Newmont Corporation — Building it piece by piece

In general, Newmont’s mines outperformed our prior expectations in Q421, with positive variances in output in Australia, Africa and Nevada more than offsetting a negative variance in North America (owing to continued absenteeism at its Canadian mines in particular relating to lingering concerns surrounding the coronavirus pandemic), albeit at slightly higher costs. A summary of the operational highlights of the quarter relative to our prior expectations is provided in Exhibit 1. From a geographical perspective, the only continent to noticeably outperform our prior expectations in terms of costs was Australia, which demonstrated a solid recovery from the challenges surrounding the commissioning of autonomous haulage at Boddington in Q321.

In financial terms, the main feature of the results was a US$1.6bn expense relating to reclamation and remediation charges resulting from adjustments to non-operating Yanacocha sites, only about half of which was deemed ‘exceptional’. However, this was itself offset by the minority’s share of the charge, which resulted in adjusted net income being 13.7% above our prior forecast for the quarter (US$624m cf US$549m).

A full analysis of Newmont’s Q421 financial performance relative to both our prior forecasts and Q321 results is provided in the exhibit below.

Since the end of the year, Newmont has acquired the 48.65% interest in the Yanacocha Sulphides project that it did not previously own in two transactions:

Consistent with the company’s district consolidation strategy, the acquisition enhances Newmont’s ownership of world-class assets, giving it control of the Yanacocha district ahead of its full funds development decision later this year. In the meantime, the company has confirmed that it is to invest US$0.5bn into the project in FY22.

As its name implies, the Yanacocha Sulphides project will develop the first phase of Yanacocha’s sulphide deposits, including an integrated processing circuit incorporating an autoclave. After a three-year development period (estimated FY23–25), the project is expected to add c 525koz gold equivalent per annum (in the ratio 45% Cu by value, 45% Au and 10% Ag) for the first five full years of production (FY27–31) at an all-in sustaining cost (AISC) of US$700–800/oz and an initial capital investment of c US$2.1bn. The first phase of the project will focus on developing the Yanacocha Verde and Chaquicocha deposits to extend Yanacocha’s operations beyond 2040, with the second and third phases having the potential to extend the mine’s life for multiple decades thereafter. Among other things, the Yanacocha sulphides project will increase Newmont’s copper output, supporting the world’s transition to a green economy.

After the development of the Yanacocha Sulphides project (and Ahafo North and Tanami Expansion 2, which have already been sanctioned), Newmont has a material pipeline of other potential projects for development, including Coffee, Akyem underground, Oberon (Tanami), the Sabajo extension at Merian, Galore Creek, Norte Abierto, Nueva Union, Apensu underground at Ahafo, Saddle North in Canada and Cerro Negro district expansions.

Ahead of its Q421/FY21 results, on 2 December, Newmont presented its medium- to long-term production outlook to investors. Unlike previous years, the company’s outlook for FY22 in particular assumed a US$1,800/oz gold price for both costs applicable to sales (CAS) and AISC to reflect higher costs from inflation, royalties and production taxes. In 2022, a further 5% cost escalation was also incorporated into direct operating cost assumptions to reflect labour, energy, material and supplies pricing. The FY22 and longer-term outlook also assumes a US$30/oz impact from production taxes and royalties attributable to higher gold prices.

A comparison of Newmont’s guidance with both its prior (December 2020) equivalent guidance and Edison’s (updated) production and cost assumptions for the period FY22–26 is provided in the table below:

At the time of its acquisition of the Buenaventura stake in Yanacocha, Newmont updated its estimate of future attributable development capital guidance to account for the sulphides project, but noted that, ‘All other guidance metrics remain unchanged from long-term outlook as announced on December 2, 2021.’ Within this context, we estimate that Yanacocha will produce 225koz of gold in FY22 (on a consolidated basis), which will now translate into an attributable 211koz, rather than the 116koz that would otherwise have been expected prior to Newmont’s acquisition of the minority interests of Buenaventura and Sumitomo. Similarly, we estimate that Yanacocha will produce 215koz and 143koz gold in FY24 and FY25, respectively, which we therefore estimate will have the effect of enhancing group attributable production in those years by 105koz and 70koz relative to the situation if Newmont had not acquired the associated minority interests. Even without correction for these enhancements, we believe that the variances noted in Exhibit 6 in Edison’s attributable production forecasts for those years relative to Newmont’s guidance is immaterial.

