Wheaton Precious Metals — Refining forecasts ahead of results

On 7 February, Wheaton announced attributable production and sales statistics for FY21, from which it is possible to derive preliminary Q421 production and sales numbers – subject to any restatements – as shown in Exhibit 1, below.

While it can be seen that production numbers were broadly in line with Edison’s prior estimates for Q4 – and especially for Wheaton’s two major metals, gold and silver – it can also be seen that, whereas Edison had presumed that sales would be approximately in line with production, there was in fact a 12.1% under-sale of metal relative to production (on a gold equivalent, AuE or GEO, basis). FY21 was, in general, a year that was anyway subject to the disruptions of the global COVID-19 pandemic. In this respect however, it may be observed that the sales pattern in Wheaton’s fourth quarter more closely approximated a typical Q1–Q3 type pattern, whereby sales undershoot production, rather than a typical Q4 pattern, whereby there is a ‘flush through’ effect as underlying operators attempt to clear the sales pipeline and sales therefore roughly equal (or even exceed) production.

Relative to guidance, gold equivalent production exceeded the midpoint of guidance primarily as a result of stronger than expected production from Peñasquito, Antamina, Constancia and Voisey’s Bay, partially offset by weaker production from Salobo and Sudbury. Attributable production exceeded Wheaton’s forecast at: 1) Peñasquito owing to higher recoveries as a result of the implementation by Newmont Corporation of the Full Potential programme, 2) Antamina owing to higher grades, 3) Constancia owing to higher grades as a result of the successful commencement of mining at the Pampacancha deposit and 4) Voisey’s Bay owing to higher production as a result of Wheaton’s benefiting from some material introduced to the processing pipeline the previous year, but only being produced in Q121. Attributable production was below Wheaton’s forecast at: 1) Salobo owing to lower throughput and grades as the result of coronavirus induced changes in maintenance routines, which restricted mine movement in H121, coupled with the effect on production of a conveyor belt fire in October 2021; and 2) Sudbury owing to lower throughput and grades as the result of operations at the mine being suspended following a labour dispute from 1 June 2021 to 9 August 2021 and the suspension of mining at the Totten mine as a result of a shaft incident.

In addition to variations in actual compared with forecast production and sales, actual metals prices were also different from those forecast in our last note to the extent shown below:

In the light of the variations in actual prices and performance relative our prior expectations, we have updated our forecasts for Wheaton for Q421 and FY21 as shown in the table below relative to our prior expectations:

Our basic EPS forecast of US$1.31/share for FY21 is 2.2% below the consensus forecast of US$1.34/share (source: Refinitiv, 22 February 2021), albeit within the range of analysts’ expectations of US$1.26–1.38 per share (NB narrowed from US$1.29–1.58 per share on 5 November 2021 – source: Refinitiv):

Notwithstanding Edison’s prior forecasts, Wheaton’s under-sales of both gold and silver relative to production were within 3 percentage points of their long-term averages since Q112 and well within the range of normal quarterly performance:

As at 30 September, payable ounces attributable to WPM produced but not yet delivered amounted to 4.1Moz silver and 81,246oz gold and we estimate that, all other things being equal, this ‘inventory’ will have increased to 4.9Moz and 90,206oz, respectively. These equate to 2.27 and 3.16 months of Edison’s forecast FY21 silver and gold production, respectively (cf 1.89 and 2.86 months estimated as at end-Q321) and compare with WPM’s target of two months of silver and two to three months of gold and palladium production, respectively:

Note that, for these purposes, the use of the term ‘inventory’ reflects ounces of gold and silver produced by WPM’s operating counterparties at the mines over which it has streaming agreements, but which have not yet been delivered to WPM. It in no way reflects the other use of the term in the mining industry, where it typically refers to metal in circuit and ore on stockpiles etc.

At the time of its Q321 results, WPM provided updated guidance for non-stock general and administrative (G&A) expenses of US$42–44m (or US$10.5–11.0m per quarter) in FY21, cf US$42–45m previously and to a guided range of US$40–43m in FY20 and an actual outcome of US$38.7m (ie 3.1% below the bottom of the range), including all employee-related expenses, charitable contributions, etc, but excluding performance share units (PSUs) and equity settled stock-based compensation. In the event, at US$9.5m, non-stock G&A expenses in Q321 were below the pro-rata quarterly rate implied by WPM’s full-year guidance for the third quarter in succession.

