A ''barbarous relic'' for a barbarous world

A hot stock tip for
Barrick Gold Chairman Peter Munk:
Why not buy your own company's shares?

ByFabrice Taylor
The Globe amp; Mail, Toronto
Thursday, February 20, 2003

a href=http://www.globeandmail.com/servlet/ArticleNews/TPStory/LAC/20030220/Rht...
VOXX/TPBusiness/MoneyMarkets

If Peter Munk is really concerned about shareholder value
at Barrick Gold, here's a modest proposal for him: Buy
the stock.

Mr. Munk is not a substantial owner of Barrick shares.
His direct skin in the business stretches to only about 1
percent (he owns a little more through TrizecHahn). Yet
he's the eminence grise, by virtue of the fact that he
founded and built the company into one of the premier
gold producers in the world. He now chairs the board,
where he's surrounded by friends.

What the chairman achieved at Barrick was no small
accomplishment, and his much-maligned hedge program
is the main reason the company was so successful.

Your average gold company is a much more prolific seller
of new shares than of bullion bars. Without fail, a rise in
gold prices is accompanied by a hurried rush to market
by the industry, looking to raise cash for quot;general
corporate purposes.quot;

Barrick was able to avoid that kind of dilution over the
years thanks to low borrowing costs and predictable cash
flows which, as it happens, were higher than they would
have been had the firm not used futures contracts to sell
its metal. Without Barrick's hedge program either the
company would not have grown or its growth would have
come at a much higher cost and with higher risk.

But times change, gold rises, and investors freak out
about derivatives. The spread between gold lease and
interest rates has made hedging less attractive. And the
spot price of gold has been rising, partly because of the
Iraq factor but also for other reasons, such as what we
would argue is a massive deterioration in the health of
Washington's coffers and therefore its currency, gold's
main competitor. Many gold investors share this view and
therefore want to be exposed to its imminent rise.

When they look at Barrick, this is what they see: a
company producing $360-million (U.S.) in trailing free
cash flow yet quoted at almost $9-billion, or a multiple
of about 25 times. That seems expensive, unless you
think free cash flow is going to rise substantially.

There are problems at Barrick's mines (at most gold
mines, actually). Costs are higher than expected, the
gold's not coming out of the ground quickly enough and
the grades are not as rich as might have been hoped.
Still, the company is sitting on some of the better
deposits in the world, so presumably the operations can
produce increasing cash in a climate of rising bullion
prices.

That leaves the hedge book. Marked to market, Barrick's
book is in the red to the tune of about $640-million. In the
first quarter of 2001, it was positive by roughly the same
amount. (That's not an out-of-pocket expense; rather, it's
more of potential opportunity cost.) Spot gold has risen
so fast that it's leaving Barrick's contracted prices in the
dust.

That's not necessarily a problem, since Barrick can defer
delivery into its contracts and enjoy the full richness of
spot prices. It did so in January for the first time. In other
words, it seems to have the best of both worlds. But
deferring delivery, as the name implies, only postpones
it, and in fact can mean lower prices since prevailing
lease and interest rates set the futures price. Barrick's
deliveries can be deferred for as long as 15 years, so
clearly a long period of rising gold prices and low interest
rates make the hedge book look like a ball and chain. If
you really like gold long term, you can find better
investments.

But still, even with the hedge policy, which Barrick
continues to curtail, the stock price might be higher if
investors could have complete faith in it and, more
importantly, in the ability of Barrick's mines to cover it.
Alas, the only way to achieve that would be to look at
every contract in Barrick's book, which isn't going to
happen.

This is where Mr. Munk comes in. It wouldn't be a
complete remedy to what ails Barrick's stock, which
is cheaper by most metrics than other senior gold
producers. But wouldn't it help if he trumpeted his own
conviction by wading into the market and adding
substantially to his holdings? If he's the de facto head
of the company and he's frustrated by the market's
disdain for the shares, that would help. Seymour
Schulich and Pierre Lassonde, no fans of hedging,
have their money in Newmont. Mr. Munk should do
the same.

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