California Break Lease Credit Report by olg16391


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									Gold Mining Industry

                        Cindy Chen
                          Julia Lee
                       Weiwei Sun
                        Patrick Tan
                       Johanne Lee
Gold Mining Industry

Overall Introduction
Structure of Industry
Financial Structure
Risk Assessment
Regulatory Environment (FASB)
Overall Introduction

Major Product

  –Direct Substitutes
  –Indirect Substitutes
     •Blooming economic
        Production Process (Tech.)

Exploration    Exploration Drilling   Open Pit Mining

 Blasting      Underground Mining     Ore and Waste Haulage
    Production Process (Tech.)

Heap leaching     Milling    Oxidization

   Leaching     Stripping   Electro-winning
Production Process (Tech.)

Smelting   Gold Bullion   Refining

    Structure of Industry

Market Dynamics:
  – Gold price change
Recent Change in Gold Price
Year 2000 – present
Structure of Industry (cont’d)

•Major companies (selected by assets)

  – Barrick Gold Corp.          –   Meridian Gold
                                –   Agnico-Eagle Mines
  – Newmont Mining              –   Glamis Gold
  – Kinross Gold Corp.          –   Goldcorp Inc.
                                –   Cambior Inc.
                                –   Ivanhoe Mines
                                –   Placer Dome
Financial Structure

Cost Structure
  –   Exploration, research and development
  –   General operation costs
  –   Depreciation, depletion and amortization
  –   Interest expenses
  –   Write-down of assets
  –   Other
Financial Structure

Revenue Composition
  – Mining revenue
  – Interest income revenue
  – Financial activities revenue (ie. Hedging)
Risk Assessment

Nature of Mineral Exploration and Mining
Environmental Risks
Reserve Estimates
Worldwide Operations
Licenses and Permits
Risk Assessment (cont’d)

Interest Rate Risk
Foreign Exchange Rate Risk
Commodity Price Risk
Derivative Instrument Risk
 - Credit risk
 - Market liquidity risk
 - Mark-to-market risk
Energy Risk
Risk Management Strategies

Use of derivatives on commodities
  – Hedging on Gold
Use of derivatives or other financial
  instruments on non-commodity items
  – Not Hedging on Gold
  – On fuel, interest rate and foreign exchange rate
FASB 133

 Requires companies to recognize all derivatives
  instruments as assets or liabilities in the financial
 Measured at fair market value
 Classification of hedges:
   –   Fair Value Hedge
   –   Cash Flow Hedge
   –   Currency Hedge
   –   Non hedging derivatives
BARRICK Gold Corporation
Corporate Profile

Entered Gold Mining Business in 1983
Has operations in the United States, Peru,
 Tanzania, Chile, Argentina, Australia and
Proven and probable mineral reserves of
 86.9 million ounces of gold
Hedging Philosophy

 Creates stable, predictable returns regardless of
  short-term market conditions.

 De-linking Barrick's earnings from the volatility
  in the spot gold market.

 Creates additional cash reserves that can be used
  to acquire new assets to accretive to earnings.
Hedge Position

Barrick hedges approximately 18% of its
 gold reserves.
  – 16.1 million ounces or 3 years of expected
    future production

Between 1991 and 2002, Barrick's forward
 sales program allowed the company to
 generate additional revenue of $2.2 billion
Risk Exposures

 Gold and Silver Price Risk
 Interest Rate Risk
 Foreign Exchange Risk
 Derivative Risk
  a)   Credit Risk
  b)   Market Liquidity Risk
  c)   Mark-to-Market Risk
 Hedge Position

Current hedge position
Financial Statements Tour
Hedging Instruments

Spot deferred forward Contracts (90%)
Variable price Contracts
Spot Deferred Contract

