Hedging their bets (October 03, 1988)

A falling gold price might normally cause gold-mine operators to shudder, but recent developments in bank-related financing and hedging techniques have afforded a degree of protection to big and small producers alike.

Most gold producers in Canada and other countries appear to have taken advantage of a number of financing mechanisms, including forward selling, put or call options and gold loans, available to them today as a means of hedging their investments.

The price of gold, which last December briefly topped the $500 per oz mark, recently fell below $400 for the first time since February, 1987. Although averaging about $450 to date this year, the gold price languished during the summer months (hovering in the $430 range) before plunging in September. At presstime, the London morning fix was $397.65.

(All dollar figures are in U.S. currency unless otherwise noted.)

Counted among the “majors” which have turned to the financial markets is Hemlo Gold Mines (TSE), operator of Canada’s largest gold mine (its Golden Giant mine at Hemlo produced 369,300 oz last year) and also the lowest cost producer ($116 per oz for the first six months of 1988) in the nation. Company commitments

Committed to sell 84,000 oz of gold in 1988 at an averge price of $492, the company, which is controlled by Noranda Inc. (TSE), also has arranged a gold loan of about 45,000 oz worth about $540(C) per oz. The company also en gages in option programs; a current commitment, exercisable up to June 28, 1989, involved the selling of calls at $543 per oz on 75,000 oz and the purchasing of puts at $444 per oz on 155,000 oz.

Another major, Corona Corp. (TSE), which is forecasting gold output (minus production from the Williams mine at Hemlo, which is the focus of an ownership lawsuit) in 1988 of 300,000 oz and in 1989 of 425,000 oz, has sold forward or entered into option programs which cover more than 50% of its output during the next year, at a price averaging $470-$480. Corona’s cash operating price is about $180 per oz.

At Lac Minerals (TSE), the company reported earlier this year its delivery commitments in 1988 were 212,000 oz at an average price of $483, and 110,000 oz in 1989 at an average price of $414 per oz. Lac’s partner at the Doyon mine in northwestern Quebec, Cambior Inc., says that during the final four months of 1988, it will deliver 55,000 oz gold, or 77% of planned production for the period, at $444 per oz. Cambior says it is also committed, during the 4-year period 1989-92, to forward sales totalling 250,100 oz at varying prices.

The policy at Placer Dome (TSE) is to limit the company’s forward sales and options contracts to 50% of the annual output (expected to top 800,000 oz this year), although in an unusual situation that figure could be exceeded, Donn Morgan, director market research, said. In addition to forward sales and option contracts, Placer Dome has gold purchase warrants outstanding.

Among the small producers, Rayrock Yellowknife Resources (TSE) has sold forward 50% of its estimated quarterly output for the final three months of 1988, at a minimum price of $475. “We’ve been participating in forward sales for some time,” Bruce Burton, vice- president finance, said. Rayrock’s share of production in 1987 from a number of gold projects totalled 36,000 oz.

Rayrock is a partner in the Marigold gold project in Nevada which is set to go into production during the summer of 1989, and Burton said the company is considering arranging a gold loan to help cover production costs there. Gold loan

About to become a first-time producer, at its First Canadian property near Val d’Or, Que., Aur Resources (TSE) recently arranged a gold loan of 15,000 oz worth about $8 million. The selling price was about $430 per oz and covers 31% of the mine’s production during the first two years of operation.

Outside Canada, Newmont Mining turned a few heads earlier this year when the New York-based company announced it had arranged a gold loan of one million ounces worth about $448 million, to be repaid over a five-year period. Newmont’s 90%-owned subsidiary Newmont Gold is forecasting output of 1.6 million oz by 1990.

Among the companies not participating in forward selling or other financing schemes is gold-silver producer Agnico-Eagle Mines (TSE), whose Telbel mine in northwestern Quebec turned out almost 75,000 oz gold in 1987.

(Gold loans, made popular in Australia a few years ago, allow a mining company to borrow an amount of gold, for example from a bank, and to sell it forward at the current rate. The bank charges a minimal rate of interest to the company, which is obligated to return the gold in kind to the bank within a specified time period.

Selling forward is a means of guaranteeing a price on delivery of the commodity at a future date. Similarly, an options program allows the producer to reduce his risk in selling his commodity by locking in, at the time the trade is made, the price of the commodity at a designated time in the future.)

