Barrick Gold Shakes Up Management: 2 Reasons Not to Buy

Source: Thinkstock

Source: Thinkstock

Barrick Gold (NYSE:ABX) is the largest gold mining company in the world by production, although it isn’t by market capitalization [that title is held by Goldcorp (NYSE:GG)]. One of the reasons for this is the company’s failure to generate shareholder value over the years despite a very strong gold market. If you had bought Barrick Gold back on December 31, 1999, your position would be up just 5 percent along with some, but not much, dividend income. Meanwhile the gold price is up five-fold.

The reason for this is that Barrick’s management has done a poor job of managing shareholders’ capital. As a result we have seen managerial shakeups in the past several months. The company’s founder and chairman Peter Munk was replaced late last year, and now we have learned that the company’s CEO Jamie Sokalsky is stepping down to be replaced by two co-presidents Kelvin Dushnisky and Jim Gowans, who are both currently senior executives with the company.

While the stock is outperforming the broader sector as a result, I do not think that this is a buying opportunity. There are two reasons for this.

The first is that both of these new co-presidents are insiders. While they haven’t been at the helm, they have been around while the company has had its problems, and as an outsider who has been skeptical of Barrick in the past, I see no evidence that these two executives have what it takes to fix the company. I would have preferred that the company brought in an outsider to do the job, and I don’t see the advantage of having two co-CEOs.

The second is that Barrick has the same problems that have been plaguing it for some time now. These include:

  • A huge–$13.2 billion— debt load.
  • Too much copper exposure.
  • Minimal growth.
  • Exposure to risky jurisdictions.
  • Public relations and labor relations problems throughout the world.

These are all reasons to avoid the company until the new management team comes out with a plan to address each of these issues.

Investors looking at gold miners should, for the time being look for opportunities elsewhere. Here are a few tips.

First, if you want gold exposure then buy gold! While this sounds tautological too many investors want to try to outsmart the market by buying mining shares—which are supposedly leveraged to the gold price—or other fancy vehicles such as options or leveraged ETFs. But the fact is that you would have made more money simply buying gold than had you bought shares in the majority of miners or in leveraged gold vehicles. A five-fold return on your money even after a 40 percent correction in the past three years is nothing to sneeze at.

So before you start to play around in mining shares, buy yourself some gold coins, or if you want a trading vehicle consider the Sprott Physical Gold ETF (NYSEARCA:PHYS), which has favorable tax treatment relative to the more popular SPDR Gold Trust (NYSEARCA:GLD), the gains from which are taxed at the 28 percent collectibles rate.

Second, consider the gold royalty and streaming companies. These companies have outperformed the mining stocks, the price of gold, and virtually every global stock market over the past several years. They offer the leverage that mining companies promise without production cost risks. You see, one of the problems with the claim that mining companies offer leverage to the gold price is that this only holds true if production costs remain flat. If the price of gold rises $100/oz. and the cost to produce an ounce of gold rises $100/oz. then the gold miner isn’t going to make any more money at the higher price.

Royalty and streaming companies, on the other hand, have fixed costs of either $0 or a figure well below the current gold price. Royalty companies also don’t have exploration costs, and they don’t have to repair mines, buy equipment, or deal with angry workers. They just sit back and collect money. For this reason the royalty companies are expensive, but they are worth buying when their prices come down. The two biggest in the gold space include Franco Nevada (FNV) and Royal Gold (RGLD). Both companies have various royalty agreements giving them diversification, and they have extremely high profit margins, meaning that they can make money even if the gold price falls.

Disclosure: Ben Kramer-Miller is long Royal Gold.

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