Friday, November 18, 2011

Eldorado Gold & European Goldfields, Low natural gas price affects production, What happened to Canadian oil company dividends? (no more trusts)

European Goldfields (% chg 5d, 1mo, 3mo, 6mo: -7.93% +29.54% -0.34% +26.5%) - updated as of December 19, 2011
Shares are currently trading above the 200 day moving average (in stark contrast to just a month ago-Nov 18 when they were below it).
For 9 of the last 11 months the stock has suffered (down about 29% until the last month when it showed some resilience, including last month's 18.4% increase the stock is still down 16% last 11 months) due to a longer than anticipated permit review process in which Greece decided whether or not to grant approval for the Olympias and Skouries gold-copper porphyry projects in northeastern Greece (permit initially applied for in 2006) (even after decided the stock continued to fall slightly, down 13% in the 3 months leading to mid November). Skouries alone has the potential to produce at a rate of 350,000 ounces of gold equivalent (about half of that coming from silver). The company took a while even just to make up the 9% stock decline experienced over the two months leading up to the decision (July 12, 2011). Base metals like copper continue their lacklustre showing ($4 August 22, 2011 compared to $4.45 on July 29th) making the copper assets less attractive. Dec.14 after takeover rumous subsided European Goldfields stock fell 8.8% on the day.

The two new permits take away a lot of the risk that scared investors away from the company. Including projects in Turkey and Romania, European Goldfields appears to be well on its way to becoming Europe's largest gold producer by 2013-2014 (over 400,000 ounces of pure gold/yr doesn't include silver and copper). Construction of the mines also won't be a problem with Greece's largest construction company, Ellaktor as its largest shareholder (19.36%), 2nd largest shareholder is Blackrock Investment at 7.3%. More reason to optimistic about the company outlook: takeovers! Eldorado Gold and Centerra Gold both operate projects in some of the same areas and would probably overpay in a takeover. Also, European Goldfields is considering a move to the main London Stock Exchange index moving up from junior AIM. In mid December 2011 there was a run on European Goldfields stock due to hints at a possible Centerra Gold takeover.
Also of note, first production at Olympias will be in 2012 & the company's only source of cash flow currently is a small mine in Stratoni, Greece.

European Goldfields acquired by Eldorado Gold Sunday December 18, 2011 for $2.5B. The new Eldorado Gold will have a market value of about $11 billion and produce 1.5 million ounces of gold by 2015. Shareholders of European Goldfields will receive 0.85 Eldorado shares and C$0.0001 in cash; The price being paid by Eldorado for EGF is about $13.05/share which is a 46.14% premium to the stock's month low of $8.95 reached on November 23, 2011. The deal comes at the same time the company is securing $600M from Qatar Holdings to finance the Skouries and Olympias projects in Stratoni Greece. The following day, on Monday Eldorado Gold pledged to spend $2 billion and create 2000 jobs in Greece over the next several years. Although Eldorado saw total cash operating costs per ounce go up $55 or 13.3% (9mo) owing to lower grade ore mined at Kinsladag (still the largest mine by output but ore grade is less than 1/4 as high as it is at the other mines), there were no negative effects felt on the company's income statement as the price of gold skyrocketed over the year, giving the company a 31% (9 months) and 38% (3rd qtr) boost in price realization per ounce to $1571 & $1700/oz respectively.

Natural Gas & Oil
    Since oil's near term rebound from below $80 back up to the $100 level (last 2 times oil breached that level: Feb 2011 & Oct 2008) many Canadian producers haven't added to their dividends. The reason? Ever since the end of the 2010 fiscal year the majority no longer enjoy the tax free incentive that came with being a trust in Canada, due to new government legislation doing away with the tax benefits (consequently many including Baytex, Vermilion, Provident, Penn West have since converted back into corporations). Although this may cause investors to lose interest it may not be bad for companies in the long run; More profit will be reinvested back into the company through expansionary efforts (they may see tax benefits to that). Berkshire Hathaway, for example pays no dividend even though it owns many companies which do. Maybe they should look to Exxon Mobil for advice, one of the world's ten largest companies it avoided paying US taxes in 2009 (used tax shelter practices to send earnings overseas). Exxon was not alone, of the 1.3 million US corporations only 33% paid taxes in their home country between 1998 and 2005 (another strategy used is using losses from previous years against current gains).