Securing financing through a gold loan or a hedging program does not preclude other troubles developing, as Pacific Trans Ocean Resources (TSE) found out recently when it ran into start-up problems at the Ketza Rive r gold project in the Yukon. Working capital problems have developed there, in part because of excessive dilution. While Pacific owes project partner Canamax Resources (TSE) $1.2 million in capital and operating costs, Pacific was reported (N.M., Sept 12/88) to be in arrears on the initial payment on its 20,000-oz gold loan. The company was reported trying to arrange interim financing. Mine financing

Metals Economics Group of Halifax, in a recent report on gold loans, lists a number of factors it believes will affect the future of bank-related mine financing. Mining projects, it writes, are growing in both size of operation and mine life, while also becoming more metallurgically complex. Also, some of the larger projects are being developed in regions of the world (Pacific area, South America) considered less stable politically than North America and Australia.

“The gold industry has become increasingly internationalized in recent years, and the trend is expected to continue, with more companies branching out overseas and more multinational partnerships being formed for new project development,” writes the research firm, which expects the trend towards larger loans will continue. It also foresees banks trying to reduce their risks by seeking “more equity-related positions such as stock in companies, net profits interests or structured participation in gold-price rises.”

Consolidated Gold Fields reports the average cash operating cost at non-communist world gold mines in 1987 was $227 per oz, up $39 from the previous year. (Canada’s average cost was $209 last year.) Remarkably, the average price of gold rose by $79 in 1987, to about $447.

Obviously, most gold-mining companies are in a position to make money at today’s prices, the current situation being far different from the days gold was pegged at $35 per oz, an arbitrary figure which ruled the market between 1934 and 1968.

Forty years ago, in the late 1940s, Canadian gold-mine operators were in dire straits. “Most of the several hundred gold mines in Canada operating in 1940 had closed or had begun to feel the pinch by 1949,” wrote T.P. Mohide (then with the Ontario Ministry of Natural Resources) in his 1981 publication “Gold.” The latter part of the Second World War had been particularly hard on the mines.

Reacting to the situation, the federal government in 1952 enacted the Emergency Gold Mining Assistance Act, under which mine owners could apply for a grant to improve the return of their operations. While the legislation stayed in force until 1976, it was rendered redundant after the price of gold was allowed to float in 1968. Freed of any restraints, the gold price rose steadily over the next few years, peaking at $850 in January, 1980.

Chart Oz prod Cost* Mine Company 1987 US$/oz Arthur White Mine Dickenson/Cambior 63,837 323 Bachelor Mine Bachelor Lake Mines 4,391 280 Bell Creek Mine Canamax 9,558 330 Blackdome Mine Blackdome Mining 46,698 217 Bousquet Mine Lac Minerals 86,548 328 Camflow Mine American Barrick 29,763 237 Campbell Red Lake Placer Dome 235,423 132 Chimo Mine Louvem 39,178 n/a David Bell Mine Corona-Teck 130,122 141 Detour Lake Mine Placer Dome 53,648 378 Dome Mine Placer Dome 132,017 322 Doyon Mine Lac/Cambior 248,542 182 Erickson Mine Total Erickson 36,847 252 Ferdeber & Dumont Belmoral Mines 52,830 280 Giant Mine Giant Yellowknife 73,344 371 Gold Division Agnico-Eagle 74,818 200 Golden Giant Hemlo Gold 369,300 126 Kiena Mine Placer Dome 67,113 270 Lac Shortt Division Minnova 53,889 267 Lupin Mine Echo Bay Mines 193,105 181 Macassa Mine Lac Minerals 67,800 274 MacLellan Mine LynnGold Resources 39,624 267 Montauban Mine Muscocho Resources 11,281 n/a Mt Skukum Mine Total Erickson/Agip 44,320 157 Page-Williams Mine Lac/Corona 242,500 167 Orion Mine Malartic Hygrade 18,595 197 Renabie Mine Am Barrick-Corona 38,614 283 Star Lake Mine SMDC 33,000 132 Sigma Mine Placer Dome 64,233 265 Timmins Division Giant Yellowknife 120,727 354 Yvan Vezina Mine Cambior 11,539 n/a *Assumed exchange rate 0.75 (weighted average for 1987) See Page A27