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Gold Companies Looking to Forget 2012





It is a safe bet to say that 2012 will not be looked<br /> back upon with a great deal of fondness by the CEOs of the gold mining<br /> industry. From the executive suites of the largest gold miners to the<br /> smallest junior exploration companies, this past year will go down as<br /> the “annus horribilis” (horrible year) for investors in gold stocks.<br /> The S&P/TSX Gold Index will close the year down about 21%.







Navigating a Sea of Opportunity

The
following Pacifica Partners article was also published in the Financial Post

It
is a safe bet to say that 2012 will not be looked back upon with a
great deal of fondness by the CEOs of the gold mining industry. From
the executive suites of the largest gold miners to the smallest junior
exploration companies, this past year will go down as the “annus
horribilis” (horrible year) for investors in gold stocks.  The
S&P/TSX Gold Index will close the year down about 21%.

Crossborder investment specialistsIt is a bit of a
head-scratcher at first glance as gold has spent most of 2012 trading
north of $1600 per ounce. Just a few short years ago, many companies
were basing the economics of their projects on gold prices that were
significantly lower. Current analyst estimates are that the gold stocks
are discounting gold prices of about $1000/ounce — a significant
discount to the current spot price of over $600/ounce.  So
what happened to make investors so disenchanted with gold mining
equities?

One
significant factor has been the skyrocketing of miners’ costs. The
costs of everything from energy to labour to engineering have risen
faster than the price of gold. This has crimped the profit margins of
the mining companies. In turn, investors have taken an axe to the value
of the reserves being uncovered by exploration companies. For the
junior companies, this has made it a difficult environment in which to
raise capital since a weak equity environment for gold companies’
shares has made investors skittish to invest in these companies.

The
most recent illustration of the cost escalation issue comes from
Barrick Gold. During its last quarterly conference call the company
announced a continuation of cost escalations at its major development
projects. Its capital cost estimates have risen by over $-billion for
next year — after a significant cost increase announced during Q2 2012.
To be sure Barrick is not alone – it is an industry wide problem and
not limited to geography. 

Investing in Gold Miners

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this diagram

South
Africa has long been a major gold producer but as its reserves are
increasingly deeper underground and grades are getting increasingly
skinnier, the cost structure is adversely impacting the profits of the
South African producers. In addition, significant labor problems in the
country have impacted gold production in recent months.

As
the industry CEOs try to placate investors by promising to evaluate
projects based on their return on capital rather than production growth
for the sake of growth, they hope that investors will begin to give
their shares a second look. Many significant mega projects have been
delayed or scrapped this year by the industry. In a world where gold
production from mines has been virtually stagnant for the better part
of a decade and where central banks are increasingly raising their gold
reserves, some industry observers are starting to wonder if we have
reached a point of “peak gold” where supply will no longer be able to
keep up with demand. Historically, calls for peaks in supply of most
commodities have been.

Globally,
the grades of new gold projects are lower today and that has an impact
on costs and therefore the economics of the mines. Some longtime
veterans of the industry say that some of the projects being built or
considered today would not have made it past preliminary discussions in
“the old days.”

The
challenges of the industry are significant but so are the
opportunities for investors. The valuations have been compressed and
investor expectations are low for this segment of the market. Sentiment
levels have been a reliable contrarian indicator for trading
opportunities in the gold sector. Right now, the negative sentiment
towards gold stocks means they are not on too many investors’ to-do
lists for 2013.

Pacifica
Partners Capital Management Inc.

Navigating
a Sea of Opportunity

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This
report is for information purposes only and is neither a solicitation
for the purchase of securities nor an offer of securities. The
information contained in this report has been compiled from sources we
believe to be reliable, however, we make no guarantee, representation
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performance. Please note that, as at the date of this report, our firm
may hold positions in some of the companies mentioned.

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