Creative financing deals have become somewhat the rage in the mining business.
This includes royalty and "streaming" arrangements. Where an upfront payment is made in exchange for a future production stream at a fixed price.
This week, major silver miner Coeur Mining announced it is getting in on this action. The firm is creating a subsidiary called Coeur Capital, to assemble a portfolio of royalty and streaming interests. Coeur is even getting the ball rolling by acquiring Mexico and Ecuador royalty holder Global Royalty for $24 million.
The reason for making this transition is simple: costs. Rising production expenses have been plaguing the mining industry, eroding margins.
Royalty and streaming deals are seen as a way of insulating against costs. Under such arrangements, a firm pays a fixed cost or no cost for the gold or silver ounces that come its way.
Because of this fixed cost structure, royalty and streaming firms increase their profit margins greatly when metals prices rise. Coeur is hoping for such an outcome, noting that its new business strategy will "enhance the quality and stability of our cash flows, [and] offer superior leverage to metals prices".
The problem is, rising metals prices might not be the way miners make money next.
Activity levels in the mining space are dropping during the current business lull. Reducing cost pressure on the industry.
Meaning that it may be falling costs--not rising prices--that give the next boost to producing companies.
Under such an outcome, streaming and royalty firms would miss the boat completely. Having no exposure to costs, such firms would get no benefit from a decline in mining expenses.
We saw this movie before, albeit the other way around. A decade ago miners tried to remove the risk of a gold price crash from their bottom line by hedging. And got taken to task by investors when gold prices went the other way and started soaring--with many companies forced to buy back their hedge books at premium prices.
Today firms like Coeur are trying to hedge out the risk of rising costs by using streaming and royalty deals. A strategy that might see a similarly distasteful outcome if costs go the opposite way than most are expecting--and start to fall.
Here's to making the right move, for the right time,
By. Dave Forest