Silver Wheaton paying US$800M
 to raise Salobo gold stream to 75%

Silver Wheaton (TSX: SLW; NYSE: SLW) is offering a subsidiary of Vale (NYSE: VALE) US$800 million to buy another 25% gold stream from the Salobo copper-gold mine in Brazil.

Vancouver-based Silver Wheaton already has a 50% gold stream on Salobo’s life-of-mine production, with the latest acquisition giving the company access to 75% of the mine’s gold by-product.

The transaction should immediately increase Silver Wheaton’s consolidated production and cash flow, as Salobo should deliver 300,000 oz. gold a year between 2016 and 2020, of which Silver Wheaton will receive three-fourths as of July 1, 2016.

As a result, the precious metal streaming firm has updated its 2016 gold production guidance to 305,000 oz., from 265,000 oz. previously. It forecasts average annual gold production from 2016 to 2020 of 330,000 oz. gold, versus 260,000 oz. earlier.

Lodgings at Vale’s Salobo copper-gold mine in Brazil. Credit: Vale.

Silver Wheaton, however, has trimmed its 2016 silver forecast to 32 million oz., from 32.8 million oz., due to lower expected output from Primero Mining’s (TSX: P; NYSE: PPP) San Dimas mine and Goldcorp’s (TSX: G; NYSE: GG) Penasquito mine, both in Mexico, which should be partly offset by higher expected output from the Antamina mine in Peru.

Average annual silver production over the next five years, including 2016, remains at 31 million oz. a year.

Silver Wheaton will pay US$800 million in cash for the increased gold stream, using cash-on-hand and proceeds available under its US$2-billion revolving credit facility. The company will also pay Vale either US$400 per oz., plus a 1% annual inflation starting in 2019, or the spot market price for gold, depending on whichever is lower. The spot price closed Aug. 1 at US$1,352.40 per oz. gold.

Silver Wheaton has also sweetened the transaction by lowering the exercise price on the 10 million warrants it offered Vale in 2013. The Brazilian miner could exchange each warrant, which expires in early 2023, to buy one Silver Wheaton share for US$43.75, instead of US$65 previously.

Vale commissioned the large Salobo copper-gold mine in Para state in late 2012 with a design throughput capacity of 12 million tonnes a year. It doubled the mill capacity in mid-2014. If Vale increases the capacity within a predetermined period, Silver Wheaton will need to make more payments to Vale. For example, if it increases throughput to 36 million tonnes a year between 2021 and 2025, the expansion payment would range between US$514 million and US$692 million.

Silver Wheaton estimates Salobo has a 50-year life based on reserves of 1.2 billion tonnes grading 0.7% copper and 0.35 gram gold, plus exploration potential. The transaction gives Silver Wheaton another 3.2 million oz. gold in reserves, 700,000 oz. in measured and indicated, and 400,000 oz. in inferred.

Meanwhile, Vale said the acquisition should help it pay down its net debt, which totalled US$27.5 billion at the end of June. It has a US$4.3-billion cash position.

Analysts see the transaction as a positive for both companies. BMO analyst David Gagliano, who covers Vale, has increased his target price to US$4 from US$2, after the acquisition and Vale’s second-quarter earnings improved the outlook for the miner. BMO analyst Andrew Kaip, who covers Silver Wheaton, notes the stream should increase earnings before interest, taxes, depreciation and amortization (EBITDA) by 10% annually, with Salobo representing 30% of EBITDA, instead of 20% earlier. Kaip has bumped his target price to $31 from $25 per share.