Newcrest Mining [ASX:NCM] is Australia’s largest gold producer, and a top five global gold company by output. It trades on the ASX for $10.32 and has a market capitalisation of $7.9 billion.
The company has rich gold mines, with an average mine life of over 40 years. It’s portfolio of assets includes the world class Cadia Valley mine. Cadia will be Australia’s largest underground mine and one of the largest in the world.
Before I talk about the technicals, I’ll take you through some fundamental analysis.
The good news for shareholders is that production issues seem to be bottoming out. This is important. Adding to this, Cadia East and Lihir expansions are due to come online in the medium term, which should further boost overall production.
Lihir has caused a lot of pain for investors in the past. The previous management clearly overpaid for the asset. This has seen billions of dollars wiped off the balance sheet.
But thanks to mining inventory, production has been stable. And next year’s production looks to be a repeat of this year. Newcrest will keep processing stockpiles until the gold price starts to turn around in a big way — and it will eventually.
Cadia Valley production isn’t looking too hot — it’s set to decline on the back of falling gold grade next year. However, the Cadia East expansion plan is on track. As such, production should be higher in 2016.
All this spells good news for Newcrest. Its focus is on generating free cash flow and is fast turning into a shareholder friendly company.
In fact, the company turned free cash flow positive for the first time in a long time last year. Albeit, for a company of Newcrest’s size, free cash flow was very low and came in at AU$133 million. This saw the company repay almost no debt. And this brings me to the real risks that the company faces in the years ahead.
In my view, Newcrest has an uncomfortable amount of debt on its balance sheet — though the later debt maturity dates will see the company succeed in the long run.
In the short term, it’s a risky story, which should bring volatility to the share price next year. Newcrest needs to make a US$350 million dollar debt payment in 2016 and another US$1 billion payment a year later. When you look at the state of the economy, this could come at a time when capital markets are in freefall.
Newcrest knows that it’s in an awkward position, and has reduced its capital costs by more than 70% since 2012. But let’s look what’s in store for the company in 2015.
Doing the maths, at the company’s low forecast, all-in capital costs should rise to AU$3.02 billion from AU$2.74 billion last year (includes non-essential capital and exploration costs). For Newcrest to truly break even in 2015, it will likely need a gold price of roughly US$1,270 (AU$1,350). Below this price, the company should generate negative free cash flow.
As you’re likely aware, my analysis shows that the gold price should fall to US$931 per ounce early next year. In fact, given recent analysis, I’m now more bearish on gold as we head into 2015 — the price could go much lower. I’ll be updating this analysis in depth, with new possible low targets, for Diggers and Drillers readers very soon.
Now, with a falling gold price in mind, don’t forget about that US$350 million debt repayment due in 2016! And if you think that the company can cover this with its existing cash flow, think again. Right now the company has less than half this amount in cash.
In my view, it doesn’t look like it will be a good year for shareholders. They should be praying for a falling Aussie dollar to help the company.
With this in mind, let’s take a look at the technical picture. The chart below tracks the Newcrest share price. Each bar represents one month.
Source: IGMarkets; Diggers & Drillers
Newcrest remains in a long term uptrend, as shown by the green line. Albeit, this trend is now associated with no momentum and falling volume. This is a dangerous sign for shareholders.
On the chart above, I’ve shown two long term support lines.
The red support line exists at around $9.87 cents. This was the 2004 support level before the share price, and gold price, broke out to new highs. This level has also acted as major support for Newcrest since 2013. This was when the gold price fell from US$1,920 to US$1,180 per ounce.
Given my ultra-bearish short term view on the gold price as we head into the 2015 equities bull market, Newcrest looks primed to fall through this major support region shortly.
This brings me to the second long term major support level at $4.72, shown by the blue line on the above chart. This level acted as a major support and resistance level during the late-1990s to 2003. It’s also my price target for the Newcrest share price.
Although it may seem an unlikely target to some, it’s not unreasonable when you reflect on the company’s fundamental position and general direction of the gold price.
I’ve also shown some moving averages (MA) on the chart.
You can see by looking at the blue box that the 30 day MA has crossed through the 200 day MA; this is a bearish sign. Increased volatility in the gold price should see the 50 day MA (red box) also cross through the 200 day MA. This would be the ultimate sell signal, also known as the death cross.
The falling MAs show that this signal is likely to be triggered heading into 2015. And come at a much lower share price.
In the future, the gold price will be the narrator of the Newcrest story. In my view, shareholders should get ready to hang onto their hats.
For The Daily Reckoning Australia