As with previous guidance, Newmont’s outlook assumes that operations will continue without major COVID-19 related interruptions. To this end, the company continues to maintain wide-ranging protective measures for its workforce and neighbouring communities, including screening, physical distancing, deep cleaning and shielding for at-risk individuals. Together, these measures are expected to add c US$10/oz to AISC. If at any point the company determines that continuing operations pose an increased risk to its workforce or host communities, however, it reserves the right to reduce operational activities to the point of care and maintenance and the management of critical environmental systems alone.

In addition to revising our financial forecasts to reflect Newmont’s updated medium-term guidance, we have also updated our longer-term production assumptions to reflect Barrick’s 10-year production targets at Nevada Gold Mines (NGM), as set out in its 2021 Investor Day presentation. One aspect of NGM’s performance is of particular interest to investors, which is that in only one of the past 12 quarters has the open-pit material mined at NGM exceeded the FY21 reserve grade reported by Newmont. While the opposite is true for underground material, it nevertheless remains the case that, on average, the blended grade of material mined (and processed) in each of the past 12 quarters has been below the operation’s reserve grade in FY21 and below its reserve grade in FY20 in all but one quarter. Exhibit 4, below, serves to illustrate the point:

There may be a number of reasons for this, including geology, mine sequencing and/or commercial imperatives. For example, Barrick may be deliberately taking advantage of the gold price environment to mine and process lower-grade material. This contrasts with Newmont’s reserves, which are calculated at a conservatively assumed gold price of just US$1,200/oz, which has the effect of increasing the grade of the material categorised as reserves (albeit at the expense of tonnage). However, one of the effects of this relatively low-grade mining is that, all other things being equal (and excluding ongoing exploration), the grade of the residual reserve material left unmined at the end of each successive year must increase. To some extent, this is evidenced by the fact that the reserve grade of material at NGM increased by 0.26g/t (or 9.5%) in FY21 relative to FY20. One of the potential consequences of this fact, however, is that it may have a material (upwards) effect on mining margins if the operation ever returns to mining reserve-grade ore (all other things being equal).

As in FY21, in FY22 Newmont expects both (higher) production and (lower) costs to be weighted towards the second half of the year – approximately in the ratio 47:53 – mainly as a result of ongoing disruptions relating to worker mobility and supply chains as a result of the coronavirus pandemic in North America, Australian and, to some extent, Africa as well.

In the light of Newmont’s Q421 results as well as its updated mine guidance and Barrick’s Q1 production update (dated 14 April 2022), we have therefore calculated the following operational forecasts for the company’s geographical regions for FY22:

Assuming a gold price of US$1,950/oz for the remainder of the year (cf US$1,819/oz for the full year, previously) and an effective tax rate for the year of 30–34%, this operational performance translates into financial forecasts for Newmont for FY22 as follows:

This basic adjusted EPS forecast of US$3.011/share (vs US$2.793/share previously) for FY22 compares to the market consensus, by quarter, as follows:

