Deutsche Bank Markets Research Industry Date 3 June 2013 Americas Metals North America and Mining United States Industrials Metals & Mining Jorge Beristain, CFA Research Analyst (+1) 203 863-2381 [email protected] Wilfredo Ortiz Research Analyst (+1) 212 250-3251 [email protected] David S Martin Research Analyst (+1) 212 250-5580 [email protected] F.I.T.T. for investors NA Gold: the end of Big Gold?; Prescriptives for change Arguments for changes to the NA Gold business model In this piece, we question if the big cap NA Gold producer model is fundamentally broken, after 8 years of underperformance and expectations that further multi-billion dollar capital raises may be likely in the years ahead, assuming gold price <$1,500/oz remains. We attempt to dissect the underlying root cause of what ails sector performance and hopefully provide prescriptive remedies for how the industry can “get back to the basics” in terms of focusing on shareholder returns and outperforming the gold price. Failure to do so will, in our view, relegate the industry back to a boutique, non-core sector, which is below the sector’s true potential. ________________________________________________________________________________________________________________ Deutsche Bank Securities Inc. Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MICA(P) 054/04/2013. Deutsche Bank Markets Research North America Industry Date United States 3 June 2013 Industrials Americas Metals Metals & Mining and Mining FITT Research Jorge Beristain, CFA Research Analyst NA Gold: the end of Big Gold?; (+1) 203 863-2381 [email protected] Prescriptives for change Arguments for changes to the NA Gold business model Wilfredo Ortiz In this piece, we question if the big cap NA Gold producer model is Research Analyst fundamentally broken, after 8 years of underperformance and expectations (+1) 212 250-3251 that further multi-billion dollar capital raises may be likely in the years ahead, [email protected] assuming gold price <$1,500/oz remains. We attempt to dissect the underlying root cause of what ails sector performance and hopefully provide prescriptive David S Martin remedies for how the industry can “get back to the basics” in terms of Research Analyst focusing on shareholder returns and outperforming the gold price. Failure to do (+1) 212 250-5580 so will, in our view, relegate the industry back to a boutique, non-core sector, [email protected] which is below the sector’s true potential. Dissecting root cause of underperformance and solving for break-even gold Companies Featured Investors have been perplexed by why NA Gold companies have failed to Barrick Gold (ABX.N),USD21.12 Hold exhibit upside in a rising gold price environment, but have shown downside 2012A 2013E 2014E when gold prices fall. In this report we take a deep dive into historical industry EPS (USD) -0.67 2.82 2.73 measurement bias, dissect the true costs to produce an ounce of gold on a P/E (x) – 7.5 7.7 sustained basis, and more importantly estimate Total Cash Uses of the industry EV/EBITDA (x) 7.4 5.8 5.9 in order to determine a company-by-company break-even price of gold under Goldcorp (GG.N),USD29.11 Hold which they would be cash flow neutral. Further we compare NA Gold’s 2012A 2013E 2014E performance under traditional financial return metrics such as Economic Value EPS (USD) 1.86 1.25 1.69 Added, Free Cash Flow analysis and Return on Capital Employed metrics. P/E (x) 22.2 23.4 17.2 EV/EBITDA (x) 11.9 14.5 11.0 Structural changes needed, especially in a sub-$1,500/oz gold scenario In our view, there are a number of fundamental issues behind NA Gold's Kinross Gold (KGC.N),USD6.41 Hold lackluster performance relative to gold prices, ranging from poor funding and 2012A 2013E 2014E spending choices, the measurement bias embedded in project costs/returns, EPS (USD) -2.20 0.37 0.39 P/E (x) – 17.3 16.4 run-away capex, rising resource nationalism, the misalignment of management EV/EBITDA (x) 5.6 5.2 5.2 compensation and now, the emergence of a declining gold/silver price environment. Under a scenario of $1,500/oz gold (or lower) we postulate that Newmont Mining (NEM.N),USD34.28 Sell some NA Gold producers could begin deficit spending by 2H13/2014, possibly 2012A 2013E 2014E implying further equity raises. We believe there is mounting pressure for the EPS (USD) 3.62 2.38 2.18 P/E (x) 14.2 14.4 15.7 break-up of these underperforming conglomerates. EV/EBITDA (x) 7.5 7.1 7.5 Change or be changed – the rise of shareholder activism Across our NA Gold coverage universe, we see 2013 as an inflection point where all-in sustaining costs could peak at ~$1,100/oz. The recent drop in gold price and continued high costs highlight the pressure on managements to break with historical practices. We have noted a rise in shareholder activism aimed at liberating value trapped inside “conglomerate” structures. Valuation wrap and risks On average, our PTs for NA Gold equities are based on ~0.8x NPV, calculated using a $1,500/oz 2014E gold price. Risks include direction of metals prices, changing supply/demand dynamics, currency, M&A, raw material and energy costs, execution of projects, legislation, and country risks. The emerging funding gap between cash sources and uses implies high potential for NA Gold producers to issue equity in 2013/14. For further details, see pages 53/54. ________________________________________________________________________________________________________________ Deutsche Bank Securities Inc. Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MICA(P) 054/04/2013. 3 June 2013 Metals & Mining Americas Metals and Mining Table Of Contents Executive summary ........................................................................ 3 The end of Big Gold? .......................................................................................................... 3 5 major issues to be resolved by NA Golds ....................................................................... 4 DB recommendations for NA Gold change ........................................................................ 5 The rise of activism ........................................................................ 7 Recent examples of activism on the rise ........................................................................... 7 NA Gold conglomerate break-up analysis.......................................................................... 9 Underperformance ....................................................................... 11 NA Gold has consecutively underperformed gold since 2006… ..................................... 11 … with valuation multiples de-rating over time ............................................................... 13 NA Gold Enterprise Values have become more debt-laden ............................................ 15 NA Gold EV/reserves, resources and production ............................................................. 16 Measurement bias ........................................................................ 18 All-in sustaining costs provide a better cash flow picture ............................................... 19 DB definition of all-in sustaining costs ............................................................................. 20 NA Gold all-in sustaining costs comparison .................................................................... 21 Funding gap analysis .................................................................... 26 NA Gold sensitivities at $1,500/oz (DBe) and $1,300/oz gold .......................................... 26 NA Gold Use of Cash - funding gap analysis ................................................................... 28 NA Gold potential equity dilution estimates .................................................................... 32 NA Gold C1 cost curves ................................................................................................... 34 Dis-economies of scale ................................................................ 36 Resource nationalism on the rise ..................................................................................... 36 NA Gold - tallying the results of $60 billion in spending ................................................. 38 NA Gold new mines struggle to exceed cost of capital ................................................... 40 NA Gold project reviews ................................................................................................... 41 Poor funding and spending choices ............................................. 44 Over-reliance on equity as a funding choice .................................................................... 44 Pro-cyclical deals, lack of risk-sharing inflates acquisition values .................................. 44 Growth capex: what’s not in process should be cancelled ............................................