Gold miners are back on the prowl
Johannesburg - Just eight months ago, half of South Africa’s gold mines were bleeding cash as their losses and debts mounted. Now, profit is the highest in a decade, and producers who had been searching for ways to cut back are instead hunting for acquisitions to expand.
The about-face reflects a rare double-dose of good fortune for an industry that saw two decades of output declines, violent labour unrest and rising costs to sift out nuggets from some of the world’s deepest and most-dangerous mines. Not only has gold rallied in 2016 - outperforming every major asset - but profit on the sale of bullion for dollars has been turbocharged by a plunge in the value of the South African rand, which reduces the domestic cost of production.
Harmony Gold Mining Company, which last year had the highest production costs of any major producer, will make about R160 000 on every kilogram ($326 an ounce) it sells in the first quarter, compared with a loss of R14 000 a year earlier, according to company data. Harmony shares, after plunging 28 percent in Johannesburg last year, have skyrocketed 489 percent since December 1, leading a surge among South African producers, including Gold Fields and Sibanye Gold.
“It’s been an incredible turnaround,” said Andrew Lapping, the chief investment officer at Cape Town-based Allan Gray, which manages $28 billion, including Harmony shares. “Gold companies haven’t had margins like this for at least a decade.”
Bullion has surged 20 percent this year to $1,274.21 an ounce in London, halting a three-year slide that saw prices tumble as much as 46 percent from a record high in 2011. The surprise rally has been fuelled by a slowing global economy. Investors are buying gold as a hedge, betting central banks will keep interest rates low to spur growth.
At the same time, the rand has extended its slump against the dollar, dropping 22 percent in the past year. Over that same period, gold priced in rand surged 38 percent, touching a record-high of R636 000 a kilogram on March 3, beating gains in currencies for the top five producers - China, Australia, Russia, the US and Peru.
The prospect of higher revenue and lower costs helped the FTSE/JSE Africa Gold Mining Index, which tracks five South African producers, to double this year. The companies now fetch a premium compared with peers outside the country, based on the ratio of share price to cash flow. Historically, they traded at a discount. The surge in valuation has emboldened executives to consider expansion by using shares to acquire overseas assets.
“Our relative valuation is showing that we have a currency that’s trading at a higher multiple than many others,” Neal Froneman, the chief executive officer of Westonaria, South Africa-based Sibanye, said of the company’s shares. “You can start using your currency, which gives us the opportunity to look at targets outside of South Africa.”
The shift has been remarkably fast. In the middle of last year, almost half the mines of South Africa’s four biggest producers were losing money. Graham Briggs, who was the CEO of Randfontein, South Africa-based Harmony until last month, said in May that the company would consider winding down unprofitable operations by the end of the year. Harmony had negative free cash flow in 2013, 2014 and 2015, according to data compiled by Bloomberg.
In 2014, AngloGold decided to spin off its local operations, partly because of rising costs and worsening market conditions, but held off after investors rejected an accompanying share sale. In July, CEO Srinivasan Venkatakrishnan said gold mining in South Africa would be a “sunset industry” unless major changes were made, such as making it more difficult for unions to call a strike.
A lifeline began to appear around June, when the rand began a freefall against the dollar, fuelled by a weakening South African economy and the prospect of higher interest rates in the US. The rand slid to a record low in January, about a month after President Jacob Zuma unexpectedly fired his finance minister. The slump reduced domestic costs for companies that report earnings in dollars and boosted revenue for those reporting in rand.
The currency slump was a “game changer” for South African gold miners, said Pan African Resources CEO Cobus Loots, who’s considering making acquisitions elsewhere in Africa and boosting dividends.
Gold prices in rand rallied even more than metal sold in dollars, climbing 33 percent since June 1 and touching a record of 636,230 rand per kilogram on March 3. That’s well above Sibanye’s estimate of its 2016 production costs, at R425 000, and Harmony’s forecast of R435 000 through June 30.
After 130 years of mining shrank reserves, the South African companies are now looking to snap up assets from distressed producers abroad. Harmony is looking at Papua New Guinea and sub-Saharan Africa, while Sibanye’s Froneman said he sees opportunities in Ghana, Mali and Tanzania. Gold Fields wants to buy preferably in foreign locations where it already has holdings, including Peru and Australia.
“The current environment for us is very good at this rand-gold price,” said Frank Abbott, Harmony’s finance director. “It should be a good time for M&A.”