Wheaton Precious Metals — Adjusting for ‘major maintenance’ at Salobo in Q4

On 21 February 2023, WPM announced that it had produced and sold 286,985oz and 293,234oz gold, respectively, and 23,979koz and 21,570koz silver, respectively (among others), in FY22. A summary of its full production and sales results for all metals for the year, relative to both prior guidance and Edison’s prior expectations, is as follows:

In addition to adjusting our forecasts to reflect actual compared to expected production and sales levels (see Exhibit 2, below), Edison has also adjusted them to reflect actual metals prices prevailing during the fourth quarter compared to those expected at the time of our last note, published in November 2022. These are similarly summarised below:

While metals prices were generally higher than our expectations at the time of our November note, it is nevertheless worth noting the relatively sharp falls in palladium and cobalt prices since then (albeit these, combined, accounted for less than 5% of Wheaton’s total gold equivalent production in FY22 and less than 6% of its sales – see Exhibit 1, above).

In the light of these disclosures therefore, as well as recent moves in metals prices, forex rates and WPM’s share price, Edison has updated its quarterly estimates for WPM for FY22 as follows:

Our basic EPS forecast of US$1.11/share for FY22 is 3.5% below the consensus forecast of US$1.15/share (source: Refinitiv, 1 March 2023).

At 7.8% the degree of under-sale of silver during Q422, relative to production, was below the long-run average of 11.9% (from Q112 until Q322) and below the level of the previous six quarters, back to Q121, demonstrating some evidence of its counterparties ‘flushing through’ sales before the year end. The 4.5% over-sale of gold relative to production was also above its long-run average of a 6.7% shortfall and similarly indicative of ‘flushing through’:

Gold and silver ounces produced but not yet delivered as at 30 September amounted to 67,247oz and 3.6Moz respectively (cf 59,331oz and 3.7Moz at end-Q222). In the light of the under-sale and over-sale of silver and gold, respectively, during Q422, we estimate that ounces produced but not yet delivered will have amounted to 4.0Moz Ag and 64,275oz Au as at 31 December 2022. These equate to 2.69 months and 1.99 months of FY22 gold and silver production, respectively (cf 2.63 months and 1.77 months estimated as at end-Q222) and compare with WPM’s target of two to three months for gold and palladium and two months for silver.

In addition to its FY22 production and sales results, Wheaton also provided detailed production guidance for FY23 (for the first time), as well as for the five years from FY23–27 (inclusive) and the 10 years from FY23–32 (inclusive). These are presented in the exhibit below compared with Edison’s equivalent forecasts. Note that both include the Marathon, Curipamba and Goose streams (but not yet the Fenix stream) and exclude the Keno Hill and Yauliyacu streams (which have now been sold).

WPM’s updated five-year and 10-year guidance is based on standardised pricing assumptions of US$1,800/oz gold (unchanged), US$24.00/oz silver (unchanged), US$1,800/oz palladium (cf US$2,100/oz previously) and US$18.75/lb cobalt (cf US$33.00/lb previously). Of note in this context is an implied gold/silver ratio of 75x, which compares with its current ratio of 84.9x, but a long-term average of 61.5x (since gold was demonetised in August 1971). Self-evidently, at the standardised prices indicated, our gold equivalent production forecast of 623.7koz gold equivalent (AuE) for FY23e lies well within WPM’s guidance range of 600–660koz AuE.

Otherwise, readers will note that Edison’s medium-term production forecasts are within 5% of WPM’s guidance for the period FY23–27 and within 7% of its longer-term guidance for FY23–32. However, we regard this as within an acceptable range of variance, especially given WPM’s traditional under-sale of metal relative to production of this order of magnitude. In addition, these estimates necessarily exclude potential future stream acquisitions.

In the short term, production of palladium and gold at Stillwater (operated by Sibanye-Stillwater) will increase under the influence of the Fill-the-Mill project at East Boulder (although the Blitz project has now been delayed to 2024, following the suspension of growth capital activities owing to COVID-19). Similarly, the Voisey’s Bay underground project is in the process of ramping up to full production, while First Majestic is in the process of increasing production at San Dimas by restarting mining operations at the past-producing Tayoltita mine to add another 300tpd (12%) to throughput. In addition, it is investigating the installation of a 3,000tpd high-intensity grinding mill circuit and an autogenous grinding mill to improve recoveries and reduce operating costs.

