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Silver Miners' Q3'18 Fundamentals

Adam Hamilton
Nov 23, 2018

The major silver miners' stocks have been largely abandoned this year, spiraling to brutal multi-year lows. Such miserable technicals have exacerbated the extreme bearishness plaguing this tiny contrarian sector. While profitable silver mining is challenging at today's exceedingly-low silver prices, these miners are chugging along. Their recently-reported Q3'18 results show their earnings are ready to soar as silver recovers.

Four times a year publicly-traded companies release treasure troves of valuable information in the form of quarterly reports. Companies trading in the States are required to file 10-Qs with the US Securities and Exchange Commission by 40 calendar days after quarter-ends. Canadian companies have similar requirements at 45 days. In other countries with half-year reporting, many companies still partially report quarterly.

Unfortunately the universe of major silver miners to analyze and invest in is pretty small. Silver mining is a tough business both geologically and economically. Primary silver deposits, those with enough silver to generate over half their revenues when mined, are quite rare. Most of the world's silver ore formed alongside base metals or gold. Their value usually well outweighs silver's, relegating it to byproduct status.

The Silver Institute has long been the authority on world silver supply-and-demand trends. It published its latest annual World Silver Survey covering 2017 in mid-April. Last year only 28% of the silver mined around the globe came from primary silver mines! 36% came from primary lead/zinc mines, 23% copper, and 12% gold. That's nothing new, the silver miners have long produced less than a third of world mined supply.

It's very challenging to find and develop the scarce silver-heavy deposits supporting primary silver mines. And it's even harder forging them into primary-silver-mining businesses. Since silver isn't very valuable, most silver miners need multiple mines in order to generate sufficient cash flows. Traditional major silver miners are increasingly diversifying into gold production at silver's expense, chasing its superior economics.

So there aren't many major silver miners left out there, and their purity is shrinking. The definitive list of these companies to analyze comes from the most-popular silver-stock investment vehicle, the SIL Global X Silver Miners ETF. In mid-November at the end of Q3's earnings season, SIL's net assets were running 6.6x greater than its next-largest competitor's. So SIL continues to dominate this tiny niche contrarian sector.

While SIL has its flaws, it's the closest thing we have to a silver-stock index. As ETF investing continues to eclipse individual-stock picking, SIL inclusion is very important for silver miners. It grants them better access to the vast pools of stock-market capital. Differential SIL-share buying by investors requires this ETF's managers to buy more shares in its underlying component companies, bidding their stock prices higher.

In mid-November as the silver miners were finishing reporting their Q3'18 results, SIL included 23 "Silver Miners". Unfortunately the great majority aren't primary silver miners, most generate well under half their revenues from silver. That's not necessarily an indictment against SIL's stock picking, but a reflection of the state of this industry. There aren't enough significant primary silver miners left to fully flesh out an ETF.

This disappointing reality makes SIL somewhat problematic. The only reason investors would buy SIL is they want silver-stock exposure. But if SIL's underlying component companies generate just over a third of their sales from silver mining, they aren't going to be very responsive to silver price moves. And most of that ETF capital intended to go into primary silver miners is instead diverted into byproduct silver miners.

So silver-mining ETFs sucking in capital investors thought they were allocating to real primary silver miners effectively starves them. Their stock prices aren't bid high enough to attract in more investors, so they can't issue sufficient new shares to finance big silver-mining expansions. This is exacerbating the silver-as-a-byproduct trend. Only sustained much-higher silver prices for years to come could reverse this.

Silver miners' woes are really exacerbated by silver's worst performance in decades. In mid-November silver sunk to a 2.8-year low of $13.99. That naturally dragged down SIL to a similar 2.7-year low. But relative to gold which usually drives it, silver was faring far worse. The Silver/Gold Ratio sunk to 85.9x in mid-November, meaning it took almost 86 ounces of silver to equal the value of a single ounce of gold.

The SGR hadn't been lower, or silver hadn't been more undervalued relative to gold, since all the way back in March 1995! That's pretty much forever from a markets perspective. With silver languishing at an exceedingly-extreme 23.7-year low relative to gold, it's hard to imagine it doing much worse. So the silver miners are weathering one of the toughest environments they've ever seen, which we have to keep in mind.

Every quarter I dig into the latest results from the major silver miners of SIL to get a better understanding of how they and this industry are faring fundamentally. I feed a bunch of data into a big spreadsheet, some of which made it into the table below. It includes key data for the top 17 SIL component companies, an arbitrary number that fits in this table. That's a commanding sample at 96.9% of SIL's total weighting!

