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The world’s elite
silver miners just finished reporting their operating results from
2016’s first quarter, and they were impressive. This industry
continued to drive its costs lower even as silver finally started
mean reverting out of mid-December’s deep secular low. The silver
miners are beautifully positioned to enjoy soaring operating profits
as silver’s young new bull market continues gradually marching
higher on balance.
Silver mining is a
tough business geologically and economically. Primary silver
deposits, those with enough silver to generate over half their
revenues when mined, are quite rare. Most of the world’s silver ore
formed alongside base metals or gold, and their value usually well
outweighs silver’s. According to the just-released World Silver
Survey 2016 by the venerable Silver Institute, silver largely
remains a byproduct.
Last year
production from primary silver mines accounted for just 30% of the
global mine supply. Well over 2/3rds of the 886.7m ounces of silver
mined in 2015 was simply a byproduct from base-metals and gold
mining! And as rare as silver-heavy deposits supporting primary
silver mines are, primary silver miners are even rarer. Most
silver-mining companies have multiple mines, including
non-primary-silver ones.
This isn’t simply
due to the geological constraints in finding and developing
silver-dominant deposits. The cash flows silver mining generates
are relatively small compared to other metals. While base metals
are far less valuable, they are found in vastly greater quantities.
And while gold is much rarer, it is worth radically more than
silver. So it’s even challenging for miners to derive the majority
of their revenues from silver.
In Q1’16, silver
averaged just $14.90 per ounce. That’s pretty dismal, just 0.9%
higher than Q4’15’s $14.77 average which was the worst for any
quarter since Q3’09’s $14.72. Meanwhile gold averaged $1185 per
ounce in Q1’16, a far-superior 7.3% higher than Q4’15’s $1105 trough
which was gold’s worst quarter since Q4’09’s $1099. These Q1’16
average prices really help highlight silver mining’s economics.
A mid-sized silver
miner might produce 10m ounces annually, which is worth $149m at
Q1’s average silver price. Yet a mid-sized gold miner producing
300k ounces a year can generate revenues 2.4x higher at $356m.
These comparisons hold even with silver’s accelerating new bull so
far in Q2’16, which has produced much-higher average silver prices
of $16.64 quarter-to-date compared to $1255 for gold.
Despite silver’s
excellent 11.7% increase in average prices so far this quarter, that
mid-sized silver miner would still only see yearly sales of $166m at
these levels. That compares to $376m for that mid-sized gold miner,
still 2.3x higher. The cash flows silver mining spins off at these
low silver prices often aren’t sufficient to sustain mid-sized
mining operations, so elite silver miners have been actively
diversifying into gold.
While mining more
gold makes the silver miners much stronger financially, it also
dilutes their exposure to silver which is the main reason investors
buy their stocks. Unfortunately there are effectively no pure
silver miners left anymore in the mid-tier and major ranks, and very
few among the small but super-risky silver-mining startups. Silver
miners’ increasing gold operations certainly complicates analyzing
them.
Their Q1’16
reports weren’t due out until 45 calendar days after quarter-end,
and as usual these miners generally like to push that legal limit.
So this is the first week where comprehensive Q1’16 operating and
financial data across the silver-mining industry is available. I
always like to dig into these quarterly reports to get a handle on
how this industry is faring fundamentally, which helps me make
investing decisions.
I want to look at
the elite silver miners’ results, the biggest and best
companies out there with the most-widely-held stocks. And they are
all owned by the overwhelmingly-dominant silver-stock ETF, which is
the SIL Global X Silver Miners ETF. As of this week SIL had $286m
in assets. That was a whopping 6.2x larger than its next-biggest
competitor’s mere $46m, the SLVP iShares MSCI Global Silver Miners
ETF.
But since there
aren’t that many silver miners out there, SIL also includes 9 of
SLVP’s 10 holdings. As of the middle of this week, this flagship
SIL silver-stock ETF had 21 holdings. SIL is the leading way for
stock investors to invest in silver stocks today. I painstakingly
analyzed the top 17 of these component companies’ Q1’16 quarterly
reports this week, which collectively accounted for 96.0% of SIL’s
total weighting.