In the medium term, Wheaton has four projects that are progressing on their route to production:

On 24 October 2018, Vale announced the approval of the Salobo III brownfields mine expansion, intended to increase processing capacity at Salobo from 24Mtpa to 36Mtpa, with start-up at that point scheduled for H222 and an estimated ramp-up time of 15 months. According to its agreement with Vale, depending on the grade of the material processed, WPM will be required to make a payment to Vale for this expansion, which WPM estimates will be in the range US$550–670m in FY23–25, in return for which it will be entitled to its full 75% attributable share of expanded gold production. Note, however, that the timing of this payment is dependent upon Salobo III successfully concluding a 90-day completion test, based largely on throughput, the start of which is at Vale’s discretion. The payment also compares to WPM’s purchase of a 25% stream from Salobo in August 2016 for a consideration of US$800m (see our note Going for gold, published on 30 August 2016), the US$900m it paid for a similar stream in March 2015 (when the gold price averaged US$1,179/oz) and the US$1.33bn it paid for its original 25% stream in February 2013.

As at the end of Q422, the Salobo III mine expansion was reported to be 99% complete:

According to Vale, the project successfully commenced at the end of 2022 and is expected to achieve full capacity in Q424. Once Salobo III has been completed, however, WPM believes that reserves and resources there could support a further 33% capacity increase at Salobo, from 90ktpd to 120ktpd (denoted Salobo IV). In addition to its long-term underground potential, WPM believes such an expansion could nevertheless still be supported by open-pit mining alone. Under the terms of its agreement with Vale, there would be no additional payment due from WPM in respect of the Salobo IV expansion, although Vale could exercise a right to alter the timing of the incremental payment due for Salobo III.

Another major project with which WPM has a streaming agreement for attributable gold and silver production is Rosemont in Arizona (now part of the wider Copper World complex).

Rosemont/Copper World is near a number of large porphyry-type producing copper mines and will be one of the largest copper mines in the United States, with initial output of c 86,000t copper per year from mined sources, accounting for c 8% of total US copper production, rising to c 101,000tpa after 16 years. Total by-product production of silver attributable to WPM is estimated to be c 1.7Moz Ag pa for Phase I, followed by c 2.4Moz Ag pa for Phase II.

The evolution of the project from Rosemont to Copper World

Rosemont/Copper World’s operator, Hudbay, received both a Mine Plan of Operations from the US Forest Service and a Section 404 Water Permit from the US Army Corps of Engineers (ACOE) in March 2019, which was effectively the final material administrative step before the Rosemont mine could start development. Subsequently, Hudbay indicated it would seek board approval to start construction work by the end of CY19, which would have enabled first production ‘by the end of 2022’. In the meantime, it started early works to run concurrently with financing activities (including a potential joint venture partner).

A legal challenge, lunched in July 2019, has since delayed the project. However, Hudbay has continued to explore in and around the area of the mine and, on 22 September 2021, announced the intersection of additional high-grade copper sulphide and oxide mineralisation predominantly located on its wholly owned patented mining claims (denoted Copper World). To date, seven deposits have been identified at Copper World with a combined strike length of over 7km and, on 15 December 2021, Hudbay announced a maiden mineral resource at Copper World of 272Mt in the indicated category and 142Mt in the inferred category, both at an average grade of 0.36% copper. The mineralisation consists of both skarn and porphyry copper sulphides with a significant oxidised component along a regional fault along the west side of the Rosemont, Bolsa and Broad Top Butte deposits known as the Backbone Fault. As a consequence of this exploration, it was determined that approximately 33Mt of inferred mineral resources at the Bolsa deposit, which were previously considered to be waste in the resource pit shell used for Rosemont’s NI 43–101 feasibility study, could now potentially be converted into reserves, which would result in less waste being mined at Rosemont, thereby reducing costs and energy consumption per tonne of ore mined. In addition, the Rosemont deposit also contains oxide mineralisation that was previously classified as waste, which could be processed with the oxide mineralisation at Copper World, and it is expected that further synergies will be identified as Hudbay explores the gap between Bolsa and Rosemont. Note, the Copper World discovery is included in WPM’s area of interest under its precious metals purchase agreement (PMPA) with Hudbay.

A new development plan

As a result of these discoveries, Hudbay has adjusted its plan to develop the district. Among other things, it has now acquired a private land package totalling approximately 4,500 acres to support an operation on private lands. The initial technical studies for Copper World were incorporated into a preliminary economic assessment (PEA) investigating the development of the Copper World deposits in conjunction with an alternative plan for the Rosemont deposit, which was announced to the market on 8 June 2022, and proposed a two-phase mine development plan. The first phase of the mine plan requires only state and local permits and reflects an approximate 16-year mine life. The second phase then extends the mine life to 44 years and incorporates an expansion onto federal lands to mine the entire Rosemont and Copper World deposits. The second phase of the mine plan would be subject to the federal permitting process and the company expects that it will be able to pursue the federal permits within the constraints imposed by the courts’ most recent legal decisions if any subsequent appeals are not successful.