 The spot deferred contract is a commitment by the
  producer to deliver a fix amount of gold to the contract
  counterparty at a time in the future at a fixed price.
 The forward price of the contract is based on the spot
  price on the date of the contract plus a premium
 The contango is the difference between the LIBOR less
  the gold lease rate.
 The difference between a spot deferred contract and a
  simple forward contract is that the spot deferred contract
  can be rolled over into a new contract on delivery date.
Spot Deferred Contract:
 The counterparties do not have unilateral and
  discretionary „right to break‟ provisions.
 There are no credit downgrade provisions.
 Barrick is not subject to any margin calls –
  regardless of the price of gold.
 Barrick has the right to accelerate the delivery of
  gold at any time during the life of its contracts.
  This flexibility is demonstrated by the terms that
  allow Barrick to close out hedge contracts at any
  time on two days notice.
Spot Deferred Contract:
Barrick‟s trading agreement also specifies that the
  counter parties can opt for early close out of their
  contracts in the event of:
 a material and lasting impact on Barrick‟s ability
  to deliver gold
 the counterparties being unable to borrow gold to
  facilitate the forward contracts
 Barrick having a net worth of less than $2 billion
  (currently 3.2 billion)
 Barrick having a debt to net worth ratio of more
  than 1.5-2.0:1 (currently 0.25:1)
      How It Works

                            Bullion Bank
                                                         Central Bank

      Barrick enters into the spot deferred contract with the Bullion
      How It Works

                             Bullion Bank
                                                        Central Bank

          Bullion Bank borrows gold from the Central Bank
      How It Works

                     Bullion Bank
                                              Central Bank

                    Spot Market

          Sells the gold in the spot market
      How It Works

              Bullion Bank
                                   Central Bank

                                    1% lease rate

              Interest earned 4%
      How It Works

                       Bullion Bank
                                                  Central Bank

          At the delivery date Barrick delivers the gold
      How It Works

                           Bullion Bank
                                                    Central Bank

 Bullion Bank pays Barrick and returns the gold to the Central Bank

 Barrick faces huge opportunity losses should
  gold prices increase
 If gold lease rate rises above the Libor rate then
  forward prices will be in backwardation
 If Barrick‟s counterparties are not able to borrow
  gold to facilitate the contract Barrick can be
  forced to deliver gold at an unfavourable price
Newmont Mining Corporation

   Creating Value with Every Ounce…
Corporate Profile

Incorporated in 1921
Other than gold, also engages in the
 production of and exploration for silver,
 copper and zinc
Has operations in North America, Canada,
 Australia, New Zealand, Indonesia,
 Uzbekistan and Turkey
Owns 86.9 million equity ounces of gold
Creating Value with Every Ounce…

Growing reserves
Strengthening asset base
Increasing earnings per share
Paying higher dividends
Improving financial strength
Gold Sales

Gold sales are made at the average price
 prevailing during the month, in which the
 gold is delivered to the customer, plus a
Revenue is recognized when the price is
 determinable upon delivery with title
 transferred to the customer
Hedging Philosophy

A non-hedger
Viewing gold as an equivalent to money
Creating paper gold is considered too risky
Risk Exposures

Commodity Price Risk
Foreign Exchange Risk
Interest Rate Risk
Commodity Price Risk

Metal prices fluctuate
  – Due to demand, forward selling by producers,
    central bank sales, purchases and lending,
    investor sentiment, and global mine
    production levels
Forward sales contracts with fixed and
  floating gold lease rates
Foreign Exchange Risk

 Subject to local currency exchange rates against
  the US dollars
   – A devaluation of local currency is neutral or
     beneficial, and vice versa
 Currency swap contracts
   – To hedge the currency risk on repayment of US$-
     denominated debt
 Cross currency swap contracts
   – To receive A$ and pay US$
   – Designated as hedges of A$-denominated
Interest Rate Risk

Interest rate swap contracts
Against the interest rate risk exposure from
  bonds, notes, debentures, and other debts
  – A reduction in interest expense of $5.9 M
    in 2002
Hedge Position

Currently working to eliminate the hedge
 book inherited from the acquisition of
  – Hedging 80~95% of total reserves
About 10.3% of Newmont's proven and
 probable reserves were subject to
 derivative contracts
Fair Values of Instruments

Gold Commodity                 Ounces   Fair Value
Contracts                       (000)     (000)
Gold Forward Sales Contracts   3,332    (209,717)
Gold Put Option Contracts      1,544    (22,603)
Gold Convertible Put Options   1,459    (125,486)
Gold Sold Convertible
                                240     (14,295)
Put Options
Price-Capped Contracts          377        n/a
US$/Gold Swap Contracts         600     (87,200)
Fair Values of Instruments