13 of these top
silver miners as determined by SIL’s managers trade in the US and
Canada, and 12 of them had published their quarterly results by the
middle of this week. The lone straggler was Silvercorp Metals,
which had its fiscal year-end on March 31st. Because full-year
results must be fully audited by a CPA firm before filing, that
final fiscal quarter’s deadline is extended to 90 days. So there’s
no Q1 data yet.
The remaining 4
top SIL-included silver miners trade in the UK and Mexico. Like
much of the world, they report in half-year increments
instead of quarterly ones. And since most companies have fiscal
years matching calendar years, these half-year reports usually come
after the ends of Q2s and Q4s. So Q1s and Q3s generally have little
or no financial data reported, but sometimes production updates are
given.
I dug through all
available Q1’16 results from these elite top 17 components of SIL
and fed a bunch of data into a spreadsheet for comparison. The
table below highlights some of the most relevant. Any cell left
blank means that particular company didn’t report that piece of
data. Usually companies’ weightings in the top ETFs don’t change
very much, so I was surprised to see a major reshuffling at
the top of SIL.
Because of that
90-day post-quarter-end filing deadline for quarterly results ending
fiscal years, Q4’15 results of these elite silver miners couldn’t be
analyzed until April. A few weeks ago I published an essay on
silver miners’
operating results in that critical secular-trough quarter.
Their actual performance in those miserable silver conditions was an
important baseline from which to compare recovery quarters.
Back in mid-April
Tahoe Resources was SIL’s largest holding at 12.1% of this ETF’s
weight, but by this week that had dropped to 10.8%. More
interestingly Pan American Silver’s weighting rocketed from just
5.5% in mid-April to the pole position at 12.3% by this week! I
can’t recall seeing a faster shift in a major ETF’s weighting of an
elite company, and these ETFs’ managers almost never discuss their
decision processes.
I suspect this
major shift was a gold thing. Tahoe Resources issued new
guidance in early April after its acquisition of Lake Shore Gold was
completed. It now expects to produce a midpoint of 400k ounces of
gold this year along with the previously-forecast 19.5m ounces of
silver. At prevailing prices near $1250 and $17, this yields gold
revenues of $500m this year which are much higher than silver’s at
$332m.
Mighty Tahoe,
which was spun off by Goldcorp to create a totally-pure primary
silver miner operating one of the world’s largest silver mines in
Guatemala, is now a primary gold producer. Unfortunately,
silver revenues running around 40% of total sales for these elite
silver miners are pretty common. I calculated the percentage of
revenue that each elite SIL company actually generated from silver
sales in Q1’16.
The methodology to
determine how pure these silver miners are is pretty basic. Their
silver production in the first quarter was multiplied by silver’s
average price, or a company’s actual average realized silver price
in Q1 if they happened to report it. Then that result was divided
by their total revenues. Since
silver lagged
gold’s initial big advance like usual in Q1, I figured that the
SIL miners’ silver purity would drop.
And that was
indeed the case, as is evident in the fifth column below after each
company’s symbol, the exchange its stock is traded on, its weighting
in SIL, and its market capitalization. The average percent of sales
generated by actual silver mining in Q1’16 fell to 44.9% from
Q4’15’s 47.5%. As
silver’s young
new bull continues to outpace gold now that it is underway, I
expect this percentage to start rising again.
Silver prices
generally rising faster than gold’s on balance should help offset
these elite silver miners’ ongoing diversifications into gold
mining. Rather interestingly, the ranks of true primary silver
miners which generate over half their revenue from silver
actually grew to 7 in Q1’16 from 6 in Q4’15. These majority-silver
companies’ percentages are highlighted below in blue. Hecla Mining
just joined this club.
For investors
logically buying silver stocks because they want leveraged exposure
of silver-mining operating profits to silver’s upside, the greater
the fraction of companies’ sales derived from silver the better. If
a company generates less than a third of its cash flows from silver,
I don’t think it should even be considered a silver miner. At that
point silver is simply a byproduct within the total operations of
that company.
SIL’s managers
ought to jettison the diversified mining conglomerates like
Fresnillo, Industrias Penoles, and Polymetal no matter how much
silver they produce. Their stock prices naturally don’t follow
silver. SIL would be a radically-better investment for silver
exposure, really the only reason investors buy it, if companies were
only included that generate over 40% of their sales on a
trailing-twelve-month basis from silver.
