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How Are South African Gold Miners Doing Post-Brexit? - Market Realist

Thursday, 30 June 2016

This year has been exceptional so far for South African gold miners, with stocks soaring since the beginning of the year. The uptrend has been driven by gains in gold prices due to its safe haven bid and the weakness of the South African rand.

This combination has been accentuated by the recent Brexit vote, which further drove gains in gold and further weakened the rand compared to the US dollar (USDU) (UUP).

Investors made a dash to safe-haven assets such as gold and the US dollar in a risk-off sentiment triggered by the United Kingdom’s vote to leave the European Union and the uncertainty that followed.

South African miners’ outperformances

As of June 28, 2016, Harmony Gold Mining (HMY) has risen a staggering 217% year-to-date. The company is much more exposed to South Africa than other miners, and it’s the highest-cost gold producer. As such, it’s much more leveraged to the increase in gold prices and the depreciation of the rand.

To read more about Harmony Gold’s extraordinary gains, please see Defying Gravity: Decoding Harmony Gold’s 2016 Rally.

AngloGold Ashanti (AU) and Sibanye Gold (SGBL) have also risen considerably, with year-to-date gains of 130% and 107%, respectively.

This growth dwarfed the gain in the VanEck Vectors Gold Miners ETF (GDX), which has risen 89% in the same period. Gold prices rose 22%. Gold Fields (GFI), another South African miner, rose 53% in the same period. These gains follow a multiyear losing streak.

In this series

In this series, we’ll see if the outperformances of South African miners can continue in light of recent developments. We’ll look at analyst opinions for these miners as well as their current valuation in order to identify which miner could provide value compared to the others.

Let’s start by seeing which South African Gold Miner can benefit from the weak rand.

Which South African Gold Miner Can Benefit from Rand Weakness?

Weaker rand, higher gold prices

As we saw in the previous part of this series, a weaker rand and higher gold prices are helping South Africa–focused gold miners. Due to the Brexit and the resulting uncertainty, the price of gold reached 650,000–660,000 rands per kilogram.

This will benefit gold miners that have higher operational and financial leverage as well as the highest exposure to the South African rand.

More exposed to the rand

Harmony Gold (HMY) and Sibanye Gold (SBGL) are more exposed to the rand. There are many factors that usually work against miners operating in South Africa. It’s a very difficult market environment in which to operate, given its labor and infrastructure issues.

Gold mining costs are higher in South Africa than in other areas. Also, wage negotiations have been ongoing for quite some time without a full resolution. However, in the current environment of higher gold prices and weaker producer countries, these miners stand to gain the most in the short term.

AngloGold Ashanti is less exposed to South Africa

AngloGold Ashanti (AU) is less exposed to South Africa than other South African miners. About 28% of its production comes from South Africa. However, on a medium-to-long-term basis, it remains quite robust with a strong balance sheet after the sale of the Cripple Creek & Victor gold mine.

If gold prices remain elevated, which could be the likely scenario, AngloGold could earn significant free cash flow going forward. For more on this, you can refer to Is Gold Set to Remain Higher for Longer Post-Brexit?

This may mean the company could reinstate its dividends in the coming years and as soon as 2017. Right now, the company is focusing on repaying its debt.

Gold Fields (GFI) has been trying to diversify from its risky mining jurisdictions. After spinning off its South African operations and buying assets in Australia, its geopolitical risk reduced greatly. About 45% of its production is from Australia, and 9% is from South Africa. This makes it less exposed to currency benefits from a weak rand.

The SPDR Gold Shares (GLD) mirrors gold prices in the Market. Gold Fields and AngloGold Ashanti account for 8.2% of GDX’s holdings.

Next, let’s look at the potential catalysts for South African gold miners.

What Are the Potential Catalysts for South African Gold Miners?

Debt reduction is a positive

AngloGold Ashanti (AU) is the lowest-cost South African gold miner. Its AISC (all-in sustaining costs) for 1Q16 was $860 per ounce, a 7% improvement year-over-year. Its financial leverage, on the other hand, is the highest among its South African peers.

The company is making serious efforts to reduce its debt. Better prospects ahead are making the company worthy of serious consideration for some investors

Potential catalysts

Sibanye Gold (SBGL) has higher costs than many other gold miners (GDX). A major reason for this is its use of more labor-intensive technology, which the South African government promotes. Most of Sibanye Gold’s growth options are in its recent platinum acquisitions. Execution on that front could guide the future course of action of Sibanye stock from a fundamental point of view.

