The Modern Day Gold Rush

Recap, the past 3 posts showed:

• Leverage of the growth of earnings is dependent on production costs.
• The leverage of the growth of earnings gave stellar returns at the beginning of the bull market, but decline rapidly.
• The leverage of earns can no longer keep up or justify paying bubble valuation prices for gold stocks.
• Production costs increase during the life cycle of a mine, further reducing profitability.
• Gold stocks that sell other metals that have dramatically increased in price have had highly leveraged earnings of those metals (eg: copper) hide the declining leverage and profitability of the gold sales.
  

Mines are a depreciating asset, much like a car.  The valuable metals are taken out of the ground, leaving nothing but a hole.  The average life of gold mines is 14 years, making the average depletion rate 7.1% per year.  Mines have to be replaced with new properties which require constant investment. 

The cost of acquiring new properties increases as the metals they hold increase in price.  Unrelated to gold, the recent Phelp Dodge merger gave a valuation of $0.70 per pound for copper in the ground yet mined copper was selling for $0.90 just a few short years ago.  Note:  Copper peaked close to $4.00, around a 400% increase.  Gold needs to get to about $1200/oz have the same proportional effect on earns that copper has already made.

Depletion rates of gold mines can be astronomical, as the following table of the mines of Goldcorp show.

Mine	Depletion Rate of Mine	Percent of 2006 Earnings (9 months) Prior to Merger with Glamis
Red Lake Gold Mine	8.3%	29%
Porcupine	5.5%	2%
Mussel White	9.1%	<1%
Luismin	5%	6.6%
Peak	12.5%	2.6%
Alumbrera (Copper)	10%	59.5%
Amapari	10%	-3.2%
La Coipa	17%	<-1%
Warf	?	1.3%
Silver Wheaton	?	3.7%

As mines get older, their depletion rates increase.  A mine with only two years left will deplete about 50% each year, compared to a mine with 20 years, which starts at a depletion rate of about 5%.

Mines sell off what they mine out of the ground, leaving an empty hole.  Not all mines contribute equally to earnings.  A new mine opening does not necessarily ensure an equitable cash flow compared to existing mines.  In the example used, 2 mines make up almost 80% of earnings, and the other 8 make up a pitiful 22%.

The following table is a view of what happens to GoldCorp's mining reserves without replacement.

Depletion of GoldCorp's Gold Reserve without Replacement1

Year	Gold Production Millions of Ounces	Gold Reserve Millions of Ounce	Gold Value @ $700/oz (billions)	Copper Production Millions of Pounds	Copper Reserve	Copper Value @ $3/lb (billions)
2006	Start	41	$28.7		1500	$4.50
2007	2.8	38.2	$26.7	150	1350	$4.05
2008	3.0	35.2	$24.6	150	1200	$3.60
2009	3.2	32	$22.4	150	1050	$3.15
2010	3.5	28.5	$20.0	150	900	$2.70
2011	3.5	25	$17.5	150	750	$2.25
2012	3.5	21.5	$15.0	150	600	$1.80
2013	3.5	18	$12.6	150	450	$1.35
2014	3.5	14.5	$10.1	150	300	$0.90
2015	3.5	11	$7.7	150	150	$0.45
2016	3.5	7.5	$5.3	150	0	$0
2017	3.5	4	$2.8	0	0	$0
2018	3.5	.5	$0.4	0	0	$0

1There is also resource that may become economically feasible and undeveloped properties.

All mining companies have depletion of reverses.  Gold mining companies have the highest depletion rates out of all types of mining companies, for example, Copper has approximately twice the reserve life of gold in the industry as a whole, making depletion rates about half.

To put into perspective what is happening here, GoldCorp is estimated to have earnings around $670 million in 2007 but in the process gold worth about $2 billion and copper worth about $450 million and silver worth about $400 million is sold off, and are no longer owned by GoldCorp.  In 12 years the gold reserves are gone and in 10 years the copper is gone.  At prices given, mining off and selling the existing reserve only gives about $7 billion in earnings.  The market cap is about 3x that value.

There are enormous replacement activities that have to happen to keep gold businesses going. 

Conclusion:  Mining companies with short-life companies have high depletion rates and which cause drastic depreciation of assets, and devaluation of reserve base.