While most of these top 17 SIL components had reported on Q3'18 by mid-November, not all had. Some of these major silver miners trade in the UK or Mexico, where financial results are only required in half-year increments. If a field is left blank in this table, it means that data wasn't available by the end of Q3's earnings season. Some of SIL's components also report in gold-centric terms, excluding silver-specific data.

The first couple columns of this table show each SIL component's symbol and weighting within this ETF as of mid-November. While most of these stocks trade on US exchanges, some symbols are listings from companies' primary foreign stock exchanges. That's followed by each miner's Q3'18 silver production in ounces, along with its absolute year-over-year change. Next comes this same quarter's gold production.

Nearly all the major silver miners in SIL also produce significant-to-large amounts of gold! That's truly a double-edged sword. While gold really stabilizes and boosts silver miners' cash flows, it also retards their stocks' sensitivity to silver itself. So the next column reveals how purethese elite silver miners are, approximating their percentages of Q3'18 revenues actually derived from silver. This is calculated two ways.

The large majority of these top SIL silver miners reported total Q3 revenues. Quarterly silver production multiplied by silver's average price in Q3 can be divided by these sales to yield an accurate relative-purity gauge. When Q3 sales weren't reported, I estimated them by adding silver sales to gold sales based on their production and average quarterly prices. But that's less optimal, as it ignores any base-metals byproducts.

Next comes the major silver miners' most-important fundamental data for investors, cash costs and all-in sustaining costs per ounce mined. The latter directly drives profitability which ultimately determines stock prices. These key costs are also followed by YoY changes. Last but not least the annual changes are shown in operating cash flows generated and hard GAAP earnings, with a couple exceptions necessary.

Percentage changes aren't relevant or meaningful if data shifted from positive to negative or vice versa, or if derived from two negative numbers. So in those cases I included raw underlying data rather than weird or misleading percentage changes. This whole dataset together offers a fantastic high-level read on how the major silver miners are faring fundamentally as an industry. They are hanging in there quite well.

Production is naturally the lifeblood of the silver-mining sector. The more silver and increasingly gold that these elite miners can wrest from the bowels of the earth, the stronger their fundamental positions and outlooks. These top 17 SIL miners' overall silver production slipped 2.2% YoY to 75.5m ounces in Q3'18. But their shift into more-profitable gold mining continued, with aggregate production up 1.6% YoY to 1.4m ounces.

According to the Silver Institute's latest WSS, total world silver mine production averaged 213.0m ounces per quarter in 2017. So at 75.5m in Q3, these top 17 SIL components were responsible for 35.4% of that rate. There is one unusual situation that slightly skewed this result. SSR Mining, which used to be known as Silver Standard Resources, saw its silver production plummet 57% YoY as its lone silver mine is depleting.

The winding down of SSRM's old Pirquitas silver mine is proceeding as forecast and has been going on for some time. This once major silver miner is morphing into a primary gold miner, which accounted for a record 94% of its revenue in Q3. Excluding SSRM, the rest of these top SIL silver miners saw their silver production retreat an immaterial 1.3% YoY. That's pretty impressive given this year's collapse in silver prices.

Q3's average silver price was just $14.96, down a major 11.2% YoY. That was far-worse performance than gold, with its quarterly average merely sliding 5.3% lower between Q3'17 to Q3'18. Considering how miserable this silver-price environment is with the worst relative performance to gold in decades, the major silver miners are doing well on production. They continue to hold out for silver mean reverting higher.

Silver is likely so down in the dumps because it effectively acts like a gold sentiment gauge. Generally big silver uplegs only happen after gold has rallied long enough and high enough to convince traders its gains are sustainable. Then the way-smaller silver market tends to start leveraging and amplifying gold's moves by 2x to 3x. But gold sentiment was so insipid over this past year that no excitement was sparked for silver.

Unfortunately at these bombed-out silver prices the economics of silver mining are way inferior to gold mining. The traditional major silver miners are painfully aware of this, and have spent years actively diversifying into gold. In Q3'18, the average percentage of revenues that these top 17 SIL miners derived from silver was just 36.9%. That's right in line with the prior 4 quarters' 39.3%, 35.3%, 36.8%, and 36.3%.

Silver mining is every bit as capital-intensive as gold mining, requiring similar large expenses for planning, permitting, and constructing mines and mills. It needs similar heavy excavators and haul trucks to dig and move the silver-bearing ore. Similar levels of employees are necessary to run these mines. But silver generates much lower cash flows due to its lower price. Consider hypothetical mid-sized silver and gold mines.

