Agnico Eagle: Should You Buy This Low-Risk Gold Producer?
Agnico Eagle Mines (NYSE:AEM) shareholders have been on a roller coaster ride over the past several years. Not only were the shares moving with the price of gold, but they fell sharply in 2011 when the company ceased production at its Goldex Mine. While gold prices fell just 10 percent in the months following this, Agnico Eagle shares lost more than half of their value. This is indicative of the risks inherent in owning gold mining companies. When the Goldex mine stopped producing, the company lost a mere 15 percent of its production, and only for a couple of years (the mine has started up again), yet the share price dropped precipitously from $80/share to around $30/share. What this should tell you is that gold mining investors are prone to reacting hastily with a “shoot first and ask questions later” mentality and it is therefore imperative that if you are going to invest in gold mining shares that you own a few different names.
But now that this aberrant market activity is likely behind us, it may be time to consider adding shares of Agnico Eagle to your portfolio. Agnico Eagle, like other gold miners, had many issues last year. While it took losses on the value of its assets due to falling gold mines and cut its dividend from $0.88/share to $0.32/share, the worst seems to be behind it. In fact, compared with its peers, the company has several things going for it.
First, Agnico Eagle has low production costs. Last year, the company’s EPS was negative due to writedowns, but overall the company reported production costs of just $950/ounce and it produced 1.1 million ounces of gold. While costs are expected to rise next year to about $1,025/ounce, production is set to rise as well by 90,000 ounces. At 1.19 million ounces of production and a $1,325/ounce gold price, the company will see its pre-tax cash-flow at about $360 million.
This means that the shares trade at about 15.7-times the company’s pre-tax cash flow or at about 20-times the company’s post tax cash-flow. While this is somewhat expensive, investors should keep in mind the following. First, the company is expected to grow production even more in the next couple of years, so that by 2016 it is targeting 1,275,000 ounces of gold production.
Second, the company has relatively low production costs, and so it will be profitable unless the gold price crashes. Furthermore, it will leverage investors’ exposure to the upside if the gold price rises. For instance, if the gold price rises by 25 percent to $1,650/ounce, then the company will earn $625/ounce rather than $300/ounce, which means its profits should more than double.
Third, Agnico Eagle arguably has the lowest risk portfolio among the major gold mining companies. Most of its production is in Canada, which is one of the world’s safest places to mine. Just a few weeks ago, the Frasier Institute issued its latest survey of mining companies. This extensive survey asks mining company executives to rank various jurisdictions based on their willingness to invest in them. It considered 112 countries, states, and provinces, and of the top 10, three were Canadian provinces.
Another three appear in the 11th best to the 20th best places to mine. Agnico Eagle also has a mine — the Kittila project — in the second best mining jurisdiction according to the survey — Finland. This means that there isn’t a lot of risk that Agnico Eagle will suffer due to government regulation, corruption, crime, or any of the various things that can happen that hurt mining companies.
Fourth, Agnico Eagle has a lot of exploration property, and while the company’s capital expenditure budget is down for the year due to lower gold prices, there is a possibility that the company will find a new mine or expand the resource base on one of its existing mines.
Given all of these reasons Agnico Eagle deserves to trade at a premium to its peers on a price to cash-flow basis. I also think it is a good way for investors to play a rising gold market. With that being said, the company’s low risk portfolio does come at a price, and there are other gold mining companies that offer superior value. For instance, Kinross Gold (NYSE:KGC) trades at roughly the same valuation as Agnico Eagle, although it is going to produce more than twice as much gold next year at roughly the same cost. Not only that but it owns mines in jurisdictions with low tax rates, which means that Kinross’ production costs might be lower than Agnico Eagle’s. Therefore, if you don’t mind owning a gold miner that operates in riskier jurisdictions this might be a better stock to own. But if you are looking for a company that has very little political risk, production growth, and low production costs Agnico Eagle is a solid choice.
Disclosure: Ben Kramer-Miller is long Kinross Gold shares.