This rest of the
columns in this table focus on the operating fundamentals for the
elite silver miners of SIL. This includes Q1’16’s cash costs per
ounce produced, all-in sustaining costs per ounce, and AISC guidance
for full-year 2016. After that is cash on hand at the end of Q1,
cash generated from operations in Q1, and finally each company’s
actual Q1 silver and gold production. These silver miners all mine
gold too.
Collectively these
top 17 SIL silver miners produced 74.5m ounces of silver in Q1.
With global silver mine production now running about 221.7m ounces a
quarter per that latest Silver Institute report on silver’s
fundamentals, these major silver miners account for about 34% of
world production. But take out those 3 non-silver-centric
conglomerates, and that drops to 41.0m or around 18%. Primary
silver miners are rare.
Back in Q4’15,
many investors questioned the very viability of this industry. By
mid-December just days before the Fed’s first rate hike in 9.5
years, silver slumped to a brutal 6.4-year secular low of $13.69.
But as the silver miners’ actual
Q4’15 operating
results later proved, that was never a threat. Q4’15’s average
cash costs for the elite silver miners of SIL were just $6.68 per
ounce, far below even silver’s deep lows.
Cash costs are the
acid-test measure of what silver price the miners need to break even
and cover their ongoing cash operating expenses. These include all
direct production costs, mine-level administration, smelting,
refining, transport, regulatory, royalty, and tax expenses. Silver
miners can survive as long as silver prices remain above their cash
costs. And in Q1’16, average cash costs fell 10.3%
to just $5.99 per ounce!
A big factor in
this was the surging gold prices, which resulted in higher
byproduct credits to offset silver-mining expenses. It’s pretty
impressive to see cash costs drop so dramatically in a quarter where
silver’s average price edged just 0.9% higher to $14.90. As long as
silver remains above $6, which is impossibly low given its
fundamentals today, any talk of silver miners might not being able
to survive is foolish.
But cash costs are
misleading, as it takes far more expenditures to run a silver-mining
company as a going concern. All that silver mined is
constantly depleting deposits, so new ones have to be found and
developed to maintain production levels. And old exhausted mines
have to be reclaimed. So in June 2013 the World Gold Council
released the far-superior all-in-sustaining-cost metric to
measure mining costs.
All-in sustaining
costs include everything necessary to maintain and replenish
silver-mining operations at current production levels. This
includes all direct cash costs of mining silver, along with all
corporate-level administration that always should’ve been included
in cash costs. But AISC go far beyond that to encompass the entire
mining cycle, making them a far-more-realistic representation of
true silver-mining costs.
They also include
exploration for new silver to mine, the enormous mine-development
and construction expenses necessary to bring new mines online,
remediation, and reclamation. As long as prevailing silver prices
remain above all-in sustaining costs, silver miners can continue to
produce at current levels indefinitely. And rather impressively
they plunged dramatically in Q1’16 among the elite SIL silver
miners.
Their average AISC
of just $10.28 per ounce were 21.8% lower than Q4’15’s
$13.14! That’s amazing, leading to soaring operating profits for
these elite silver miners in Q1’16. In the fourth quarter, silver’s
$14.77 average less the $13.14 AISC average drove silver-mining
operating margins of just $1.63 per ounce. That’s tight, too low
for comfort for an industry that has to contend with silver’s wild
price volatility.
But in the first
quarter, $14.90 average silver less those much-lower $10.28 AISC led
to vastly healthier operating margins of $4.62 per ounce!
That was a mind-boggling 183% higher! This revelation ought
to be the final nail in the coffin for the idea that silver stocks’
enormous gains so far this year haven’t been fundamentally
justified. Just the opposite is true, soaring operating profits
righteously supported soaring stock prices.
Unfortunately the
silver miners themselves don’t expect Q1’16’s low AISC to persist,
as their average AISC projection for all of 2016 is much higher at
$12.79. But I suspect this year’s actual AISC will come in much
lower than those forecasts. The silver miners made their 2016
guidances way back in early January before gold and silver
started powering higher. So those projections assumed very-low
prices all year.
A great example is
First Majestic Silver, the purest major silver miner in the world
today with 69.5% of its first-quarter revenue from silver. It
forecast its full-year-2016 guidance for AISC back in mid-January,
and assumed silver and gold averaging just $14 and $1000 this year!