They might produce 10m and 300k ounces annually. At last quarter's average prices, these silver and gold mines would yield $150m and $363m of yearly sales. Thus regrettably it is far easier to pay the bills mining gold these days. So primary silver miners are increasingly becoming a dying breed, which is sad. The traditional major silver miners are adapting by ramping their gold production often at silver's expense.

With major silver miners so rare, SIL's managers are really struggling to find components for their leading ETF. So in Q3'17 they added Korea Zinc, which is now SIL's largest component at over 1/7th of its total weighting. In my decades of studying and trading this tiny sector, I'd never heard of it. So I looked into Korea Zinc and found it was merely a smelter, not even a miner. It really needs to be kicked out of SIL.

Every quarter since I've tried to dig up information on Korea Zinc, but its English-language disclosures are literally the worst I've ever seen for any company. Its homepage gives an idea of what to expect, declaring "We are Korea Zinc, the world's one of the best smelting company". I've looked and looked and the latest production data I can find in English remains 2015's. I can't find it from third-party sources either.

That year Korea Zinc "produced" 63.3m ozs of silver, which averages to 15.8m quarterly. That is largely a byproduct from its main businesses of smelting zinc, lead, copper, and gold. Korea Zinc certainly isn't a major silver miner, and has no place in a "Silver Miners ETF". No silver-stock investor wants to own a base-metals smelter! Korea Zinc should be removed, its overweighting reallocated to the rest of SIL's holdings.

SIL investors ought to contact Global X to ask them to stop tainting their ETF's utility and desirability with Korea Zinc. If they want it to be successful and grow, they need to stick with their mission of owning the major silver miners exclusively. Silver-stock exposure is the only reason investors would buy SIL. There is another situation investors need to be aware of with Tahoe Resources and its held-hostage Escobal mine.

Tahoe was originally spun off by Goldcorp to develop the incredible high-grade Escobal silver mine in Guatemala, which went live in Q4'13. Everything went well for its first few years. By Q1'17, Escobal was a well-oiled machine producing 5700k ounces of silver. That provided 1000+ great high-paying jobs to locals and contributed big taxes to Guatemala's economy. Escobal was a great economic boon for this country.

But a radical group of anti-mining activists managed to spoil everything, cruelly casting their fellow countrymen out of work. They filed a frivolous and baseless lawsuit against Guatemala's Ministry of Energy and Mines, Tahoe wasn't even the target! It alleged this regulator hadn't sufficiently consulted with the indigenous Xinca people before granting Escobal's permits. They don't even live around this mine site.

Only in a third-world country plagued with rampant government corruption would a regulator apparently not holding enough meetings be a company's problem. Instead of resolving this, a high Guatemalan court inexplicably actually suspendedEscobal's mining license in early Q3'17! Tahoe was forced to temporarily mothball its crown-jewel silver mine, and thus eventually lay off its Guatemalan employees.

That license was technically reinstated a couple months later, but the activists appealed to a higher court. It required the regulator to study the indigenous people in surrounding areas and report back, and then needs to make a decision. The government also needs to clear out an illegal roadblock to the mine site by violent anti-mine militants, who have blockaded Escobal supplies and physically attacked trucks and drivers!

So Escobal has been dead in the water with zero production for 5 quarters now, an unthinkable outcome. This whole thing is a farce, a gross miscarriage of justice. I hope this isn't a stealth expropriation, that Guatemalan bureaucrats will get their useless paperwork done sooner or later and let Escobal come back online. Within a year, Escobal's silver production should return to pre-fiasco levels of 5700k ounces a quarter.

At that rate, Escobal would retake the throne of being the world's largest primary silver mine! It would boost overall SIL-top-17 production by a massive 7.6%. Last year no one expected this unprecedented Escobal debacle to last very long, as the economic damage to Guatemala was too great. But as it drags on and on, TAHO stock has been decimated. It slumped to a brutal all-time record low in mid-November.

Sadly for longsuffering TAHO shareholders, management capitulated. In mid-November they agreed to sell the company to Pan American Silver at rock-bottom prices despite a 55% premium over that all-time low. That's devastating for TAHO investors but a steal for PAAS, which is SIL's 4th-largest component at 11.9% of its total weighting. That keeps Escobal's huge production in SIL if PAAS can finesse its reopening.

Unfortunately SIL's mid-November composition was such that there wasn't a lot of Q3 cost data reported by its top component miners. A half-dozen of these top SIL companies trade in South Korea, the UK, Mexico, and Peru, where reporting only comes in half-year increments. There are also primary gold miners that don't report silver costs, and a silver explorer with no production. So silver cost data remains scarce.

