After a year of brutal losses at the hands of gold miners in 2013, investors now have the chance to weigh up if current share prices offer value going forward. One of the most important questions to ask of any company is how safe will your money be?
Many investors who were badly burned by falling share prices would surely warn against gold companies. Newcrest Mining Limited (ASX: NCM) lost 77% of its share price during 2013, while Silver Lake Resources Limited (ASX: SLR) lost up to 86% of its value.
Newcrest Mining has made big changes to its operations since then, slashing costs and increasing production. This has helped to maximise short-term cash flows in the new environment and will be a good base from which to grow operating margins if gold prices rise.
However the problem with gold miners compared to other industries is that the main underlying asset the company relies on, gold, can fluctuate in value on a daily basis. This obviously has implications for selling the gold produced, but also for the company's balance sheet and fundamental valuation which are largely backed by the value of its mines and reserves.
One of Newcrest's key strengths is its large pool of gold reserves, estimated to be 78 million ounces, and the company makes a point of highlighting the value of this given the increasing difficulty and rarity of significant new gold discoveries around the world.
Newcrest's reserves give it one of the longest production lives in the industry at 33 years, compared to gold giant's Barrick Gold Inc's (NYSE: ABX) 16 years, and Newmont Gold's 20 years.
But does this provide any safety to the company's share price? As Newcrest has proven, a falling gold price can mean writedowns not only in 'carrying value' of the mines themselves, but also to gold reserves which may become uneconomic to extract. This is a double blow for investors and can result in a range of negative scenarios, including a higher debt to equity ratio.
Foolish takeaway
Newcrest Mining has taken big steps to sure-up its operational performance in the new environment of lower gold prices. But given the high potential for volatility, and the impact that these fluctuations can have on both operating revenue and asset values, it is difficult to argue that any gold miner will be a stable store of your money.