Newmont’s dividend for Q421 was maintained at US$0.55/share. At the time of its Q320 results in October 2020, Newmont unveiled a new dividend framework whereby it formally rebased its dividend to a ‘base’ pay-out of US$1.00/share (or US$0.25/share per quarter) at a gold price of US$1,200/oz, but also stated explicitly that it would return 40–60% of incremental attributable free cash flow that it generated above a gold price of US$1,200/oz to shareholders. Under the new framework, Newmont will augment the ‘base’ pay-out in increments of US$0.60–0.90/share per year (or US$0.15–0.225/share per quarter), evaluated in gold price increments of US$300/oz for gold prices above US$1,200/oz, with the goal of targeting 40–60% of incremental free cash flow above a gold price of US$1,200/oz returned to shareholders. Thus, a (sustainable) gold price at US$1,800/oz should (on this basis) result in a quarterly dividend of US$0.55/share, whereas a gold price below that level could result in one of US$0.40/share. However, it is worth noting that Newmont affords itself a degree of latitude in the level of the ultimate pay-out in that, should it decide to pay out nearer 60% of incremental attributable free cash flow to shareholders that it generates above a US$1,200/oz gold price, rather than 40%, then there is scope for the quarterly dividend to remain at the higher level even if the gold price dips below the US$1,800/oz level.

Our approach to the valuation of Newmont has remained unchanged since our initiation note (see The sustainable leader, published on 9 February 2021) and readers are directed to this note for a fuller explanation of the methodologies involved. The following is an update of our valuation in light of Q421 financial results, our updated forecasts for FY22 and our longer-term assumption changes.

Newmont is a multi-asset company that has shown a willingness and desire to trade assets in the past to maintain production, reduce costs and maximise shareholder returns. As a result, rather than our customary method of discounting maximum potential dividends over the life of operations back to FY22, in the case of Newmont, we have opted to discount forecast dividends back over six years from the start of FY22, then apply an ex-growth terminal multiple to forecast cash flows in that year (ie FY27) based on the appropriate discount rate. In the normal course of events, we would exclude exploration expenditure from such a calculation on the basis that it is a discretionary investment. In the case of Newmont, however, we have included it in our estimate of future cash flows on the grounds that it will be a critical component of ongoing business performance in its ability to continually expand and extend the lives of the company’s assets via exploration.

In this case, in the light of Newmont’s updated cost and production guidance (see Exhibit 3), our estimate of Newmont’s ‘terminal’ pre-financing cash flow in FY27 has declined by 19.2%, from US$5.30/share in FY26 previously, to US$4.28/share in FY27 currently. On this basis, applying a (real) discount rate of 6.2% (calculated from a nominal expected equity return of 9% and increased long-term inflation expectations of 2.6162% cf 2.4158% previously, as defined by the US 30-year breakeven inflation rate – source: Bloomberg, 21 April), our terminal valuation of the company at end-FY27 is US$76.95/share cum-dividend (cf US$82.38/share previously). This is close to Newmont’s current share price of US$82.59. However, note that this valuation is based on the inherently conservative assumption of zero growth in (real) cash flows beyond FY27. The valuation would increase to US$82.59/share (ie the current share price) if growth in real cash flows after FY27 amounts to just 0.4% per annum (ie materially below the minimum of 2.0% per annum that would be expected from the average historical annual increase in the real price of gold of 2.0% pa). Assuming 2.0% per annum real increases in cash flows beyond FY27, our valuation in FY27 increases to US$111.60 cum-dividend and to US$85.50/share as at the start of FY22.

It should also be noted that our valuation is inherently conservative in that it assumes that the long-term price of gold will decline from current levels to US$1,524/oz in real terms by FY27 (before levelling out). If the gold price remains at current levels in real terms (US$1,950/oz at the time of writing), our valuation increases to US$104.16/share cum-dividend in FY27 and to US$81.73/share currently in FY22 (with the added assumption that mining at NGM does not then revert to the reserve grade in that year on account of the relatively high sustained level of the gold price).

Note that this (absolute) analysis inherently excludes any value to Newmont from its other development assets, such as Coffee, Galore Creek, Conga, Norte Abierto and Nueva Union, which together represent combined reserves and resources of 53.94Moz attributable to Newmont.