In this context, on 24 May 2022, Hudbay received a favourable decision from the US District Court for the District of Arizona on all issues relating to the development of Copper World, including that Copper World and Rosemont are not connected under the National Environmental Policy Act (NEPA) and, therefore, that the ACOE does not have an obligation to include Copper World as part of its NEPA review of Rosemont. The District Court also granted Hudbay’s motion to dismiss the Copper World preliminary injunction request filed by the plaintiffs in the two lawsuits challenging the Section 404 Clean Water Act permit for Rosemont on the basis that the lawsuits were moot after the company surrendered its 404 permit back to the ACOE in April 2022. The ACOE has never determined that there are jurisdictional waters of the United States on the Copper World site and Hudbay has independently concluded through its own scientific analysis that there are no such waters in the area. In this respect, Hudbay believes the District Court’s decision, together with the 12 May 2022 decision, clarifies the permitting path for Copper World, including the requirements to receive federal permits for the second phase only (ie years 16 to 44 of the project) under existing mining regulations.

PEA completed and PFS underway ahead of potential project sanctioning in 2024

Resources were reported to have expanded materially to 792Mt in the measured category, 381Mt in the indicated category and 262Mt in the inferred category at the time of Hudbay’s PEA at an average grade of 0.40% copper. In April 2022, the company commenced early works at Copper World with initial grading and clearing activities at site – albeit Hudbay is having to contest an ACOE order to stop grading and land clearing on a portion of the site, while also being under a law enforcement investigation by the San Francisco regional office of the US Environmental Protection Agency (EPA) for ‘unauthorized activities’. Nevertheless, Hudbay expects to conclude a pre-feasibility study for Phase I of the Copper World project this year, which will focus on converting the remaining inferred mineral resources to measured and indicated status and the evaluation of many of the project’s optimisation and upside opportunities. It will then complete a definitive feasibility study as well as receiving all required state and local permits over the next 12 months, while simultaneously evaluating a variety of financing options, including a potential minority joint venture partner, prior to project sanction potentially as early as 2024. As such, Edison is continuing to forecast production from Rosemont/Copper World attributable to WPM in FY27. However, readers should note that any acceleration in the process of being granted federal permits could allow Hudbay earlier access to higher-grade areas of the orebody, especially at Rosemont. In the meantime, it is continuing exploration and technical work at site with seven drill rigs conducting infill drilling to support its feasibility studies.

In April 2022, Antamina announced a US$1.6bn investment that will lengthen the mine’s useful life from 2028 to 2036. Currently, the mine is carrying out a third and final ‘public participation’ with residents of the northern Andean region of Ancash, where the mine is located, and is awaiting a response from the local authority, Senace, regarding the company’s request to modify its environmental impact assessment to allow the mine to extend its operating life by eight years. Production and the mine’s operational footprint would remain the same and it hopes to achieve mine extension approval early this year. The mine, which is co-owned by Glencore, BHP, Teck and Mitsubishi Corp, is Peru’s largest, and the world’s second-largest, copper mine.

WPM’s contract with Barrick provided for a completion test that, if unfulfilled by 30 June 2020, would result in WPM being entitled to the return of its upfront cash consideration of US$625m less a credit for any silver delivered up to that date from three other Barrick mines (at which point it would have no further streaming interest in the mine). Given the test was unfulfilled, WPM had the right to an estimated US$252.3m (the carrying value of Pascua-Lama in WPM’s accounts) repayment from Barrick in FY20. Given the long-term optionality provided by the Pascua-Lama project, however, WPM instead opted not to enforce the repayment of its entitlement and to instead maintain its streaming interest in the project (which was originally expected to deliver an attributable 1.7–12.0Moz silver pa, averaging 5.2Moz Ag pa, to WPM at a cost of US$3.90/oz inflating at 1% per year). A Chilean court ordered Pascua-Lama to close in 2020, but Barrick has raised the possibility that the orebody could be developed in a different manner, with an investment decision anticipated in 2024.

In general, WPM expects to be conducting due diligence processes on approximately 10–12 projects at any one time, which it expects to narrow to three to four target projects over the course of approximately 12 months. Most of the opportunities currently being evaluated by WPM are reported to be the precious metal by-product streams of base metal mines, although there are also reported to be some high-margin, purely precious metals mines included as well. In the first instance, WPM would fund any such transactions via the US$2bn available under its revolving credit facility, plus the US$494.6m in cash that it has on its balance sheet (at end-Q322) and, potentially, its US$300m at-the-market equity programme.