Harmony Gold (HMY) is also a higher-cost producer. It has shifted to providing semiannual results, so information on its AISC for 1Q16 isn’t available. Its AISC for 4Q15 was $950 per ounce.

The key to the company’s long-term production growth is its Golpu project. While financing for the project isn’t yet completed, any positives would be beneficial to the stock.

South Deep concerns

Gold Fields’ (GFI) productivity rose after it spun off its South African operations, which were relatively more labor-intensive. Its AISC came in at $961 per ounce for 1Q16, which is high compared to the metrics of its peers.

The main investor concern is the problem with the ramp-up of its South Deep operation in South Africa. The company has invested ~$4.2 billion in this asset since its acquisition in 2006. It’s now expecting South Deep to achieve a break-even level by the end of 2016. If achieved, the company could see production growth and cost improvements, which could be a potential catalyst for its stock.

In the next part, we’ll see what analysts are recommending for South African gold miners.

What Are Analysts Recommending for South African Gold Miners?

South African gold miners’ ratings

Among South African gold miners, AngloGold Ashanti (AU) is analysts’ favorite. It has the highest percentage of “buy” recommendations, at 69%. Harmony Gold (HMY) and Gold Fields (GFI) have the lowest percentage of “buy” recommendations, at 20% and 29%, respectively.

Sibanye Gold (SBGL) has “sell” rating from 38% of the analysts. The graph below shows brokers’ recommendations and the percentage of upsides or downsides from the current prices.

Change in ratings and target prices

Harmony Gold’s target price represents a potential downside of 16%. Gold Fields and Sibanye Gold have higher upside potentials of 8% and 12%, respectively. Harmony Gold has seen the highest stock price gain in 2016. Due to its increased leverage and higher gold prices, analysts have increased their target price for the stock by 239% since the beginning of the year.

Sibanye Gold has seen an upward revision of 127% in its target price since the start of the year. AngloGold Ashanti and Gold Fields have seen lower target price appreciations of 72% and 40%, respectively, as they have less exposure to South Africa.

Investors could consider the VanEck Vectors Gold Miners ETF (GDX) and the SPDR Gold Shares (GLD) to get exposure to gold miners

In the final part of our series, we’ll see which South African gold miner could offer a valuation upside.

Which South African Gold Miner Can Offer a Valuation Upside?

Enterprise value ratio

The EV-to-EBITDA (enterprise value to earnings before interest, tax, depreciation, and amortization) ratio is a good measure for capital-intensive industries. It helps investors compare companies based on various capital structures.

The graph above compares gold miners’ EV-to-forward-EBITDA to the EBITDA margin for 2017.

Breakdown of miners’ valuations

AngloGold Ashanti (AU), one of the largest gold mining players, has an EV-to-EBITDA multiple of 5.2x. That’s the highest among South African miners. Its estimated EBITDA margin for 2017 is 38%.

AU’s diversified production base and lower exposure to risky mining prospects in South Africa are the major reasons for the higher multiple. Its recent attempts to reduce debt have encouraged investors. Further efforts to reduce debt and addressing long-term production growth could lead to more rerating.

Investors should note that AU is trading at a significant discount to global peers such as Barrick Gold (ABX) and Newmont Mining (NEM), which have multiples of 8.7x and 8.0x, respectively. Much of the discount is due to the geographical exposure of AU compared to seniors.

Gold Fields (GFI) has the highest expected EBITDA margin of 43%. But it’s trading at 4.3x, a 17% discount to AngloGold. This is due mainly to the uncertainty regarding its South Deep project. Guidance for South Deep is a key catalyst for Gold Fields stock.

Harmony Gold (HMY) is trading at a multiple of 3.4x with an EBITDA margin of 31%. It has seen a rerating of 32% in the last one month alone. Due to its higher leverage to gold prices in a rising gold rate environment, it has been significantly rerated since the start of the year. Because of its higher leverage, any weakness in gold prices could have a magnified impact on Harmony Gold.

Sibanye Gold (SBGL) is currently trading at the lowest multiple of 3.2x. It’s most likely factoring in a discount due to its full exposure to South Africa. AngloGold accounts for 4.5% of the VanEck Vectors Gold Miners ETF (GDX). Investors could also consider the SPDR Gold Shares (GLD) to gain exposure to gold.


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