Silver Wheaton (
) announced yesterday that it has entered into a binding term sheet
to acquire Vale's gold production from two mines located in Brazil
and Canada. We think this deal fits well with Silver Wheaton's
specialty in helping fund exploration for gold and silver and then
splitting the production proceeds based on a fixed purchase price
The company will pay Vale $1.9 billion in cash, plus 10
million Silver Wheaton warrants with a strike price of $65 and a
term of 10 years. Of the $1.9 billion, $1.33 billion will be paid
for 25% of the gold output from the Salobo mine in Brazil and $570
million for 70% of the gold output from the Sudbury mine in Canada.
In addition, Silver Wheaton will pay the lesser of $400 or market
price for each ounce of gold produced, subject to a 1% inflation
related adjustment after 2016 for Salobo. This deal will be valid
for 20 years and production will accrue retroactively
to Silver Wheaton as of January 1, 2013, even as the
term sheet remains subject to negotiations and approval by Vale's
board of directors.
In addition to Silver Wheaton making use of its $550 million
cash reserves, the deal is being financed by Scotiabank and BMO
Capital Markets. These institutions will provide Silver Wheaton
with a $1 billion revolving credit facility and also a $1.5 billion
bridge financing facility to facilitate upfront payments to
our full analysis for Silver Wheaton
Business Model: Strength Is Also The Weakness
Silver Wheaton signs long-term purchase agreements with mining
companies that produce silver or gold as a by-product. It
provides funds for capital expenditure upfront when a project is
being developed and obtains the right to buy precious metals
produced at low, fixed prices. It does not pay for any ongoing
capital or exploration costs at the mines. Thus, the company's
costs are one-time and fixed. This greatly reduces its business
risk. The silver or gold obtained at a fixed price is sold at
market rates which exposes it to the daily volatility of
these metals' prices. Its gains increase when the market
prices of silver and gold go up. Prices of precious metals have
been generally high for some time and are expected to be so in the
near future. This makes Silver Wheaton a likely winner.
However, this business model also makes it hugely dependent on
gold and silver prices for earnings growth. Even a slight change in
prices translates into a major variance in EBITDA, so earnings can
be quite volatile.
What It Means For The Company's Business
Prior to the deal, Silver Wheaton had a cash chest of $550
million, which it was looking to deploy. The deal with Vale will
add an average of 110 thousand ounces of gold per year over
the next 20 years (5.9 million silver equivalent ounces). It
will cause the share of gold in Silver Wheaton's revenues to rise
from an average 12% to a peak value of 25% over the next five
Silver Wheaton now forecasts 33.5 million ounces of silver
equivalent production (including 145,000 ounces of gold) in 2013.
In 2017, it forecasts 53 million ounces of silver equivalent
production (including 180,000 ounces of gold).
You can check the impact of the new silver stream on Silver
Wheaton's Trefis price estimate in the following graph and modify
it using your own expectations and check the impact it will have on
the company's valuation.
In our opinion, the deal fixes the price of gold at a relatively
lower figure, considering the huge jump in the cost of production
over the last few years. Going forward, we think it will rise
further owing to higher costs associated with labor, energy, and
regulatory compliance. Silver Wheaton, however, will be insulated
from these owing to its fixed-price contracts.
Also given the popularity of gold as a hedge and given the
belief that it will preserve its value despite volatile and
unpredictable currency markets, Silver Wheaton is well positioned
if the price of gold continues to rise in the coming years.
recently revised our price estimate for the company to $38
after the latest earnings numbers.
a company's products impact its stock price at Trefis