Other Sales Contracts,
Commodity and Derivative        Fair Value (000)

Cross Currency Swap Contracts             (8,500)

Currency Swap Contracts                  (21,924)

Interest Rate Swap contracts               13,800

Fixed Rate Debt                             1,075
Annual Report 2002
Financial Highlights

In 2002:
At an average realized gold price of $313
  per ounce
Sold 7.6 M ounces of gold
Revenue of 2,745 million
Net cash of 670.3 million
Financial Highlights

 Cash Flow Hedges
   – Accumulated Other Comprehensive Income (Loss) of
   – Gain (Loss) on Derivative Instruments of (39.8M)
     Under Financial Statement
 Interest Swaps
   – Interest, Net of Capitalized Interest is recorded as an
     expense of 129.6M
 Foreign Currency Exchange Contracts
   – Dividend, Interest, Foreign Currency Exchange and
     Other Income of 39.8M
Kinross Gold Corporation

    “Timing is Everything”
Corporate Profile

 Formed in 1993
 The 7th largest primary gold producer in the
 Highly leveraged to changes in the price of gold
 A strict non-hedger (approximately 3.5% of
  reserves hedged falling to zero by early 2005)
 Majority of production in North America
 Highest beta to bullion responses in a rising gold
  price environment
Operating Highlights

888,634 gold equivalent ounces
Total cash cost US$201 per ounce
Net Loss per share US$0.32
Cash flow provided from operating
 activities US$0.53 per share
Risk Exposures

Commodity Price Risks
Foreign Currency Exchange Risk
Interest Rate Risk
No Speculative or Trading Purposes
Commodity Price Risks

Financial instrument in use:
 Spot deferred contracts
   – 312,500 ounce @ $280
 Fixed forward contracts
   – Unknown
 Written call options
   – 150,000 ounces @ $326
   – Recorded in the financial statements at each
     measurement date.
Foreign Exchange Risk

Financial instrument in use:
Foreign exchange forward contracts
  – Sell U.S. dollars and buy Canadian dollars
  – CDN $25.8 million at an average exchange
    rate of 1.5175
  – Mature over a 12 month period
Interest Rate Risk

Financial instrument in use:
Interest rate swaps
  – There are no interest rate hedging transactions
    outstanding as at December 31, 2002.
  – Probably due to lax monetary policy
Energy Price Risk

Financial instrument in use:
Crude oil forward purchase contracts
  – As at December 31,2001
  – Buy 28,500 barrels of crude oil forward at a
    price of $20.83 per barrel.
  – No hedging agreements in place
Fair Values of Instruments

In 2002:
$20.3 million recorded as loss on forward
$0.8 million recorded as loss on foreign
  currency contracts
Financial loss

Loss incurred from Interest and other
  – $65.6 million
Share in loss of investee companies
  – $12.9 million
  Mark-to-market loss on call options
  – $2.7 million (pg 88)

Risk Management Philosophy

 Barrick   De-linking Barrick's
           earnings from the volatility
           in the spot gold market.
 Newmont   non-hedging philosophy
 Kinross   non-hedging philosophy
Recommendation: Barrick

To maintain its current hedge book
In-line with its hedging philosophy
Not cave in to shareholder pressure
Recommendation: Newmont

To keep reducing its hedge book to zero
In-line with its non-hedging philosophy
Not creating paper gold and thus
  fluctuating gold prices
Recommendation: Kinross

To remain as a non-hedging firm
Since Kinross is small in size, relative to
  others, one way to attract investor is to
  offer higher beta to bullion price
Empirical Studies on Hedging in
Gold Mining Industry
Investors value volatility when it comes to
 gold mining stocks
The more a firm hedges gold price risk the
 worse it is for their stock return
Gold mining firms that aggressively hedge
 gold price are not maximizing shareholder
                ~~Matthew Callahan, “To hedge or not to hedge…from
                the North American gold mining industry”

Overall, a decreasing trend on hedging
  position is observed
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