As gold’s new bull continues to power higher, rising byproduct
credits for gold will lower silver-mining costs far more than widely
anticipated.
In addition back
in January when 2016 outlooks were calculated, investors remained
very worried about this industry’s survivability so they were
overwhelmingly focused on costs. The management teams at the silver
miners have big incentives to overestimate cost projections
to ensure they can beat them later. So actual AISC in 2016 are
likely to be considerably less than the conservative inflated
estimates published.
But even if this
industry really does have AISC up near $13, the potential growth in
operating profits as silver inevitably mean reverts higher is still
massive. Remember that silver prices like 2015’s were a total
anomaly driven by the Fed’s
stock-market
levitation crushing demand for alternative investments led by
gold and silver. Silver’s average prices in 2014, 2013, and 2012
were way up at $19.05, $23.80, and $31.19.
So even at $12.79
AISC for this industry, the potential operating profits soar to
$6.26, $11.01, and $18.40 per ounce as silver mean reverts back to
normal levels from recent years as
gross market
distortions from the Fed’s machinations gradually unwind. Those
represent profits growth of 36%, 138%, and 298% even at much-higher
AISC on mere 28%, 60%, and 109% uplegs in silver from Q1’16’s
average price level!
Naturally Q1’16’s
surging operating profits for silver mining fed strong operating
cash flows for most of these elite silver miners, helping maintain
hefty cash treasuries even after Q1’s positive silver-price action
encouraged these companies to start spending on expansion again.
The silver miners continued to generate impressive cash flows from
operations even while silver’s average price stayed near Q4’15’s
trough.
So even though
silver didn’t do much in the first quarter as its new bull market
lagged gold’s, the silver miners’ fundamentals improved
considerably. Higher gold prices generated higher byproduct credits
for the elite silver miners, lowering their costs. And that trend
is going to continue. At a $1255 average so far in the second
quarter, gold is up another 5.9% at this point. So silver-mining
costs should keep falling.
On top of that,
silver’s average price so far this quarter at $16.64 is a huge 11.7%
higher than its average level in the first quarter. Much-higher
prevailing selling prices combined with costs still trending lower
should make for amazing silver-mining profitability in Q2’16. We
won’t know for sure until 3 months from this week when those
operating results are fully filed, but the outlook is very bullish
halfway through Q2.
So silver miners’
upside from here remains vast, in terms of both profits and stock
prices. Investors can take advantage of any silver weakness to buy
aggressively, as this young
mean-reversion
silver bull is likely to run for years. The coming massive
gains in silver stocks can certainly be ridden through this leading
SIL ETF, which indeed contains the world’s biggest and best silver
miners. But SIL has problems.
SIL’s managers
have really diluted their ETF’s upside to silver by including those
mining conglomerates that derive the great majority of their
revenues from metals other than silver. And though SIL’s holdings
have to be generally weighted by market capitalization, it takes
much bigger capital inflows to boost a larger silver miner than a
smaller one. And the biggest silver miners are increasingly
diversifying with gold.
So SIL’s
silver-bull-market performance is going to seriously lag that of the
best of the elite silver miners. An expertly-handpicked portfolio
only including the companies with superior fundamentals leveraged
to silver is going to trounce the silver-stock ETFs’ gains. So
investors willing to do their homework and buy individual stocks
instead of settling with the leading silver-stock ETFs are going to
enjoy big outperformance.
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while silver’s new bull remains young!
The bottom line is
the world’s elite major silver miners enjoyed a very strong first
quarter in fundamental terms. Even while silver continued to
languish near secular lows, silver-mining costs fell sharply as gold
rallied and boosted byproduct credits. This led to massive growth
in silver-mining operating profits in Q1’16, more than justifying
the powerful surges the silver-mining stocks have enjoyed in recent
months.
And this explosive
silver-mining profits growth is likely only starting. As gold and
silver continue their mean reversions higher on balance in the
coming years, the fundamentals of silver mining will improve
dramatically. Stable or even-lower costs due to higher gold
byproduct credits combined with far-higher selling prices will
create a fundamental nirvana for the silver miners. Their stocks
still have enormous upside.
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