Low Gold Prices And Impairments Will Impact Barrick Gold’s Profits

Barrick Gold (NYSE:ABX) is set to announce its fourth quarter earnings on Thursday, February 13. The average price of gold for the fourth 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 the production for Q4 2013 is unlikely to be much higher, if at all. ^[1]

In the fourth quarter, Barrick concluded deals to sell the Plutonic mine for $22 million and the Kanowna Belle and Kundana gold mine operations for $66.4 million. In February, it also divested its minority stake in the Marigold mine for $86 million. Some of these deals will be closed in 2014. However, the company said that the sales will have no impact on its production guidance for the year. Since these assets were sold because of their higher operating costs, Barrick’s cost of production may come down marginally in the first quarter in 2014. The fourth quarter results will not benefit much from these sales since it will be recorded in the company’s financial statements in Q1 2014.

We have a price estimate for Barrick Gold of $15, which represents 20% downside to the current market price.

See Full Analysis for Barrick Gold Here

The Price Of Gold

The price of gold this year has been reacting largely to the Federal Reserve Bank’s various pronouncements and hints about continuing or tapering down monetary stimulus measures, better known as Quantitative Easing (QE). The first steep fall in price came in April when the minutes from the Federal Open Market Committee (FOMC) meetings suggested that the bank may stop its bond purchasing program well before the end of 2013. ^[2]

A second steep fall in prices occurred in June when the Federal Reserve Bank chairman Ben Bernanke announced his intention to reduce the quantitative easing program or possibly withdraw it later in the year, if the U.S. economy and job market were to improve. ^[3]

However, gold prices again started inching upwards in July when a second announcement from Mr. Bernanke suggested that economic data continued to remain weak and the Federal Reserve may continue with monetary easing for the time being. In the wake of some positive economic data ahead of the monetary policy review meeting of the Federal Reserve in mid-September, the market largely expected the bank to begin a gradual QE tapering process. Accordingly, the price of gold began falling in September. After a brief rally following events in Syria, gold resumed its downward slide and has been falling since then.

On the whole, the average price of gold for the fourth quarter this year has been much lower than in the fourth quarter last year. Therefore, we expect Barrick to report lower year-over-year profits for the fourth quarter. Low gold prices are a problem for Barrick because it needs to generate enough free cash flow to service its heavy debt burden (nearly $14.6 billion at the end of Q3 2013), meet dividend expectations of shareholders and invest in further growth to ensure steady future revenues. ((Barrick Gold 6-K, SEC))

Impairment Announcements Are Likely

The value of gold mining assets depends to a large extent on the price assumption of gold used in their valuation. A significant downfall in gold prices, especially one that is unlikely to be reversed anytime soon, forces mining companies to reduce the value of these assets on their balance sheets. Given the steep fall in gold prices over last year and the fact that Barrick’s previous reserve valuations assumed a long term gold price of $1,500 per ounce, the company will have to recalculate its reserves using a lower price assumption. The writedown in value will manifest itself as a non-cash impairment charge on the income statement for the fourth quarter and impact the net profit figure. We will have to wait for the company to report this figure in the earnings results. ^[4]

Notable Asset Sales

Barrick is trying to get rid of non-core assets where the cost of production exceeds $1,000 per ounce. Accordingly, it made quite a few deals in the fourth quarter.

It sold its Plutonic gold mine in Western Australia to Northern Star Resources Limited for $22 million. The amount is subject to certain closing adjustments. The transaction will be recorded in the company’s accounts in the first quarter of 2014 as it is expected to close in February. ^[5]

Following this, it sold its Kanowna Belle and Kundana gold mine operations (collectively called “Kanowna”) in Western Australia to Northern Star Resources Limited for $66.4 million. The amount is subject to certain closing adjustments. The transaction will be recorded in the company’s accounts in the first quarter of 2014 as it is expected to close in March. ^[6]

These sales will lower Barrick’s operating expenses and rid it of non-core, high cost mines with short remaining lives. It will also free up management time and enable executives to concentrate on other important operations. The proceeds of the sale are likely be used for general corporate purposes, including the repayment of the company’s hefty debt. Collectively, these mines produce about 100,000-150,ooo ounces of gold per year. Thus the impact on Barrick’s total production of 7-7.4 million ounces will hardly be noticeable.

What We Will Be Watching

We would be keen to hear the management’s view of gold prices in 2014 and beyond. There are a lot of unknowns in the global macroeconomic scenario right now. Following two continuous rounds of tapering by the Federal Reserve, emerging markets are facing headwinds. The state of the Chinese shadow banking system is not very clear. If a banking crisis occurs in China at some point in 2014, there will likely be global panic and gold may again become an instrument of refuge, thus driving up prices.

We are keen to know the status of Barrick’s Pascua Lama project as well. There has been no news on this front for a long time now and the project is crucial for Barrick’s long term growth. Finally, we would like to know if there are more asset sales in the pipeline going ahead.

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1. Gold Price Charts, Kitco [↩]
2. Falling Gold Prices Take Shine Off Mining Majors, Trefis [↩]
3. Weak Gold Prices And Impairment Will Dull Barrick Gold’s Results, Trefis [↩]
4. Gold miners braced for cuts in reserves after plunge in prices, Financial Times [↩]
5. Barrick Announces Agreement to Divest Plutonic Mine in Australia, Barrick News Release [↩]
6. Barrick Announces Agreement to Divest Kanowna in Australia, Barrick News Release [↩]