In September, Robert Quartermain did something highly unusual for a mining executive — he signed a streaming deal with an early exit strategy.
Quartermain, the CEO of Vancouver-based Pretium Resources Inc., was alarmed at how much value miners are giving away in gold and silver stream sales, in which future output is sold at below-market prices in exchange for an instant cash infusion.
So when he sold a US$150-million stream on Pretium’s Brucejack project in British Columbia, he insisted that the deal include buyback options for Pretium in 2018 and 2019, and that it cap the number of gold and silver ounces that can be sold.
“When you start putting in higher levels of streaming, and the stream lasts forever, then the potential upside starts going to streaming holders and (away from) your existing shareholders,” Quartermain said in an interview.
This will go down as the biggest year ever for metal streaming deals, and it’s not even close. Miners have raised US$4.2 billion from 11 stream sales in 2015, according to Financial Post data. That is nearly double the US$2.2 billion raised in 2013, which is the second biggest year on record.
For the most part, mining analysts and investors have cheered these deals. But their sheer number has caused alarm for some observers, who worry that miners are giving away vast amounts of future upside once metal prices improve.
The metal streaming business was created back in 2004. In these transactions, a streaming company like Silver Wheaton Corp. gives a mining company an upfront cash payment. In return, it gets the right to buy a fixed amount of precious metals production from the miner at a fixed price that is far below the market price. The streamer can then sell the metal for a profit. The biggest players in this business are Silver Wheaton, Franco-Nevada Corp. and Royal Gold Inc.
This past year was one of the worst ever for large mining companies, which suffered because of falling commodity prices and high leverage. They needed cash badly, and the streaming companies were more than happy to provide it. Mining giants such as Barrick Gold Corp., Glencore Plc, Teck Resources Ltd. and Vale SA all sold streams in 2015.
On the surface, these deals made a lot of sense for mining companies. Their stock prices are so depressed that they do not want to even think about issuing equity. And the last thing this sector needs is to take on more debt. So they sold future metal production instead.
“When companies are between a rock and a hard place, they often sell what’s good because they can’t sell what’s bad,” said John Tumazos, an independent analyst.
The problem is that streams destroy much of the future “option value” for mining companies. Since the streaming metal is typically sold at fixed prices far below the market price, the streamers get all the benefit when market prices go up.
To take an extreme example, Silver Wheaton was buying silver from some mining companies at less than US$4 an ounce in 2011, when silver prices rose to almost US$50. It was a massive transfer of wealth from mining companies to a streaming company.
Another concern is that streams can eliminate the exploration upside from a mine. If a miner has agreed to sell a fixed percentage of gold or silver production from a mine to a streamer, it will have to sell more metal if it makes a new discovery on the property and boosts production.
When companies are between a rock and a hard place, they often sell what’s good because they can’t sell what’s bad
John Ing, president and gold analyst at Maison Placements Canada, said streaming is reminiscent of hedging, in which metal is sold in fixed-price contracts. Hedging was all the rage in the gold industry in the 1990s, when prices were low. But it became a massive liability once prices rose far above the value in the contracts. Barrick had to spend more than $5 billion to unwind its hedge book in 2009.
Eventually, hedging became a toxic word in the industry. It is almost nonexistent today.
“It wasn’t until the price of gold went up that everybody realized what Barrick was leaving on the table,” Ing said.
“The same thing is going to happen (to streaming) when the price of gold goes up again. Not until then will people focus on the dark side of the streams.”
For investors that don’t like streaming, the good news is that miners are starting to preserve more upside for themselves in these transactions.
For example, Barrick struck a US$610-million stream sale with Royal Gold last August that guarantees higher sale prices down the road. For the first 550,000 gold ounces and 23.1 million silver ounces that Barrick delivers to Royal Gold, it receives 30 per cent of the prevailing spot prices. For every ounce after that, it receives 60 per cent of the spot prices. So if silver prices go up, Barrick stands to benefit.
Pretium went even further by negotiating optional buybacks of its stream and capping the total amount of gold and silver to be sold. If Pretium discovers more metal at the Brucejack project, it won’t go into the stream.
Traditional streaming companies like Silver Wheaton and Royal Gold are looking to buy streams that will last for decades, so Pretium’s deal is not for them. Instead, Pretium sold the stream to two private equity firms, Orion Resource Partners and Blackstone Group.
These companies are just looking for a good return and are not bothered by the idea of having their stream re-purchased in a few years. That is a relatively new concept in streaming, and it could be a game-changer if more private equity firms and other players decide to compete with traditional streamers.
Quartermain said his deal is proof that miners have alternatives to conventional streaming. He hopes other companies will follow Pretium’s lead and try to maintain some upside in these deals.
“We’ve shown you can, even in challenging markets, finance good projects and achieve that upside for shareholders,” he said.
Financial Post
