I. Meaning: Silver Wheaton (SLW) is the world’s largest silver streaming company. It does not own or operate any mines. By providing upfront payment, it secures long time/lifetime agreements to buy all or portion of silver and gold production at a predetermined fixed cost, generally around $4/oz and $400/oz respectively, from mining companies located in politically stable regions around the world. Streaming companies provide venture capital for mining companies in exchange for an interest in mine production. Streaming is considered to be mutually beneficial. In today’s environment where funding is hard/expensive to obtain and the fact that mining is a very capital intensive business, mining companies could get upfront capital injection at no/very low cost, from their non-core by- product sale, to fund their core product business. SLW’s peers include Royal Gold (RGLD), Franco-Nevada (FNV) and Sandstorm (SAND), primarily gold streaming companies versus SLW a primarily silver streaming player (80% silver +20% gold). SLW has streaming rights to 19 operating mines and 4 development projects. Corner stone assets including Penasquito mine in Mexico with Gold Corp, Pacua-Lama project in Chile/Argentine with Barrick Gold, San Dimas mine in Mexico with Primero, Constancia silver/gold mines in Peru with Hudbay,777 gold mine in Canada with Hudbay and the recent acquisition of Salobo/Sudbury gold mine in Brazil with Vale. Durability and Predictability • Durable mining industry as economic growth demands metals. Thomson Reuters GFMS estimates that 72% of 2012 global silver production was produced as a by-product from copper, lead, zinc or gold mines. As a result, silver will be mined anyway together with other metals. In addition to being an investment vehicle, silver (50% of its production) has been widely used for industrial use, primarily in hi-tech sector, such as in cell phones/electronics/equipment. o SLW owns estimated reserves of 1.12B silver equivalent oz. At 33.5M silver equivalent oz production per year pace, the existing reserve could last them 25-30 years, without counting future acquisitions. In addition, SLW now has only 5.8% of the world’s total silver production, thus still has considerable amount of growth potential. •Predictability o Very low. Precious metals are very price volatile, and there is inherent exploration/development risk associated with the projects SLW has a meaning for me. With concerns of central banks creating fiat money and eventual high inflation/wealth transfer, I have invested in both physical bullions and ETFs in my retirement account. I have followed commodity veterans Jim Sinclair, Jim Rogers, Doug Casey, David Morgan since 2002. I see SLW as a unique business model as it has a more diversified portfolio than regular mining companies, no risk with direct exploration/development/production, fixed capital and purchase cost, and a potential to capture price upside.
II. Moat: Numbers look good, consistent and growing Moat: Compound Growth Rate 10 Years 7 Years 5 Years 3 Years 1 Year RATING BVPS+Dividend Growth Rate - 30.5% 21.5% 22.7% 20.9% 100 EPS Growth - 41.0% 32.3% 62.1% 6.4% 100 OCPS Growth - 43.8% 30.8% 61.7% 14.7% 100 Sales Growth - 28.3% 24.9% 45.4% 15.9% 100 Rule One Moat Score 100 • Switching moat: SLW, through its streaming agreement, owns, in most cases, lifetime silver/gold production from its mining partners. • Why they are better than competitors: SLW believes they have redefined how mining industry use their non-core silver byproduct. SLW has the first mover advantage, and have quickly amassed consideration amount of funding in the beginning, and later on solid cash flows from operations. The cash on hand helps to position them in a unique time like now • Chart View: all 4 lines are in a consistent and parallel upward trend, except for EPS growth dip in 2008, due to $65M loss on mark-to-market long term investment, which looks like the company’s warrants. • Gurufocus: no Phil’s gurus activity
III. Management Management: Average Growth Rates 10 Years 7 Years 5 Years 3 Years 1 Year RATING ROE - 12.3% 12.2% 17.5% 18.9% 100 ROIC - 11.4% 11.7% 17.2% 18.7% 100 Debt 0.04 years earnings 99 Rule One Management Score 99 • A very capital efficient business model/management team. 28 full time employees, with $7.5B market cap and $845M 2012 revenue. • CEO/President Randy Smallwood is one of SLW’s founding members. He is an industry veteran, with a geological engineering background and has been in a number of mining companies, including Gold Corp. He has mainly been in corporate development role, basically a deal maker. • Management team performance is solid. They have in depth knowledge of the mining industry. They target mining companies based on these criteria. • Low leveraged