Weakness In Commodity Prices Presents An Opportunity To Precious Metal Streaming Companies

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SLW
Wheaton Precious Metals

The recent decline in commodity prices has been a dampener for the prospects of mining companies, but presents an opportunity for precious metal streaming companies. Weak commodity prices have eroded the profitability of most mining companies. With most mining companies also carrying significant amounts of debt on their balance sheets, the weak pricing environment has also negatively impacted the credit ratings of various companies. Given the adverse business environment, raising capital for funding business expenses, particularly capital expenditure, through traditional routes such as debt is a challenging proposition. With capital from traditional sources hard to come by under present business conditions, precious metal streaming deals offer an alternative route for meeting business expenses.

Weak Commodity Prices

Roughly 70% of the world’s mined silver is actually sourced as a by-product of the mining of base metals such as copper and nickel as well as a by-product of gold mining. [1] Additionally, base metal mines also sometimes produce small quantities of gold as a by-product. Precious metals produced as by-products are generally the underlying commodities in streaming deals. The past twelve months have seen a sharp decline in the prices of base metals such as copper and nickel, which have widespread industrial applications, largely due to weak demand conditions as a result of an economic slowdown in China.

LME Copper Prices, Source: LME

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In addition, gold prices have also weakened considerably over the past few months, with fears over a possible interest rate hike by the Federal Reserve weighing on investment demand for gold.

London Fix Gold Prices in 2015, Source: Kitco

As a result of the challenging business conditions, in addition to heavy debt burdens, ratings agencies have downgraded the credit ratings of various base metal and gold mining companies. Among the companies that Trefis covers, Barrick Gold, Vale, and Freeport-McMoRan have suffered ratings downgrades in 2015. This makes issuing debt more expensive for these companies, which, in any case, are trying to deleverage. With the decline in commodity prices, the stock prices of these companies have also declined significantly over the past twelve months, as illustrated by the chart shown below.

Declining Stock Prices, Source: Google Finance

With equity valuations quite subdued, issuing stock is not the most desirable way to raise capital. In addition, with operating cash flows also subdued, financing business expenses, particularly capital expenditure, is a challenge for mining companies. In this environment, precious metal streaming deals offer an attractive source of funding for mining companies.

Streaming Agreements

The year 2015 has been a fairly lively one for Silver Wheaton, the world’s largest precious metals streaming company, in terms of the acquisition of new precious metal streams. The company announced the signing of two big streaming agreements with Vale and Glencore, worth around $1.8 billion combined. [2] In stark contrast, the company did not sign any streaming deals of this size in 2014. A sustained period of weakness in commodity prices has certainly helped Silver Wheaton with the acquisition of new streams.

Beset by a heavy debt burden and the ongoing weakness in gold prices, Barrick Gold signed a $610 million streaming deal in Q3 2015 with Royal Gold Inc. for the sale of a part of the gold and silver produced at the Pueblo Viejo mine. [3] The company plans to use the proceeds from this transaction for debt repayment.

These specific examples of recent streaming deals are indicative of the broader attractiveness of precious metals streaming as a method of raising capital. With the ongoing economic weakness in China, base metal prices are unlikely to recover in the near term. With the threat of a possible interest rate persisting, the upside to gold prices is also expected to remain limited in the near term. Subdued commodity prices will continue to negatively impact the prospects of traditional mining companies. However, subdued commodity prices provide a conducive environment for the signing of more streaming deals, which would benefit the likes of Silver Wheaton.

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Notes:
  1. Silver Wheaton’s October 2015 Corporate Presentation, Silver Wheaton Website []
  2. Silver Wheaton’s Q3 2015 Earnings Release, SEC []
  3. Barrick Closes Innovative Gold and Silver Streaming Transaction with Royal Gold, Barrick Gold News Release []