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Morningstar | Lowering Barrick’s FVE on Softer Near-Term Outlook After Randgold Acquisition

Barrick ended 2018 on a slightly disappointing note. Full-year production of 4.527 million ounces came in at the very low end of prior guidance of 4.5 million-5.0 million ounces. Cash costs of $588 per ounce missed guidance of $540-$575, and all-in sustaining costs of $806 per ounce barely met guidance of $765-$815. The misses were relatively minor but were announced alongside underwhelming 2019 guidance.

Barrick’s acquisition of Randgold was completed on Dec. 31, 2018. Although the combined company has only been operating for just over a month, we were underwhelmed by the outlook for 2019. Compared with the 4.5 million ounces Barrick produced on its own in 2018, the combined company expects to produce 5.1 million to 5.6 million ounces in 2019. In addition, AISC is expected to rise sharply from $806 per ounce in 2018 to $870-$920 per ounce in 2019.

Most of the production declines and cost increases stem from Barrick's legacy assets, and management will try to squeeze more out of the acquired assets to help offset. The decision not to pursue the refractory sulphide ore project at Lagunas Norte and the impact of higher taxes in Argentina, where the Veladero mine is based, will weigh on production volumes as well as the company's cost profile.

We’ve updated our valuation model to reflect a weaker outlook than we previously forecast.

Accordingly, we've lowered our fair value estimates to $12 per share and CAD 16 per share, down from $14 and CAD 18. Our no-moat rating for the company is unchanged. At current share prices, shares are slightly overvalued.

In December 2018, the U.S. Federal Reserve once again raised the federal-funds target rate by 25 basis points to 2.25%-2.50%. This was the fourth rate hike of the year. However, the Federal Open Market Committee appears to be taking a more cautious approach to future rate hikes. The dot plot has reflected a meaningful change in expectations. The December dot plot implied two rate hikes in 2019 versus the three hikes that had been implied back in September. Additionally, language in the FOMC statement now takes a softer tone, indicating a more cautious approach to further rate hikes.

The market has taken a bearish view on the FOMC’s more dovish tone. Current interest rate option prices imply a more-than 90% chance that there will be no rate hikes by the end of 2019. Additionally, they reflect a higher probability for a rate cut than a rate hike by the end of the year.

All else equal, a slower rate hike path reduces the downward pressure on investment demand for gold that we’ve observed over the last few years. However, the FOMC would likely return to rate hikes if inflation were to strengthen due to stronger economic growth. Although pressure on investment demand for gold has softened, we don’t expect a strong resurgence in the near future.

On the back of stabilizing investment demand, gold prices have settled in the high-$1,200 to low-$1,300 per ounce range, falling roughly in line with our forecast for a nominal gold price of $1,300 per ounce by 2020.