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MANAGING GOLD PRICE RISK AT AMERICAN BARRICK A CASE STUDY FOR CORPORATE RISK MANAGEMENT

MANAGING GOLD PRICE RISK AT AMERICAN BARRICK A CASE STUDY FOR CORPORATE RISK MANAGEMENT. By Group 4 : Budi Setyawan Daniel Indra Mulia Didik Susilo H. Indah Pancawardani Yogi Pamungkas. FM : Dr. Ida Juda. Agenda. Gold Mining Industry Overview Risk Management at American Barrick

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MANAGING GOLD PRICE RISK AT AMERICAN BARRICK A CASE STUDY FOR CORPORATE RISK MANAGEMENT

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  1. MANAGING GOLD PRICE RISK AT AMERICAN BARRICKA CASE STUDY FOR CORPORATE RISK MANAGEMENT By Group 4 :Budi Setyawan Daniel Indra Mulia Didik Susilo H. Indah Pancawardani Yogi Pamungkas FM : Dr. Ida Juda

  2. Agenda • Gold Mining Industry Overview • Risk Management at American Barrick • Conclusion

  3. Gold Mining Industry • Major Product : GOLD Product Usage : • Previously it was used as currency, now as currency back-up • Jewelry (major part, about 80% of current use) • Industrial Usage

  4. Production Process (Tech.) Exploration Exploration Drilling Open Pit Mining Blasting Underground Mining Ore and Waste Haulage

  5. Production Process (Tech.) Heap leaching Oxidization Milling Leaching Stripping Electro-winning

  6. Production Process (Tech.) Smelting Gold Bullion Refining Reclamation

  7. Cost Structure • Major cost comes from the exploration and exploitation /acquisition activities • Virtually no marketing and distribution cost (market always ready to absorb their product in market prices) • Competitive advantage of a company compared to the others coming from its efficiency in exploration and acquisition cost • Highest risk exposure coming from the fluctuation of gold market price

  8. Price Fluctuation • Gold spot-price change in the last 30 years *) : *) www.goldprice.org

  9. Price Fluctuation – cont. • Gold spot-price last 5 years : *) www.goldprice.org

  10. Barrick Gold Corp. Newmont Gold Pegasus Gold LAC Minerals Hostake Mining FMC Gold Echo bay Battle Mtn. Amax Gold Major Industry Players: • Major Gold-mining Firms :

  11. BARRICK Gold Corporation(also known as “American Barrick” )

  12. Company Overview • Entered Gold Mining Business in 1983 • Largest Gold-mining company in the world (after acquisition of Placer-Dome in 2006), HQ in Toronto, Canada, with 4 Regional Business Unit in Australia, Africa, North America and South America *) • Growth from 1984 to 1992: • Market capitalization : from $64 M to $5 B • Annual production : from 34K Ounces to 1.325M Ounces • As of December 2008 : annual production 7.7M Ounces, Proven and probable gold reserves : 138.5M Ounces *) www.wikipedia.org

  13. Managing Gold Price Risk: The Hedging Philosophy: • Creates stable, predictable returns regardless of short-term market conditions. • De-linking Barrick's earnings from the volatility in the spot gold market. • Creates additional cash reserves that can be used to acquire new assets to generate new earnings.

  14. Hedge Position • In 90’s Barrick hedged more than 90% of its gold production • In 2000’s the hedged portion is consistently reduced due to the trend of increasing gold prices

  15. The Hedging Methods • Gold Financing • Forward Sales • Options • Spot Deferred Contracts

  16. Gold Financing • Used to finance the new acquisition (1983-1987) • Methods of Gold Financing: • Issuing Gold-Trust (It raised $17 millions) The Gold-trust paid the investors 3% of mine’s output if gold price <= $399 /ounces, rising to 10% if gold price = $1,000 /ounces • Bullion Loan : Barrick received gold from the lender-bank which it immediately sold to the market to get cash. Then Barrick repay the loan in monthly installments in ounces of gold with the interest rate of about 2% per year. • Issuing Gold-indexed securities

  17. Forward Sales/Contract • The forward sale is a commitment by the producer to deliver a fix amount of gold to the contract counterparty at a time in the future at a fixed price. • The forward price of the contract is based on the spot price on the date of the contract plus a premium (contango). • The contango is the difference between the interest rates for lending Dollar less the gold lease rate. • The forward sale eliminates downside risk exposure, but the company lost the opportunity to sell at higher price

  18. Options • Options is the right to choose whether to sell or to buy at a given price • Barrick bought Put Options and sold Call Options to execute a “Collar Strategy”. • This allowed Barrick to benefit from price increases between put option price and call option price . • This protected Barrick from price drops without initial cash outlay (it used the premium received from selling the Call Options to buy the Put Options) $ Call Payoff Put Strike price

  19. Spot Deferred Contract • Simple Forward sales or Options are fairly short in duration (1-5 years) which is less than Barrick’s 20-year production horizon. • Barrick began investing in Spot Deferred Contracts (SDCs). • SDC’s are like forward contracts but have multiple “rollover” delivery dates over 5-10 year period. • Barrick could deliver on specific delivery date or rollover to the next date if it could make more money by selling its gold in the market at the current spot price.

  20. CONCLUSION • The Hedging reduces the risk exposure due to the price drop, at the same time it prevent the company to benefit from price increase • The hedging methods, related to the contracted price, time horizon and how many percent the gold production shall be hedged, must be evaluate from time to time in order to get the maximum value for the company

  21. THANK YOU

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