SilverCrest Metals Has A Free Cash Flow Machine Of A Mine And Are Building Up A War Chest Of Cash, Gold And Silver
My plan is to do a series of reports about issues I see that the mining sector could act on to help their efforts to improve their profile amongst investors. Take for example gold miners, several of them are making a lot of money at the current prices of gold. Yet, they sell all their production and sit on the cash.
A common theme amongst investors in gold and gold miners is that they believe gold is a wonderful hedge against the destruction caused by excessive money printing that inflates away purchasing power. They are absolutely right.
Yet the gold miners for the most part don’t cater to this theme. The average cost of producing an ounce of gold is somewhere around $1400 per ounce, in the second quarter the average price of gold is going to be around $2350. They are ringing the cash register with that margin.
Instead of sitting on some of their gold production, they can’t sell it quick enough for currency to stockpile in their bank accounts. Their rationale is that they have to run their mining business and need cash for operations. Fair enough. But that reason only goes so far as they are making so much money that is well beyond what they need for operations. Plenty of them are sitting on war chests of cash.
They are defeating a key purpose of what makes gold such an attractive asset, being its ability to defend against the ravages of inflation. They too suffer from inflation, and aren’t willing to eat their own cooking.
This is one of the reasons I like SilverCrest Metals so much as they eat their own cooking.
They produce gold and silver at low costs, their rock is high-grade and they have a free cash flow machine of a mine at their Las Chispas mine.
A few quarters ago, they put the mine into full commercial production, with $100 million in debt left over from the debt they needed to build the mine. In the following quarters of commercial production, they paid off the debt, paid $23 million in taxes, bought back shares, and built up a war chest of cash, plus gold and silver bullion giving them a war chest around the same value as the debt they started with upon reaching full commercial production.
Around 25% of their war chest is in gold and silver bullion. They are in the fortunate position due to the low cost of production and high-grade that they don’t need more cash so they can sit on some of their gold and silver production.
It is pretty shocking how rare they are amongst their peers. Almost all gold miners sell their gold and sit on the cash. Meanwhile they promote the virtues of gold as a hedge against inflation, excessive money printing, and unsustainable debt growth.
They rationalize selling all their gold for cash by saying they need it for share buybacks, dividends and financial flexibility for growth through exploration and M&A.
I would argue that the share buybacks and dividends have done very little to help their valuations. Look at the past year, they have bought back stock and paid dividends, yet until recently, their stocks had been left for dead trading at multi year lows.
I would further argue they should poll their shareholders asking if they would prefer them to buy back stock and pay dividends or sit on more of their gold production. I think they would be shocked to find out that a majority of them would prefer them sitting on some of their gold from production. If they offered to pay dividends in gold instead of cash, it would be an almost unanimous decision in favor of gold over cash in the treasuries and for dividends.
The added bonus would be that if more gold miners sat on some of their gold production, it would further tighten up the supply of physical gold. The physical gold market is already pretty tight, this would make it even tighter. The net result would be higher gold prices making their reserves of gold increase in value as well as the value of what they could pay in gold dividends.
This would be a virtuous cycle and show the gold and gold mining investing community they believe in their own promotion of the value of gold.
Concerning the need for organic growth through exploration, I understand that point completely. I also understand that most gold miners don’t do nearly enough of it, or aren’t good at it, which is why they have to buy other gold miners.
When it comes to mergers and acquisitions, they are often all cash deals or a combination of cash and stock. Their stock is considered their currency, the higher their stock price the better it is as a currency. If they sat on more gold, their currency would be worth more.
I would also venture a guess that if they offered a combination of gold as well as their higher valued stock, they would have a much better chance of winning over the votes of the shareholders of the company they are trying to buy.
Back in Goldcorp’s heyday, they were one of the lowest cost producers in the gold mining sector, while mining very high-grade gold, which generated a ton of free cash flow. You guessed it, they also sat on some of their gold production. They ate their own cooking and were rewarded by having one of the best performing stocks in the gold mining sector.
Recently, I listened to a presentation with Chris Ritchie, the President of SilverCrest Metals. He talked about why they are not selling all of their gold and silver. Part of the reason being they are generating so much free cash flow that they don’t need more cash, plus they believe gold and silver are going up and they are better off to sit on some of their gold and silver production.
It has been a great strategy and during the first two quarters of 2024, they are benefiting from the rising price of gold and silver.
He also made two points that stood out to me. He said that as a mining company, they also have to deal with inflation so they have an organic hedge by sitting on some of their gold and silver production. The other point he made was that this is not only an issue for miners, it affects all businesses. Other industries could also hedge against inflation through holding gold instead of cash.
The gold miners should be making this case to executives of companies in other industries. But, they can’t do that with a straight face because they don’t do it with their own companies.
SilverCrest certainly can make that case, not only to executives running companies in other industries, but they can also make it to executives of gold and silver miners. They really are unique amongst their peers.
If investors want to see this happen with more of the miners they own shares in they should let management know. If they don’t listen, in pure capitalist form, you can vote with your money and put it into companies that eat their own cooking.
The problem, or maybe it isn’t much of a problem, for investors that want to vote with their feet is that there isn’t a very big menu of options like SilverCrest.
I get that gold miners need cash to run their companies and for the reasons mentioned earlier. But there is absolutely no reason they can’t hold back some of their gold production as they are generating a lot of free cash flow and some of their war chests should contain gold.
As I’ve written in recent reports, the catalyst I see immediately ahead of us to bring the gold stocks into the gold bull market is the second quarter earnings reports by gold miners. Several of them will report windfall profits as they are seeing gold at its highest price ever for a quarter.
SilverCrest is set up to have a remarkable quarter because their Las Chispas mine is a free cash flow machine. Plus, they have a strong war chest with plenty of gold and silver in it.
I don’t think it will be too long before more gold miners follow the strategy to decrease their reserves of cash and replace it with gold. It truly is a winning formula.
All the best,
Allan Barry Laboucan
Disclosure
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