True believers stick by hapless Newcrest

Australia’s largest goldminer has lost its shine … but analysts are seeing value.

Summary: A lower gold production and earnings forecast from Newcrest Mining’s management sparked another sharp fall in the company’s share price. But analysts are maintaining their buy recommendations on Australia’s biggest goldminer.
Key take-out: If the gold price continues to slide, Newcrest will find itself under fresh pressure along with every other goldminer.
Key beneficiaries: General investors. Category: Growth.

Oversold, or just an accident-prone business doomed to lurch from crisis-to-crisis? That’s the problem in trying to assess Newcrest Mining, Australia’s biggest gold producer. While it has been a long-term disappointment, a sharp fall in the company’s share price last week to less than $19 firmly shifted Newcrest back into buy territory.

Even though it has since rebounded, and closed today at $19.75, there is a disclaimer to the buy suggestion. And that applies to the price of gold, which is on the edge of entering its first official bear market in 12 years. The gold price has fallen by 18% over the past 18 months, and a 20% fall in any asset class is deemed to be a bear market.

Newcrest, which has fallen by 55% over the past three years, is undoubtedly in the grip of the bears. A year ago the company’s shares were trading above $31. Last week’s bad news about lower-than-expected gold production over the rest of 2013 drove the stock down to a 12-month low of $18.46 on Thursday, before bargain hunters entered the market and spurred a rebound.
Graph for True believers stick by hapless Newcrest

Two factors could save Newcrest from another sharp fall. Firstly, there is the company’s status as a big and relatively low-cost gold producer, which means a lot of other miners will mothball their operations before Newcrest is forced to take drastic action. In addition, at its current depressed price, it is a takeover target for its world-class 79 million ounces of gold in the highest category of reserves, and its 150 million ounces in the lower category of resources.

The problem for investors with Newcrest is that it has never been able to string together more than a handful of successive good years, always slipping into a crisis of its own making, or suffering from unpredictable natural events such as floods.

A few years ago it was a sharp cost blow-out at its Australian flagship mine, Telfer in WA, and most recently it’s been the failure of high-pressure autoclave equipment at its Lihir operation in Papua New Guinea, poor ground conditions at its Gosowong mine in Indonesia, and heavy rain near the Telfer mine.

Collectively, those three latest events forced Newcrest chief executive, Greg Robinson, to announce revised “guidance” for the current financial year to June 30.

Rather than produce the previously estimated 2.3 to 2.5 million ounces of gold, management now expects the year’s output to be between 2 and 2.15 million ounces.

To compound the production downgrade, the cash cost per ounce is expected to rise from last year’s average of $US620/oz from the company’s six mines to $US734/oz this year. And while the cost estimates are still well below the current price of gold ($US1,577/oz), there is “pincer squeeze” evident in the Newcrest numbers caused by the falling gold price and rising costs.

Blame for the fall in forecast gold production was apportioned by Newcrest management to the issues at Lihir, Gosowong and Telfer, but Newcrest did itself no favours by slipping the announcement into the market at 2pm on Thursday, March 28, just as Australia was shutting down for the Easter break.

It would be unkind to accuse the company of resorting to an old game of waiting until everyone was looking the other way before releasing bad news, but even the announcement itself was “sugar-coated” with an upbeat review of work at the company’s Cadia East mine, and an upgrade of capacity at Lihir. However, the big news event (the production guidance downgrade) was relegated to the second page.

As a company, Newcrest seems unable to communicate effectively with the investment community, which is perhaps a factor behind many shareholders feeling they are kept in the dark about day-to-day operations.

Stockbrokers who follow Newcrest have largely forgiven the company for its latest set of problems, with most maintaining buy calls on the stock even after solid “target-price” write downs.

UBS has cut its target price from $26 to $22, with its analysts saying the production downgrade had been expected. CIMB Securities described the cutback as “the downgrade we had to have”.

Citi has reduced its price target from $25.60 to $22.30, telling clients it always believed Newcrest would find it difficult to hit its original full-year targets.

Macquarie said it had expected a production downgrade, as did Credit Suisse, Deutsche Bank and Merrill Lynch, which has the highest of the forward-looking price tips of $26 (previously $28).

There is, however, a problem with the brokers lining up to say: “we told you so”. And that is the sharp price fall after the announcement hit the wider market, because if everyone knew what was coming, as the analysts infer, then the downgrade would have been factored into the market.

That was not the case when news was digested after Easter. Newcrest sank to a 12-month low, well below what the brokers had been telling clients a few days earlier.

It is impossible to prove, but what appears to be happening is that the specialist gold analysts in the big broking houses have grown comfortable with Newcrest management and with their own positive views of the gold price.

Perhaps a gold analyst in Australia has no choice but to get close to the country’s biggest gold producer, but close proximity and what appears to be an excessively optimistic gold outlook could be colouring their judgement

Gold, like all other investments, is being hurt by the hunt for yield. The metal itself is obviously not a source of dividends, meaning private investors and fund managers have been cutting their exposure to gold in all of its forms in the belief that a widespread global recovery is around the corner.

For investors, the good news in what the professional gold analysts have to say is that, even the gloomiest (Goldman Sachs) is suggesting a 12-month price target, which is 15% above the current market price for Newcrest. The most optimistic, Merrill Lynch, sees a price of $26 – a 27.7% increase in the year ahead.

Those views, however, are assuming that the gold price will not continue to slide. If it does, then Newcrest will find itself under fresh pressure, and so will every other goldminer.

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