Wheaton Precious Metals — Bagging elephants in British Columbia

On 13 December, WPM announced that it has entered into a definitive agreement to acquire an existing gold stream held by New Gold in respect of gold production from the Blackwater gold project in British Columbia. In addition, it has also entered into a precious metal purchase agreement with Artemis Gold in respect of silver production, also from the Blackwater project. The upfront consideration for the two streams will be US$441m, for which Wheaton will be entitled to receive 8% of the payable gold production from Blackwater until 279,908oz have been delivered (thereafter dropping to 4% for the remainder of the life of the mine) and 50% of the payable silver production until 17.8Moz have been delivered (thereafter dropping to 33%) and will make ongoing cash payments equal to 35% of the spot gold price and 18% of the spot silver price (rising to 22% of the spot price of silver once the silver production payment is equal to the upfront cash consideration). A summary of the terms of each stream is as follows:

The Blackwater gold project is a top-tier gold and silver project located in central British Columbia, approximately 446km north-east of Vancouver, accessible via major highway and access/service roads. It is 100% owned by Artemis Gold, which has a 100% recorded interest in 329 mineral claims covering an area of 148,902ha distributed among the property and the Capoose, Auro, Key, Parlane and RJK claim blocks.

The Blackwater deposit itself is an example of an intermediate sulphidation epithermal-style gold-silver deposit. Resources and reserves delineated to date are as follows:

Mineralisation is hosted within felsic to intermediate composition volcanic rocks that have undergone extensive silicification and hydrofracturing in association with pervasive stockwork veined and disseminated sulphide mineralisation. It is strongly controlled by north-west-south-east trending structures characterised by zones of tectonic brecciation and chloritic gouge, crosscut by a major north-south-trending fault that was used to subdivide the resource block model into two structural domains: one to the east of it and one to the west. The alteration minerals most commonly identified included muscovite, high- and low-temperature illite, ammonium-bearing illite, smectite, silica, biotite and chlorite. Gold-silver mineralisation is associated with a variable assemblage of pyrite-sphalerite-marcasite-pyrrhotite ± chalcopyrite ± galena ± arsenopyrite (± stibnite ± tetrahedrite ± bismuthite).

Disseminated gold-silver mineralisation is defined by an east-west trending tabular-conical shaped deposit with a lateral extent of up to 1,300m east-west × 950m north-south. Mineralisation remains open at depth in the south-western part of the deposit as well as to the north and north-west. The centre of the deposit has an average thickness of 350m and, where open, a vertical extension of up to 600m. The mineralised zone plunges shallowly to the north and north-west with inferred steep, north plunging higher-grade mineralised shoots, measuring tens of metres thick, probably influenced by near-vertical structural intersections.

The development of the project is envisaged to involve the construction and operation of a conventional open pit and associated ore processing facilities, initially targeting high-grade, near surface ore. It will commence with a nominal milling rate of 6.0Mtpa (Phase 1), before being expanded twice, to 12.0Mtpa in year 6 (Phase 2) and 20 Mtpa in year 11 (Phase 3). A combined gravity circuit and whole ore leach will be used for recovering gold and silver. Variability composite results averaged 93.7% total gold extraction with gravity gold recovery of 34.2% and a 65% silver recovery.

Open-pit operations are anticipated to run for 17 years (excluding 15–18 months of pre-production mining). Following mining operations, stockpiled low-grade material will be processed for an additional five years, resulting in a total life of mine of 22 years.

Full details for the project may be found on Artemis’s website and also in the feasibility study prepared for it by Ausenco in September 2021. A summary of the principal findings of the study’s economic analysis is as follows:

Artemis has disclosed that it expects major construction of the Blackwater project to commence in Q222, with production commencing in Q124. For a project of this magnitude, we would expect a construction period of approximately three years, albeit the final year of construction would overlap with the first year of production. As such, we believe that this timeline is achievable although, given potential delays and the need to ramp up, it is difficult to assess how much production will be achieved in FY24. For the purposes of Edison’s evaluation of the stream therefore, we have assumed that the first year of full production will be FY25. Any production in FY24 therefore represents upside potential to our valuation and returns calculations.

In the table below we provide an analysis of the estimated cash flows generated as a result of the stream for the first 11 years of its life, including the first eight years of production (incorporating the full Phase 2 expansion, but not the Phase 3 expansion in year 11):

Our (nominal in this case) gold forecasts remain unchanged relative to previous notes and are the same as those expounded in our sector note A golden future, published in June 2020.

