Calculating the True Mining Cost of Gold – Our Methodology
In the previously mentioned article, we gave a thorough overview of the current way mining companies report their costs of production and why it is inaccurate and significantly underestimates total costs. Then we presented a more accurate methodology for investors to use to calculate the true costs of mining gold or silver. Please refer to that article for the details explaining this methodology, which is an important concept for all precious metals investors to understand.
Explanation of Our Metrics
Cost Per Gold-Equivalent Ounce is the costs incurred for every payable gold-equivalent ounce. It is Revenues minus Net Income, which will give an investor total costs. We use payable gold and not produced gold, because payable gold is the gold that the miner actually keeps and is more reflective of production. Miners also use payable gold and not produced gold when calculating cash costs, so this is pretty standard.
We then add Derivative Gains (or minus Derivative Losses), which will give investors total costs without the effects of derivatives. Finally, we add Foreign Exchange Gains (or minus Foreign Exchange Losses) to remove the effects of foreign exchange on the company’s costs.
Cost Per Gold-Equivalent Ounce Excluding Write-downs is the above-mentioned “Cost per gold-equivalent ounce” minus Property/Investment Write-downs and Asset Sales. This provides investors with a metric that removes exceptional gains or losses due to write-downs and asset sales.
Cost Per Gold-Equivalent Ounce Excluding Write-downs and Adding Smelting and Refining Costs is the above-mentioned “cost per gold-equivalent ounce excluding write-downs” adding in smelting, refining and all other necessary pre-revenue costs. This is a new metric that we are now introducing to our true all-in cost series because it will more accurately measure all-in costs and allow comparisons between miners.
Most investors are unaware that many miners will remove smelting, refining and other costs before reporting their total revenues figures and these pre-revenue costs are not reported in the income statement. The result of this is that it skews all-in costs higher for miners that refine themselves or include the costs in their income statement, while inaccurately showing lower costs for miners that remove it before reporting revenues.
A simple test can be done on any miner to see if there are any pre-revenue costs that are not reported in the income statement. Simply take payable production and multiply it by average realized sales price and this should come relatively close to the total revenues figure. If it gives you a number much higher than reported revenues then there are pre-revenue costs that are not being reported.
This line should alleviate these issues and allow comparisons on a fair basis.
Real Costs of Production for ANV – 1Q13 and FY2012
Let us now use this methodology to take a look at ANV‘s results and come up with their average cost figures. When applying the methodology for the most recent quarter and FY2012, we standardized the equivalent ounce conversion to use the average LBMA price for Q4FY12. This results in a gold-to-silver ratio of 53:1. We like to be precise, but minor changes in these ratios have little impact on the total average price – investors can use whatever ratios they feel most appropriately represent the by-product conversion.
Observations for ANV Investors
True Cost Figures – ANV‘s true all-in costs for Q1FY13 were $971 per gold-equivalent ounce, which was higher on a year-over-year basis, but that was to be expected since last year’s first quarter’s costs were exceptionally low. Compared to FY2012 costs, $971 was a marked improvement, though the same thing happened last year with Q1FY11 costs being significantly lower than the full year costs – so we would want to see another quarter with similar performance before we expect FY13 costs to drop.
Compared to competitors, ANV performed very well in comparison to other competitors such as Yamana Gold (AUY) (costs just over $1300), Goldcorp (GG) (costs just under $1200), Silvercrest Mines (SVLC) (costs below $1100), Kinross Gold (costs just under $1400), Newmont Gold (NEM) (costs around $1300) Agnico-Eagle (AEM) (costs around $1400), and Barrick Gold (ABX) (costs around $1200).
One thing we do caution investors in regard to ANV‘s true all-in costs performance is related to its inventory. As you can see in the annual report, over the last few years the company has not been able to process and sell all the gold that it has produced.
The company did mention that they are now able to process all the precipitate and second quarter results should include an additional 7,000 ounces of gold. But if significant amounts of this precipitate cannot be processed or sold then it would increase their true all-in cash cost numbers that we calculated above. Investors should keep a close eye on this issue to make sure that produced gold and silver are able to be processed and sold and the numbers stay relatively close over the long-term.
Corporate Liquidity – Liquidity is very important for investors to monitor in this current low-price gold environment. At the end of Q1FY13, ANV had $250 million of cash and cash equivalents and around $200 million of ore and inventories. Since true all-in costs are still below current spot gold prices this would ordinarily be enough to make investors confident in ANV‘s liquidity. But the company does carry more than $500 million in debt and is in the midst of a $1.2 billion Hycroft expansion, of which $720 million has been committed.
ANV did state at quarter-end that it believes that it has sufficient liquidity to fund expansion ad operations over the next twelve months, but management did state that they expect to need capital over the next two years to continue to fund the expansion. This is something that should concern investors, but they should also keep in mind that capital projects can be modified and this exceptional precious metal environment may warrant that and help the company avoid a liquidity crunch if prices do not recover.
In the short term we think ANV has plenty of capital to make it through this environment, but we would be very concerned about liquidity if either the gold price drops further or if production costs start to rise. The company has quite a bit of debt and large planned capital expenditures to balance – investors should monitor the liquidity situation very carefully for ANV.
Production Numbers – While the true all-in costs were very good, the production numbers for the company were down. On a year-over-year basis was up from 32,000 to 38,000 gold ounces, but on a sequential basis gold production dropped from 48,000 ounces. Management had forecast FY2013 gold sales to be 225,000 to 250,000 ounces, but these Q1FY13 production totals leave a lot to be desired and ANV will have to do significantly better in future quarters to meet these targets.
This underperformance was recognized by Mr. Buchan and he stated in ANV‘s press release the following:
“Clearly Allied Nevada has underperformed and this unacceptable performance is the result of unsatisfactory execution of the mine plan under previous leadership. This lack of acceptable execution does not imply that the orebody has deficiencies nor does it suggest that our overall business plan is flawed. As we indicate in this press release, guidance remains unchanged. The mine is starting to perform as it should and we currently believe that it will continue to do so.”
So management suggests this is a single quarter anomaly, but investors should pay close attention to second quarter production and ore grades to verify.
On a true all-in costs basis, ANV did a very good job keeping costs low and producing gold at some of the cheapest levels in the industry. But we have to qualify that with the fact that the issues related to processing and selling the gold and silver have not been fixed. If management can resolve these issues then the true all-in costs will be among the industry lowest, but if a good portion of these metals cannot be recovered or processed then the all-in costs will be much higher.
Liquidity is also another concern in the long-term because the company has issued quite a bit of debt, and to complete the Hycroft mine expansion they will need more capital. But in the short-term the company has plenty of cash to make it through the next twelve months without any issues.
Finally, production numbers were lower than expected. Management is confident that the low production numbers were an anomaly and will be outdone by increases in future production, but investors should pay close attention.
If ANV can keep costs close to current levels while continuing the Hycroft expansion, this company has the potential to post very strong earnings per share numbers. But if gold prices drop further or production costs rise and pressure margins further, the company will have a tough time funding its mine expansion and will have to make some tough decisions regarding it. Investors should be cautious with ANV and pay close attention to second quarter production numbers and management updates on the Hycroft expansion plans.