balance sheet: companies need to have the extra cash to sit out the tough times. Gold Corp as an example. • Low cost, high efficiency: 85% of SLW production comes from the companies in the low quartile of their cost curves • Junior mining companies that need alternative ways of funding and are willing to make deals. Hudbay/Vale as example. They have also been smart to put contingency clauses in the contract to protect their interest, in case the deal goes sour. Concerns: • Haytham Hodaly, Senior Vice President, Corporate Development, joined SLW in 2012. Before, he is a mining analyst in RBC capital and has 16+ years of experience in North America security market. Not sure how effective he is, as a long time security analyst, to be a deal maker in the real world. • CEO’s 2011 compensation of $2.9M, with only 23% in salary, the rest from restricted stocks/options. Gives incentive to drive for short/mid term stock performance. From Insider Trading, he got 150K stock options exercised at $17/share on the most recent June and sold half of it on the same day for $24. See other management team mostly sell, instead of buying company stocks • Don’t see personally passionate BAG
Evaluation Pros: • Predictable upfront cost, fixed purchase cost • High margin with GM>50%. SLW pays around $4/oz and $400/oz for silver and gold respectively. As a reference, Gold Corp’s all-in cost is $874/oz and Barrick $945/oz of gold production. • Do not have to deal with exploration/development/environmental risks
Cons: • no control over operation/production • Mining partners might go underwater and thus goes the upfront investment and future growth • Extremely volatile PM prices • Declining margin/earnings this year due to lower metal price and higher cost resulting from product mix (more gold into the mix, with lower margin)
SLW future growth depends on two factors: production volume and metal prices. Production Volume: SLW management comments that they have been extremely busy with corporate development projects. They are treading very carefully during volatile time, looking for “green flag’ among the red. Additional acquisitions is highly likely. Randy and his team is almost like our Ruler, looking for events to happen so that they could capitalize Price: Jim Rogers/Doug Casey think gold/silver price will go up in the long run. Jim says that there will probably be more corrections in near term, but “gold price should go up much higher in the next decade”. Mainly due to central banks’ money printing Events
• Mining sector: The traditionally European financiers have backed away from the mining sector, due to increased mining cost, cash flow being eaten by increased capital investment, the availability of ETFs and the general economy. The mining sector has been hammered in the last several years and it has become very difficult and expensive, especially for junior miners to find funding. However, great opportunity for SLW
• SLW: Barrick announced construction suspension of Pascua-Lama mine on Oct 31 and its CEO is forced to step down 11/8. Major setback for SLW as the mine is projected to be 15-20% of its total sales by 2017. However, I think this is temporary. Pascua-Lama is a $8.5B capital investment project and once finished, is said to be the world’s best silver mine with the most deposits and low cost. Under grave cost concern, this project is probably being put on care & maintenance and Barrick is waiting to resolve high cost issue, environmental issues but impossible to walk away from a good mine. There will be delay in project completion but not eventual shut down. Meanwhile, SLW is entitled to get the short fall volume from Barrick’s 3 other mines and could get back its upfront $625M investment if project goes sour. SLW is protected from the downside, however, the temporary impact to upside growth in near term is real.
IV. Margin of Safety • Growth rate: Analyst projection 20%. Based on SLW’s recent updated forecast, annual compound production growth rate to 2017 will be 6.1%. I did two scenarios, assuming 10% production growth (with additional acquisitions) afterward with and without Pascua-Lama reopening in 2018. Price wise, assuming price will double in the next decade to $40/oz. The projected growth rate comes out about 15% • TTM: $1.29 (updated after Q3 13 earnings). I feel the margin erosion from increased gold weight has been almost counted in now. • P/E: 30 • Sticker $38, MOS $19. • Analyst long term P/E 20, then MOS $13 • Seems price is in a channel, with $24 high and $15 low. Option candidate? 1 month put with $15 and $17 strike yield $.3 to $.11 per. • Current observation: Does not fit into “Just One” category but might be a candidate for 2nd tier positions. How about buy 1H at $18 and sell puts around $16 strike