘Now James Robert, don’t you think that will take that Grasberg project away from us?’ I tell them that unless Indonesia wants to be the Cuba of the Pacific, it will never happen. It’s not a country that can afford to do that.”

Moffett said America should provide leadership and help stabilize the weakened economies of the world, including Southeast Asia, while getting its own financial house in order. “We need to get back to mining things and making things, instead of looking for double-digit returns from kids pushing buttons on Wall Street.”