Weak Gold Prices And Impairment Will Dull Barrick Gold’s Results

Barrick Gold (NYSE:ABX) is set to announce its first quarter earnings on Thursday, August 1. The average price of gold for the second quarter this year was much lower than the price in the comparable quarter last year. This will impact revenues negatively on a year-over-year basis. Even if production increases, it won’t be enough to offset the impact of lower prices and revenues will decline on a year-over-year basis. Since the gold production target for 2013 has been set at 7-7.4 million ounces compared to 7.4 million ounces produced in 2012, we think that the production for Q2 2013 is unlikely to be much higher, if at all. ^[1]

While the tumbling gold prices are bad enough, Barrick will also take an after-tax $4.5-5.5 billion impairment charge on its crucial Pascua Lama project in its second quarter results. The impairment has come about as a result of crashing gold prices as well as endless delays in the first production coming online at the mine. Recently, a Chilean court ordered Barrick to suspend work on the project till it manages to comply with regulatory demands with regards to the environment. This forced Barrick to delay first production from end of 2014 to mid-2016. ((Barrick Provides Updates on Pascua-Lama Project, Barrick News Release))

See Full Analysis for Barrick Gold Here

Tumbling Gold Prices To Play Havoc With Results

The price of gold suffered a nearly 15% drop in the second half of June alone. It touched a new low of $1,180 per ounce towards the end of June before rebounding slightly to cross the $1,200 mark. Things were set into motion after Ben Bernanke, the chairman of the Federal Reserve Bank, announced that if the U.S. economy and the job market continue to improve, the quantitative easing program could be reduced or withdrawn later this year. Right now, the Federal Reserve is pumping nearly $85 billion into the economy every month.

The withdrawal of monetary injection could lead to a drop in inflation and a rise in interest rates in the long run. Gold is preferred as an investment because it is seen as a hedge against inflation and as an instrument that generates high return in a low interest rate environment. If inflation peters out and interest rates rise, the attractiveness of gold as an investment avenue will be reduced. The U.S. economy appears to be strengthening and money is flowing out of emerging markets back into the U.S. as future expectations strengthen. Within the U.S., money is flowing out of the relative safety of gold and silver into equities, thus exerting downward pressure on gold and silver prices. ^[2]

The price of gold is currently inching upwards and has crossed $1,300 per ounce after Bernanke’s second announcement that economic data continues to remain weak and the Federal Reserve may continue with monetary easing for the time being. Clearly, gold prices are currently being driven by announcements about quantitative easing. If the economy does recover strongly, it may lead to easing out of the monetary stimulus program and accelerate the shift of funds to equity from precious metals, causing gold prices to plunge again.

The falling price of gold affects Barrick quite adversely. In the first quarter this year, it reported a production cost of $919 per ounce of gold. ^[3] At the prevailing market prices, it will not be able to generate significant free cash flows which will affect investment in future growth projects and also impair its ability to service the large debt on the balance sheet. Low prices will also affect the company’s ability to pay dividend to shareholders. We think that this is one of the reasons why the share price of Barrick Gold has dropped so precipitously in the second quarter.

Impairment Charges

Apart from low gold prices, an additional one and a half year delay due to a Chilean court ruling prompted Barrick to announce a hefty impairment charge of $4.5-5.5 billion. The final impairment figure may be much higher than $5.5 billion due to further charges against other assets, including goodwill. It may well turn out to be the highest one-time impairment charge in history for a gold mining company. The highest figure so far stands at $5.5 billion, the quantum of hit Newcrest Mining took as impairment charges in June this year.

We have a price estimate for Barrick Gold of $19, which will be revised once the second quarter earnings results are declared.

Understand How A Company’s Products Impact Its Stock at Trefis

1. Gold Price Charts, Kitco [↩]
2. Explainer: Why Is Price Of Gold Dropping?, Radio Free Europe Radio Liberty [↩]
3. What is the Cost of Mining Gold?, Visual Capitalist [↩]