After a horrible 2013 marked by controversy and plunging earnings, Australia’s Newcrest Mining allowed itself to have a good day last week.
A grateful NSW Premier Mike Baird thanked the company for the thousands of jobs and hundred of millions of dollars being pumped into a largely supportive local community as he opened the new Cadia East mine in central NSW.
The country’s largest underground gold mine was a great story that would underpin Newcrest’s future for the next couple of decades, Newcrest’s outgoing chief executive Greg Robinson said last Wednesday.
As Australia’s largest gold miner, what Newcrest or Robinson have to say matters to anyone invested in gold and the comments about Cadia East were significant.
The technically sophisticated, low cost project is its flagship – but it shouldn’t be.
Its biggest asset is Lihir Island in Papua New Guinea, which cost nearly $10 billion to acquire in 2010.
Incoming chief executive Sandeep Biswas chatted with former Newcrest boss Ian Smith at the Cadia East event.
Perhaps the conversation topic was the high-cost, problematic elephant in the room of Lihir, given it was Mr Smith’s idea to buy it and Mr Biswas’s main priority from July will be running it properly so it actually makes money.
“They should be commended for the scale and quality of the job they have done at Cadia East,” UBS analyst Jo Battershill told AAP.
“The Lihir transaction and subsequent execution of a proposed plan has been very, very poor and unfortunately more than offset the good work done at Cadia.”
Lihir represents 55 per cent of Newcrest’s book value, 40 per cent of its reserve base and 35 per cent of its production profile going forward.
But it is costing about $US1,250 to produce an ounce of gold there, more than double Cadia’s costs and is barely generating any cash.
Newcrest needs to spend another $1.3 billion developing Lihir, says Mr Battershill, and is currently not even mining it, instead processing stockpiles to cut costs amid the 30 per cent plunge in the gold price in 2013.
“It makes it very hard to have a positive investment case on a company where the biggest asset of the company is just washing its face (breaking even) and you are just going to keep it running on stockpiles,” he said.
“If the gold price doesn’t rise is the company willing to commit $1.3 billion to give it a chance of generating cash.”
Mr Robinson argued at the mine opening that Lihir was going through a similar process Cadia had already been through, optimising production and reducing costs.
“It is not where we want it yet but I am very optimistic looking to the future for Lihir,” he said.
He also said he was comfortable with the margins the company was earning on the current $US1,280 to $US1,330 an ounce band the gold price had been in for the past six months.
However UBS is predicting a more subdued average gold price of about $US1,250 this year and $US1,200 next year.
Morningstar’s assumption long-term is $US1,100, a far cry from the $US1,900 of 2011, when gold rose for a decade and many thought it would never fall.
If the US continues to ease its money-printing stimulus package and interest rates rise, that could put more downward pressure on the gold price.
Newcrest’s options would then be to try and tough it out until the good times return – while servicing $4.7 billion debt – or cut their higher cost, unprofitable projects adrift, including Telfer in Western Australia, Bonikro in Ivory Coast and Hidden Valley in PNG.
Mr Battershill says it’s a difficult decision because Newcrest does not want to alienate its many offshore investors who are in it for the security of the company’s large gold reserves and their faith in the gold price going up long-term.
Those marginal assets can quickly become profitable.
Newcrest’s share price is up a healthy 32 per cent this year, but its market cap of $7.9 billion is a long way from the $30 billion it was at in 2011.