On October 27, 2011 Canada's third largest oil company, Cenovus Energy reported on the third quarter. Overall production was steady however natural gas production was down by more than 10% qoq, a trend not disimilar from its peers in the industry. It also set a long term production target for natural gas at 400-500 mmcf/d which is only half the rate at which it produced gas when the company first split from Encana in 2009. The lower results have nothing to do with resource depletions; Cenovus has been diverting capital expenditure away from gas and into oil which isn't surprising given that oil prices have increased by more than 400% since 2001 while natural gas prices (incluenced by supply and demand particularly the center of US deliveries in Louisina/NYMEX) are near a 9 year low of $3.32/m3. Natural gas was as high as $16 in 2008, $6 in 2009. Even the little amount that has been invested into natural gas assets ($22m in the 3q compared to over $220m for Christina Lake/Foster Creek) was done with a focus on oil ($200m increase in natural gas cash flow due to the $22m capex, was reinvested in oil assets). 36 mmcf/d of gas producing assets were sold off between 3q10 and 3q11. Between 2006 and 2010 Chinese imports of natural gas increased 1500%.
More on Oil Supply and Demand (2011-2016)


Other petroleum companies experiencing steady or declining natural gas production rates: Rosneft - Russia's biggest oil producer; 2.565m bpd in the 1st half of 2011 (up only 2.4% hoh however all of increase comes from crude production which accounts for 92.1% of total production). Canada's biggest petro company, Suncor produced 32.7% less natural gas in the 1st of of 2011. Though the price of gas may currently be a deterrent to asset development (glut of supply from 2009 when prices were much higher) demand remains strong and is sure to push prices higher in the near future (with oil back up around $100 and increasing partially influenced by opec's decision to cap crude production at under 30m bpd, natural gas is a natural energy source alternative). An exception was ExxonMobil, America's biggest producer (4.63 mbpd in 1h11 versus 1.64 mbpd for ConocoPhillips); Exxon reported no significant crude increases in 1st half of 2011 but it did produce 10% more overall due to 23% increase in natural gas and other petro coming from assets in Qatar.
Natural gas use isn't limited to just heating homes. Butane, ethane and propane extracted from it is used as a feedstock for fertilizer. 43% of natural gas demand comes from industrial uses where it ranks second in popularity behind electricity.

Interesting investments (stock change over last 5 days, 1 month, 3 months)
Osisko Mining (-8.86% -5.48% -21.17%) : Only a week ago reported the first quarterly reports as a producer in company history (3q, 2q only produced for 43 days). The company also recently upgraded inferred resources at Hammond Reef to over 10m ounces gold (up 25% since 2009 due to the higher price of gold making production from lower grade ore economically viable). Silver production up 147% quarter to quarter to 40,715, gold production up 172.4% to 73,814 oz, total production costs $939/oz not bad considering gold averaged about $1,700/oz in the July to September period (& the company has not handcuffed itself to hedges). The Malartic mine has more than 10.7M ounces of 2P reserves (up 19.3% in April 2011 affected by new drilling results and changes in the price of gold/ inferred resource up 150%). When Hammond Reef begins producing in 2015 Osisko will produce at an annual rate of at least 1.151M ounces (688th initial production from Malartic + > 463th from Hammond Reef) at competitive cash costs.

Seabridge Gold (-9.33% -15.43% -30.39%) : recently raised $27.4m through a private placement. This is a company with huge potential, with 2P reserves (verified by the same company that worked on Pueblo Viejo) of 38.5M oz for gold and 214M oz of silver giving it an enterprise value per gold equivalent of just 19!! (the value the market places on each ounce of its gold equivalent reserves). Funding remains the only stumbling block (needs at least $4.7B to construct the KSM mine but has only raised $250-350m however more could come soon with gold spiking and one of the world's biggest royalty companies, Royal Gold raising its stake in the project). Though the company has a number of other exploration projects only KSM has proven reserves of gold as well as resources of anything other than gold (KSM also has 10B pounds of copper and 257M pounds of molybdenum).

Harmony Gold (-9.03% 4.88% 3.04%) : South Africa's 3rd leading producer of gold. Still suffers from high production costs and inefficiencies however record breaking gold prices should mask many of those problems. Stock has recorded a lot of its losses only within the last week so be prepared for an upswing if the price of gold rebounds back to $1,800/oz.

Hecla Mining Company (-10.9% 3.47% -15.08%) : Lowest EV (market value less financial assets)/EBITDA ratio among precious metals companies. 3Q 2011 silver production 2.3m ounces at a cash cost of only $0.67/oz!! For the quarter profit was up 183% (up 79.1% in the 9 month period) even though revenue increased by only 4.05% to $120.453m (up 31.8% in the 9 month period). In the January to September 2011 period net income per share is up 147.4% to 47 cents. ytd the company invested $47m in lucky friday (lucky friday produced .9m ounces of silver (2.5m oz ytd, same as in 2010) at a cash cost of $5.94/oz up 75.7% ($5.82/oz ytd up 58.6%) due to higher employment profit sharing + treament costs, even though base production costs fell $1.12/oz. Overall production in the 9 month period 6.992453m ounces for silver (down 11.2% due to a temporary drop in silver grades attibutable to mine plan production sequencing). Hecla Mining has approximately 390m ounces of silver 2P (142.07m: 42.34m @ lucky friday & 99.73m @ green's creek) & inferred (247.2m: 64% @ lucky friday & 22% @ green's creek) resources, total resource was up 13% in 2010.

Outside of mining - (companies I wouldn't build a portfolio without): Alexion Pharmaceuticals (recently received FDA approval for its key drug), Nike and Mattel.

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