Compared with non-stock G&A expenses, total G&A expenses are relatively difficult to forecast, given their dependence on the price of WPM’s shares. However, a simple analysis of stock-based G&A expenses over the past eight quarters relative to the change in WPM’s share price (also in US dollars) exhibits a relatively close Pearson product moment (correlation) coefficient between the two of 0.78, which is statistically significant at the 5% level for a directional hypothesis (ie there is less than a 5% probability that this relationship occurred by random chance). The graph relating to the analysis is shown below (including the point relating to our updated forecast for Q421e in the light of WPM’s share price move over the three-month period in question):

As such, we forecast that stock-based G&A expenses in Q421 will have been in the order of US$7.4m, supplementing non-stock-based expenses of US$11.6m to result in a total G&A charge for the quarter of US$19.0m, as shown in the table below:

At the same time as providing detailed production and sales numbers for FY21 on 7 February, WPM also provided its detailed outlook for FY22 as well as updating its longer-term guidance out to FY31. This is summarised in the table below and compares with Edison’s updated forecasts, as follows:

WPM’s updated five-year and 10-year guidance is based on standardised pricing assumptions of US$1,800/oz Au, US$24.00/oz Ag (cf US$25.00/oz previously), US$2,100/oz palladium (cf US$2,300/oz previously) and US$33.00/lb cobalt (cf US$17.75/lb previously). Of note in this context is an implied gold/silver ratio of 75x, which compares with its current ratio of 79.1x and 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 739.0koz AuE for FY22e lies well within WPM’s guidance range of 700–760koz AuE.

Otherwise, readers will note that Edison’s medium-term production forecasts are within 3% of WPM’s guidance for the period FY23–26. With respect to longer-term guidance, while Edison’s forecasts currently appear below WPM’s guidance range, these forecasts currently exclude any contribution from either Marathon, Curipamba, Goose or Fenix, over which Wheaton has announced streaming deals over the course of the past four months (since November 2021). These will be built into our forecasts at the time of our next major update note on WPM. In the meantime however, it may be readily appreciated from the table below that including them will bring our forecasts to within 5% of WPM’s guidance:

Readers should note that a fifth stream, relating to Artemis’s Blackwater project (US$441m consideration for 37koz GEOs of production in the first five years of operation), was announced on 13 December 2021. This stream was the subject of a separate note by Edison (see Bagging elephants in British Columbia, published on 16 December 2021).

In the light of WPM’s guidance, Edison has calculated the following potential quarterly estimates for FY22:

Our basic EPS forecast of US$1.54/share for FY22 is therefore little changed relative to our prior estimate and is 9.2% above the consensus forecast of US$1.41/share (source: Refinitiv, 22 February 2021), albeit within the range of analysts’ expectations of US$1.21–1.68 per share. Within this context, it is worth noting that our gold price forecast for the remainder of the year is US$1,890/oz, which is that prevailing at the time of writing. Should it revert to its average of US$1,799/oz for FY21, then our estimate of EPS for FY22 reduces by 4.5% to US$1.47/share and our DPS forecast by 2c to 62 US cents per share.

In the short term, 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 installing a 3,000tpd high-intensity grinding mill circuit and an autogenous grinding mill to improve recoveries and reduce operating costs. Production of palladium and gold at Stillwater (operated by Sibanye-Stillwater) will similarly increase under the influence of the Fill-the-Mill project at East Boulder (although the Blitz project has now been delayed by two years, to 2024, following the suspension of growth capital activities due to COVID-19).

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$550–670m 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 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).

Another major 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. 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 predominantly located 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 and, on 15 December, Hudbay announced a maiden mineral resource at Copper World of 272t 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. These mineral resources will now form the basis for a preliminary economic assessment on the project, expected to be released in H122. In the meantime, however, approximately 33Mt of inferred mineral resources at the Bolsa deposit, which were 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 continues to close the drilling gap between Bolsa and Rosemont. 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.

At the time of its Q321 results, WPM reported that its corporate development team had been ‘exceptionally busy’. While the majority of potential deals were reported to be with development companies in the US$100–300m range (with fewer ‘balance sheet repair’ opportunities), it was also reported there had 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, plus US$372.5m in cash (at end-Q321) 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:

Otherwise, WPM also has streaming agreements with other potential producing mines, including Navidad and Cotabambas, and a recently acquired a 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 33.2x Edison or 32.7x Refinitiv consensus FY21e – see Exhibit 13).

Applying this 30.0x multiple to our EPS forecast of US$2.12 in FY23 (previously US$2.04 with the increase almost exclusively attributable to a higher cobalt price) would ordinarily imply a potential value per share for WPM of US$63.64 or C$80.42 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). In this case, applying a 40.7x earnings multiple (the average of FY18, FY19 and FY20) to our updated EPS forecast of US$2.12 in FY23 implies a potential value per share for WPM in that year of US$86.30 or C$109.05 (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 still put WPM’s shares on a discount (albeit small) relative to Franco-Nevada (see Exhibit 13).

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 and six out of nine if consensus forecasts are used. On an individual basis, it is cheaper than its peers on 77% (28 out of 36) of the valuation measures observed in Exhibit 13 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 with 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. Over the course of FY21 (until end-Q321), it generated cash from operating activities at an average rate of US$216.6m per quarter and accumulated net cash at an average rate of US$121.1m per quarter. Coupled with its revolving credit facility, it will therefore easily have the capacity to fund its recent investments in Exhibit 10 (which, anyway, will not fall due together, but will be payable over a number of years).