CA - Newmont: High Quality Business Strengthened By The Competitor Takeover

2023-08-30 10:00:00 ET

Summary

• Despite weak industry momentum, Newmont has a strong strategy for industry leadership.
• The merger with Newcrest Mining will help to achieve an absolute leadership and distance away from competitors.
• Newcrest Mining has a great copper exposure and quality Tier-1 assets.
• NEM looks undervalued.

Main thesis

Newmont (NEM) shares have been lagging behind gold prices for years now. The company cut production volume in 1H 2023, which combined with rising costs, negatively affected quarterly results. I believe that despite weak industry momentum, the market has gone too far this time. Newmont has a strong strategy to secure industry leadership, constant acquisitions, low leverage, and high shareholder payouts. This year, Newmont expects to restore production and the acquisition of competitor Newcrest Mining (NCMGF) will help it break away even further from the competitors in my view.

Newmont's industry leadership

Newmont owns many Tier-1 mines, which are among the largest complexes in terms of reserves and productivity. Combined, the proven and probable gold reserves (i.e. potentially mineable, no exploration required) are 96.1 million ounces (Moz) ($183.9 billion) - the highest in the industry, in addition to another 68 million ounces in other metals (GEO's) ($130 billion).

The core of Newmont's 100+ year strategy is inorganic growth through smart M&As. Over the past 20 years, Newmont has acquired many gold mining companies such as Santa Fe Pacific Corporation, Battle Mountain Gold (2001), Normandy Mining and Franco-Nevada Mining (2002), Miramar Mining (2008), Fronteer Gold Inc. (2011) and GT Goldcorp (2019).

The company's assets are well diversified geographically and located in regions with low political risks. About 33% of the reserves are located in North America (USA, Canada and Mexico), including a 38.5% stake in Nevada Gold Mines (the rest is owned by Barrick Gold (GOLD)), 39% in South America (Peru, Suriname, Argentina, Dominican Republic), 17% in Australia and 11% in Africa (Ghana).

In recent years, the company has paid great attention to ESG indicators, striving to occupy a leading position in the industry on them as well. Newmont ranked #1 among mining and metals companies in the 2022 S&P Global Corporate Sustainability Assessment Global Index.

The company's capital allocation strategy is aimed at maintaining a balance between continuous reinvestment in the business, maintaining financial strength and providing returns to shareholders.

Newcrest is yet another successful deal

In 2019, there were 2 mergers that became the turning point for the Newmont business, which has stagnated for almost the entire decade.

First, the company merged with Goldcorp, which in 2018 produced 2.9 Moz of gold and ranked 4th highest producer in the world, while Newmont was in 2nd (5.1 Moz). As a result of the transaction, valued at $10 billion , the company became the absolute leader in the global gold mining market with 5.95 Moz in 2022 (43.7% higher than Barrick Gold, the closest competitor). At the same time, Newmont's equity almost doubled and net debt stayed at the same level. The company estimated value creation potential at $4.4 billion over the next 12 years ($365 million annually).

Second, Newmont and Barrick decided to combine assets in Nevada, resulting in the largest gold mining complex in the world (Carlin, Cortez, Turquoise Ridge, Long Canyon and Phoenix) with an annual production of more than 3 Moz, and proven and probable reserves of 48.2 Moz ($92.2 billion). Newmont now owns 38.5% of the asset and Barrick is the main operator with 61.5%.

In 2023, Newmont made an offer to acquire 100% of the largest Australian gold mining company Newcrest Mining. The most recent offer is A$26.2 billion ($16.8 billion). Newcrest Mining shareholders will receive 0.4 Newmont shares per Newcrest share, for a total of approximately 31% of the combined company.

First of all, the scale. The merger of these two large gold mining companies will cement Newmont's unattainable industry leadership. If the deal goes through, the combined Newmont's gold production would be double the current output of its closest competitor, Barrick Gold. The management says their new portfolio would consist of 10 Tier-1 assets (~2/3 of total gold production from all Tier 1 assets).

Second, Newcrest has a great copper exposure. It is important to understand here that gold as a metal is almost useless in industry, even in the field of nanotechnology it is being forced out due to its high cost. The main demand comes from investors hedging against inflation, jewelers (stagnant market) and the Central Bank (stable volume of purchases which peaked in 2022). So the addressable market is very limited and is not growing on a global scale. Gold is a good hedge against inflation but other metals are a bet on economic growth. At the same time, copper is one of the most common conductors. It is used in machinery, electronics, construction and transportation. Each EV contains 53.2 kg of copper on average (compared to 22 kg in conventional cars). Wood Mackenzie is forecasting "major deficits" in copper by 2030. According to the forecasts of the management, the company intends to further reduce the relative share of gold. By 2025, its share should decrease to ~80%. At the same time, it makes much more sense to just buy companies in this field instead of spending tons of money on exploration which can take years. The Newcrest merger will double Newmont's copper reserves and resources (+50 Blbs).

One of the really exciting things about the new Newcrest pipeline is that it's got gold, a lot of gold, but a good exposure to copper in it as well - which is going to be, as we all know, a very, very important metal for the world going forward.

Tom Palmer, Newmont CEO

Third, Newmont sees additional value in new assets. Newcrest is a very low-cost mining company (especially given its scale). Its Q2 AISC were one of the lowest in the industry (the chart below doesn't include Russian Polymetal and Polyus since they haven't reported the results for Q1-Q2'2023) .

The management is targeting >$2 billion from portfolio optimization over next 24 months and "$500M annual synergies identified from G&A, supply chain and Full Potential"

Dividends

In 2022, Newmont allocated $1.7 billion to shareholders. For 2023, Newmont has adjusted its dividend policy, so payments size has noticeably decreased. This year, there is a basic dividend of $1 per share at gold prices above $1,400 per ounce and an additional dividend payout of $0.40 to $0.80 per share at prices above $1,700 per ounce.

Thus, the range of annual dividend payments to shareholders in 2023 is from $1.40 to $1.80. The amount of the quarterly dividend is approved by the Board of Directors, taking into account free cash flow. This year, the FCF is under pressure from cost inflation and growth in investment.

At the same time, if 100% of Newcrest Mining Limited shares are exchanged for 31% of Newmont shares, the number of Newmont shares could increase by 40%, to 1,100 million. In this case, it is likely that the size of the dividend yield may decrease for some time.

Valuation

To analyze the value of Newmont shares, we used an estimate of the P/E and P/S ratios of the forecast for 2024 relative to comparable issuers - the largest producers of gold. This valuation yields a target capitalization of $48.3 billion and a price per share of $48.

Final thoughts

Newmont is a really high-quality business, but the pace of the company's development would always rest against the ceiling in the form of gold prices. The acquisition of Newcrest will help expand copper exposure as well as help it become an undisputed leader in the industry. Given management experience, massive Tier-1 assets and great geographical diversification, I believe Newmont will greatly benefit from this deal.

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