Readers should note that Edison’s analysis has been performed over the full 22-year life of the Blackwater operation; however, it is only possible to show the first eight years of operation in the table above, owing to space constraints. A number of features of the analysis are nevertheless noteworthy:

All other things being equal, we calculate that the Blackwater stream will increase WPM’s basic EPS by a minimum of 5c/share and a maximum of 15c/share (average 7c/share) over the first six years of its productive life to FY30, as follows:

Formally discounted at Edison’s customary 10% discount rate, we estimate that Blackwater’s life of mine cash flows are worth an immediate US$14.3m, or 3c/share, to WPM. This increases to US$46.2m, or 10c/share, in the event that Artemis is able to make FY24 (rather than FY25) the first full year of production. These valuations rise to US$1.19/share and US$1.21/share, respectively, at the start of FY25. As always however, the project also offers ‘optionality’ to WPM in the form of its operator’s ability to expand and/or extend the life of the project via its ongoing exploration efforts. At currently prevailing year one P/E multiples (eg 29.6x – see Exhibit 7), such increases in EPS (Exhibit 4) could prove to be worth c US$1.48–4.44/share in the year in which they are realised.

At the time of its Q420/FY20 results, WPM provided production guidance of 720–780koz AuE for FY21 and well as five-year average production guidance of 810,000oz AuE per annum and maiden 10-year average guidance of 830,000oz AuE per annum. At the same time as announcing its Q321 results however, Wheaton took the opportunity to refine its guidance to 735–765koz AuE in FY21, albeit its longer-term guidance remained unchanged. This compares with Edison’s updated forecasts in the wake of the Blackwater announcement, as follows:

WPM’s updated five-year and 10-year guidance is now based on standardised pricing assumptions of US$1,800/oz Au, US$25.00/oz Ag, US$2,300/oz palladium (Pd) and US$17.75/lb cobalt (Co). Of note in this context is an implied gold/silver ratio of 72.0x, which compares with its current ratio of 81.4x and a long-term average of 61.5x (since gold was demonetised in 1971). Readers will otherwise note that the execution of the Blackwater transaction and its inclusion into Edison’s forecasts brings Edison’s longer-term production forecasts to within 1.1% of WPM’s guidance for the period FY22–30.

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 c US$550–650m in FY23, in return for which it will be entitled to its full 75% attributable share of expanded gold production. This 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.

According to Vale’s Q321 performance report, the Salobo III mine expansion is now 81% complete (cf 77% at the end of Q221, 73% at the end of Q121, 68% at the end of Q420, 62% at the end of Q320, 54% at the end of Q220, 47% at the end of Q120, 40% at the end of Q419 and 27% at the end of Q319) and remains on schedule for start-up in H222.

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

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, but to 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).

Another major longer-term project with which WPM has a streaming agreement for attributable gold and silver production is Rosemont Copper in Arizona.

The proposed Rosemont development is near a number of large porphyry-type producing copper mines and would be one of the largest three copper mines in the United States, with output of c 112,000t copper in concentrate per year and accounting for c 10% of total US copper production. Total by-product production of silver and gold attributable to WPM is estimated to be c 2.7Moz Ag pa and c 16,100oz Au pa.

Rosemont’s operator, Hudbay, has 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 (in March 2019), which was effectively the final material administrative step before the 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).

On 31 July 2019, however, the US District Court for the District of Arizona issued a ruling relating to a number of lawsuits challenging the US Forest Service’s issuance of the Final Record of Decision effectively halting construction, saying that:

In response, Hudbay said it believed the ruling to be without precedent and the court had misinterpreted federal mining laws and Forest Service regulations as they apply to Rosemont. It pointed out that the Forest Service issued its decision in 2017 after a ‘thorough process of 10 years involving 17 co-operating agencies at various levels of government, 16 hearings, over 1,000 studies, and 245 days of public comment resulting in more than 36,000 comments’ and with a long list of studies that have examined the potential effects of the proposed mine on the environment. Hudbay also pointed out that various agencies had accepted the company could operate the mine in compliance with environmental laws. As a result, Hudbay has appealed the ruling to the Ninth Circuit Court of Appeals, which it expects to be successful, not least as a result of there being legal precedents for its waste disposal plan. As per its MD&A for the year ended December 2020, final briefs relating to its appeal were filed in November 2020 and the oral hearing was completed in early February 2021, such that Hudbay expects a ruling from the Ninth Circuit in the near future. Nevertheless, as an alternative, it is also able to adapt its mine and waste plan to accommodate its waste dumps on privately owned, patented land alone, if necessary.