Newmont’s valuation on a series of commonly used measures, relative to its peer group of the 10 largest publicly quoted senior gold producers, is as follows.

From the table above, it can also be seen that while Newmont continues to command a premium rating relative to its peer group on most valuation measures, it remains materially cheap with respect to its dividend yield, despite the fact that its shares have risen by 45.5% since the time of our last note (see Q321 results in line with prior expectations, published on 10 November 2021). Based on consensus forecasts, we estimate that Newmont’s share price would have to rise by an average of 27.5% for its dividend yield to match those of its peer group. Based on our forecasts, we estimate its share price would have to rise 25.8%.

As before, one further observation concerning the comparability of the above measures is merited. Given its policy of proportionately consolidating its interest in NGM and that it owns 100% interests in the majority of its remaining mining operations (with the notable exception of Merian), estimates of cash flow in particular are also close to estimates of cash flow attributable to shareholders (Newmont estimates that 99.8% of free cash flow was attributable to the company in FY21). This is in contrast to a number of its peers, where earnings and cash flow from assets not 100%-owned tend to be fully consolidated and therefore may not so easily approximate cash flow attributable to shareholders, making direct comparison using these measures either difficult or, potentially, misleading.

Based on Newmont’s average historical P/E ratio of 23.9x current year earnings over the past nine years, from FY13 to FY21, and its average historical yield of 2.0% over the same timeframe, a summary of our updated valuation of the company over 16 measures of value over the next four years is as follows:

In addition to its financial results, on 24 February, Newmont also announced the results of its annual resource and reserve estimation. Full details of the updated reserves and resources statement and of the changes in the categorisations of reserves and resources, by asset, are available on Newmont’s website. However, a brief summary is provided below:

The following table summarises the year-on-year changes in Newmont’s attributable resources and reserves, by asset. Readers should note that, ordinarily, Newmont reports its resources exclusive of reserves. In this case, however, we have aggregated reserves with resources to provide an indication of the full mineral inventory attributable to the company.

Inevitably, Newmont’s exploration activities were adversely affected by the COVID-19 pandemic, which required it, among other things, to prioritise drilling programmes in existing operations owing to travel restrictions. This constraint, in particular, affected its ability to progress greenfields exploration. Nevertheless, it was still able to achieve its target of replacing two-thirds of mining depletion ‘via the drill bit’.

In FY22, Newmont’s attributable exploration expenditure for managed operations is expected to be c US$250m with a focus on extending mine life, developing districts and discovering new opportunities in the most favourable jurisdictions. Hence, 80% of its investment will be dedicated to near-mine expansion programmes and the remaining 20% allocated to the advancement of greenfield projects. In addition, Newmont’s share of exploration investment for its non-managed joint ventures is expected to total c US$45m. Geographically, the company expects to make approximately 38% of its investment in North America, 23% in South America, 17% in Australia and 22% in Africa and other locations.

As Newmont sees it, the challenge in discovering the next generation of mines is to be able to identify deeper, so-called ‘blind’ deposits that are under cover, rather than those originally discovered from outcrops (readers are directed towards Newmont’s 2021 Exploration update presentation for detailed information on this strategy). Its philosophy towards exploration is therefore to understand completely the geological systems in which it has a presence on both a regional and district scale, a goal that it believes cannot be achieved by operating a decentralised model. Immediate examples of domains with such multi-million ounce endowments include (but are not limited to) the Tintina Province in the Yukon, the Golden Triangle in British Columbia, the Carlin Trend, the Guiana Shield, the Superior Province in Canada, the Yilgarn, the West African Craton, the Nubian Shield and the Deseado Massif in Chile/Argentina, where, in addition to reserve expansion potential, Newmont’s existing presence also makes them attractive from the perspective of offering synergies with existing operations. In this context, it is worth noting that c 80% of Newmont’s reserves are located within easy trucking distance of an existing operating site and are therefore able to contribute relatively easily to low-cost, value-focused production for minimal investment.