While it is difficult, or impossible, to predict potential future stream acquisition targets with any degree of certainty, it is possible to highlight two that may be of interest to WPM in due course for which it already has strong, existing counterparty relationships, being:

In the light of WPM’s FY23 guidance, and recent moves in metals prices, forex rates and WPM’s share price, Edison has calculated the following maiden quarterly forecasts for Wheaton for FY23:

Readers should note that the majority of the decline in our estimates for gold production and sales in FY23 relates to our assumption of a relatively slow recovery in output at Salobo and the fact that the Salobo III expansion is not now expected to achieve full capacity until Q424 (see above). Otherwise, our basic EPS forecast of US$1.08/share for FY23 is 15.0% below the consensus forecast of US$1.27/share (source: Refinitiv, 1 March 2023). In this context, it is worth noting that our gold and silver price forecasts for the remainder of the year are US$1,826/oz and US$21.03/oz, respectively, which are those prevailing at the time of writing.

Our EPS forecast of US$1.08/share for FY23 is lower than our previous (formal) forecast of US$1.47/share. In part, this is a result of lower forecast production in FY23, in particular, at Salobo. However, it is also the result of lower metals prices for silver, palladium and cobalt (see Exhibit 9, above). In our last report on Wheaton (see Results closely in line with prior expectations, published on 8 November), we noted that, ‘In the event of precious metals prices remaining at current levels for the whole of FY23, then we estimate that this figure [EPS] would instead moderate to approximately US$1.19/share.’ As such, our revised EPS of US$1.075/share is only 9.7% below our comparable prior forecast of US$1.19/share at prevailing metals prices.

WPM is a multi-asset company that has shown a willingness and desire to buy streams in the past to maintain production and maximise shareholder returns. As a result, rather than our customary method of discounting maximum potential dividends over the life of operations back to FY23, in the case of WPM (as with Newmont and Endeavour), we discount forecast cash flows back over four years from the start of FY23 and then apply an ex-growth terminal multiple to forecast cash flows in that year (ie FY26) based on an appropriate discount rate.

In this case, our estimate of WPM’s ‘terminal’ pre-financing cash flow in FY26 is ostensibly unchanged at US$2.59/share (cf US$2.67/share previously), as shown below:

Note that the negative cash flow that we calculate in FY23 arises almost solely as a result of the assumption that Wheaton will pay Vale US$603m in consideration of the Salobo III expansion over the course of the next 10 months (NB this is unchanged since our last note). In reality, this could equally occur in FY24 or FY25 or later. Otherwise, assuming 4% growth in nominal cash flows beyond FY26 (ie 0% growth in real cash flows) and applying a discount rate of 9.0% (being the expected long-term required nominal equity return), our terminal valuation of the company at end-FY26 is US$53.71/share (cf US$55.35/share previously), which, when discounted back to FY23 in combination with intervening cash flows, results in a valuation at the start of FY23 of US$41.52/share (cf US$40.24/share previously), or C$56.30/share (cf C$54.43/share previously). To this should then be added our estimate of FY22 end net cash of US$1.33/share (C$1.81/share) to take the total to US$42.85 (or C$58.11) per share. However, this valuation is inherently conservative in that it is based on the assumption of zero growth in (real) cash flows beyond FY26. This is inconsistent with the gold price, which has risen at a compound average annual growth rate of 7.6% per annum since 1968 and at a simple average annual growth rate of 9.7% per annum (as depicted below).

It is also inconsistent with WPM’s longer-term historical performance, wherein operational cash flows have increased at a compound average annual growth rate of 23.2% pa for the 16 years between FY05 and FY21, while its operational cash flows per share have increased at compound average annual growth rate of 15.8% pa.

Excluding FY04 (part-year), WPM’s shares have historically traded on an average P/E multiple of 30.1x current year basic underlying EPS, excluding impairments (cf 37.7x Edison or 36.2x Refinitiv consensus FY22e – see Exhibit 13).

Applying this 30.1x multiple to our (ostensibly unchanged) EPS forecast of US$1.80 in FY26 (cf US$1.88 previously) implies a potential value per share for WPM of US$54.12 or C$73.40 in that year. However, the graph above suggests that the investing environment post-2017 has been able to support an enhanced WPM multiple relative to earlier years (which we would ascribe to macroeconomic uncertainty creating a supportive environment for precious metals). As such, we believe that a multiple of 38.6x (the average of FY18–21) may still be supported in the event of a return to favour of precious metals and precious metals stocks. In this case, applying a 38.6x earnings multiple to our EPS forecast of US$1.08 in FY23 implies a potential value per share for WPM of US$41.45 or C$56.22.

From a relative perspective, it is notable that WPM is cheaper than its peers on at least 52% (19 out of 36) of the valuation measures observed in Exhibit 14 if Edison estimates are used or 55% (20 out of 36) of the same valuation measures if consensus forecasts are used.