In the meantime, Hudbay has continued to explore in and around the area of the mine and, on 22 September, announced the intersection of additional high-grade copper sulphide and oxide mineralisation on its wholly owned patented mining claims (Copper World). To date, seven deposits have been identified at Copper World with a combined strike length of over 7km. As of 30 June approximately 166 holes had been completed at Copper World, totalling over 91,000 feet, on the back of which Hudbay expects to publish an initial inferred mineral resource estimate for Copper World shortly. These mineral resources will then form the basis for a preliminary economic assessment on the project, expected to be released H122. Note, the Copper World discovery is included in Wheaton’s area of interest under its PMPA with Hudbay.

Once in production, we estimate Rosemont will contribute c 16,750oz gold and 2.7Moz silver to WPM’s production profile in return for an upfront payment of US$230m in two instalments of US$50m and US$180m (neither of which has yet been paid) and this production is included in our financial forecasts from FY25.

WPM reports that its corporate development team remains ‘exceptionally busy’. While the majority of deals are now reported to be with development companies in the US$100–300m range (with fewer ‘balance sheet repair’ opportunities), it is also reported there have been a number of approaches made by producing companies for transactions to fund expansion and even to fund M&A activity. In the first instance, WPM would fund any such transactions via the US$2bn available under its revolving credit facility, 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 an additional two that may be of interest to WPM in due course for which it already has strong, existing counterparty relationships:

Otherwise, WPM also has streaming agreements with other potential producing mines, including Navidad and Cotabambas, and a recently acquired 2.0% net smelter return royalty interest with the Brewery Creek mine in the Yukon in Canada.

Excluding FY04 (part-year), WPM’s shares have historically traded on an average P/E multiple of 30.0x current year basic underlying EPS, excluding impairments (cf 29.6x Edison or 29.9x Refinitiv consensus FY21e – see Exhibit 7).

Applying this 30.0x multiple to our (unchanged) EPS forecast of US$2.04 in FY23 would ordinarily imply a potential value per share for WPM of US$61.19 or C$78.75 in that year. However, the graph above suggests the current year multiple has been on a broadly upward trend between FY12 and FY19, on which basis we would argue that a multiple in excess of 40x (as evidenced by FY18 and FY19) could be supported in the event of a return to favour of precious metals and precious metals stocks (not least given the fact that these years were not subject to the extraordinary trials and tribulations experienced in FY20 and so far in FY21). In this case, applying a 40.7x earnings multiple (the average of FY18, FY19 and FY20) to our FY23 EPS forecast of US$2.04 implies a potential value per share for WPM in that year of US$82.98 or C$104.85 (note this analysis implicitly assumes metals prices in FY24 would be experiencing the same sort of increases relative to FY23 that they did in FY20 relative to FY19 and the average multiple would probably then contract again in FY24 as EPS ‘caught up’ with the share price). Even at such share price levels, however, a multiple of over 40.7x would put WPM’s shares on little more than par relative to Franco-Nevada (see Exhibit 7).

In the meantime, from a relative perspective, it is notable that WPM has a lower valuation than the average of its royalty/streaming ‘peers’ on seven out of nine valuation measures if Edison forecasts are used or six out of nine valuation measures if consensus forecasts are used. On an individual basis, it is cheaper than its peers on 66% (24 out of 36) of the valuation measures observed in Exhibit 7 if our estimates are adopted or 58% (21 out of 36) of the same valuation measures if consensus forecasts are adopted.

At 30 September, WPM had US$372.5m in cash on its balance sheet and no debt outstanding under its US$2bn revolving credit facility, such that (including a modest US$3.1m in leases) it had US$369.4m in net cash overall after US$201.3m of cash generated by operating activities during the quarter (cf US$216.3m in Q221, US$232.2m in Q121 and US$208.0m in Q420).

In the absence of any other immediate calls on its cash, we estimate that Q421 net cash will be more than sufficient to meet its near-term commitments under the Blackwater transaction. Note however that, for the purposes of our financial forecasting in Exhibit 8, below, initial consideration for the Blackwater stream is assumed to be payable in FY22.