TGR: A June 15 BMO Research note states that you have "moved toward a more constructive view of the senior gold miners." Have the senior miners slimmed down and become more efficient?
AK: They were forced to do so by the decline in the price of gold. They have been forced to move their companies to the point where they can operate profitably at a lower gold price.
They have achieved this in a number of ways. First, they have reduced their corporate overhead on an absolute or per-ounce basis quite substantially. Second, they began readjusting their capital programs. They scaled back new project development and reduced sustaining capital budgets dramatically.
TGR: Have the senior miners increased efficiency at the cost of compromising their reserves?
AK: This is a matter that concerns investors. Reducing stripping in open-pit scenarios decreases sustaining costs but also results in fewer ounces mined. So, sustaining capital has declined because reserves have declined. It is our view, however, that producers have not cut as deeply as investors may think, that they have not rationalized sustaining capital levels to the point where they compromise mine lives.
TGR: You initiated coverage on six gold producers in June. Could you talk about the two that you have rated Outperform?
AK: They are Goldcorp Inc, to which we have given a 52-week target price of $22 and Barrick Gold Corp, for which our target price is $16.
I'll start with Goldcorp. Its shares began underperforming relative to its peers after weak Q1/15 results were announced. These surprised the market, which immediately began focusing on recent criticisms of the company: It missed guidance from 2014 and its balance sheet suffered through recent very large capital programs. This led to concerns about debt and worries that the company would neither meet its 2015 production guidance nor generate free cash flow. This is a market situation I like to call "maximum ugliness."
The reality is that most of the issues Goldcorp was dealing with have been or are being resolved. We expect the company will meet its guidance. We expect it will show free cash flow sufficient to support its dividend, repair its balance sheet and invest in future opportunities. Goldcorp shares are lagging now, but we expect that investors will soon become cognizant of the new realities, and shares will outperform throughout the remainder of 2015.
TGR: Goldcorp has over the last 12 months brought on-stream three new mines: Éléonore in Quebec, Cochenour in Ontario and Cerro Negro in Argentina. That has to be a positive for its shares, right?
AK: Absolutely. Two of those new mines were declared commercial in Q1/15, and as this new suite of mines ramps up production, there's a real opportunity for investors. These mines can be optimized at higher production rates. They'll have healthy reserve grades for the next couple of years and the capacity to grow over time. Goldcorp shares are suffering now because there were a few hiccups along the path to production, and this wore thin the patience of investors.
TGR: Goldcorp dropped out of a bidding war over Osisko Mining. Is it now looking for another major acquisition?
AK: This is a company built on acquisition. You could say that this is in Goldcorp's DNA. It does not invest much in greenfields exploration like some of its peers; it prefers to buy projects it can then develop. I think the Osisko bid hurt Goldcorp shares because investors believed it was too soon, that it should have resolved the problems I mentioned before it started buying. Once investors are persuaded, as we are, that the company has or soon will resolve these problems, they will be more than willing to support future Goldcorp acquisitions.
TGR: Tell me what you like about Barrick.
AK: This is a story about transformation. Barrick is the largest gold-producing company globally, but it was directionless until the beginning of this year, when it articulated its new plan. The company is now focused on quality, on its core assets and on reducing debt. In the execution of this plan, we are seeing a much healthier Barrick emerge. This is a company with the potential to look at good-quality growth opportunities and plan for the next generation.
Ours is not a universally accepted view. Some investors are quite critical of our thesis. But we maintain that a slimmer, smaller and much more profitable Barrick is one that can begin to rebuild in a manner very attractive to investors.