Nevertheless it's always useful to look at what we have. Industrywide silver-mining costs are one of the most-critical fundamental data points for silver-stock investors. As long as the miners can produce silver for well under prevailing silver prices, they remain fundamentally sound. Cost knowledge helps traders weather this sector's left-for-dead unpopularity without succumbing to selling low like the rest of the herd.

There are two major ways to measure silver-mining costs, classic cash costs per ounce and the superior all-in sustaining costs. Both are useful metrics. Cash costs are the acid test of silver-miner survivability in lower-silver-price environments, revealing the worst-case silver levels necessary to keep the mines running. All-in sustaining costs show where silver needs to trade to maintain current mining tempos indefinitely.

Cash costs naturally encompass all cash expenses necessary to produce each ounce of silver, including all direct production costs, mine-level administration, smelting, refining, transport, regulatory, royalty, and tax expenses. In Q3'18, these top 17 SIL-component silver miners that reported cash costs averaged $6.58 per ounce. While that surged 35.3% YoY, it still remains far below today's anomalously-low silver prices.

There are a couple of extreme cash-cost outliers that are skewing this average, but offsetting each other. SSRM's depleting silver mine is producing less with each passing quarter, forcing fewer ounces to bear the fixed costs of mining. Its crazy-high $17.41 per ounce in Q3 isn't normal. But on the other side of this is Silvercorp Metals, which produces silver in Chinese mines yielding enormous base-metals byproducts.

Selling those and crediting their value across the silver ounces mined dragged down SVM's cash costs to an unbelievable negative $3.37 in Q3! Excluding these extreme outliers, the rest of the SIL top 17 saw average cash costs of $6.40. That's not too far above the past 4 quarters' $4.86, $4.66, $5.05, and $3.95. As long as silver prices remain over those low levels, the silver miners can keep the lights on at their mines.

Way more important than cash costs are the far-superior all-in sustaining costs. They were introduced by the World Gold Council in June 2013 to give investors a much-better understanding of what it really costs to maintain silver mines as ongoing concerns. AISCs include all direct cash costs, but then add on everything else that is necessary to maintain and replenishoperations at current silver-production levels.

These additional expenses include exploration for new silver to mine to replace depleting deposits, mine-development and construction expenses, remediation, and mine reclamation. They also include the corporate-level administration expenses necessary to oversee silver mines. All-in sustaining costs are the most-important silver-mining cost metric by far for investors, revealing silver miners' true operating profitability.

In Q3'18 these top 17 SIL miners reporting AISCs averaged $13.53 per ounce, which also surged 39.0% YoY. Again that was skewed in both directions by SSRM's extremely-high $22.39 on Pirquitas' depletion and SVM's exceedingly-low $2.54 on those huge base-metals byproducts. Without them, the rest of the top 17 averaged $13.96 AISCs. That was much higher than the past 4 quarters' $9.73, $10.16, $10.92, and $10.93.

The lower production was definitely a factor, which is inversely proportional to per-ounce costs. Silver-mining costs are largely fixed quarter after quarter, with actual mining requiring roughly the same levels of infrastructure, equipment, and employees. So the lower production, the fewer ounces to spread mining's big fixed costs across. The major silver miners also reported lower ore grades, exacerbating the decline.

Nevertheless, the top 17 SIL miners' AISCs both with and without the outliers still remained under silver's weak average $14.96 price in Q3. So even with silver faring its worst relative to gold in decades thanks to devastated sentiment, the silver mines were profitable. And interestingly the closer AISCs crowd the prevailing silver prices, the more profits leveragethe miners have to silver mean reverting much higher.

In mid-November silver and SIL slumped to their lowest levels since back in January and March 2016. That was early in a new silver bull which emerged from conditions like today's where silver was despised. Over 7.6 months between December 2015 and August 2016, silver soared 50.2% higher as gold surged in its own new bull. And with silver moving again, investors eagerly started returning to the battered silver stocks.

Thanks to that silver-bull upleg, SIL skyrocketed 247.8% higher in just 6.9 months in essentially that first half of 2016! That ought to give embattled silver-stock investors some hope. All it will take to turn silver stocks around is a typical gold-driven silver upleg, and then they will soar again. The reason that silver miners' stocks blast dramatically higher with silver is their high inherent profits leverage to silver prices.

Assume another 50% silver upleg, which is pathetically small by historical standards, from silver's recent secular low in mid-November. That would catapult silver back up to $21 per ounce for the first time since July 2014. At Q3'18's top-17-SIL-stock average AISCs of $13.53, profits were just $0.47 per ounce at $14 silver. But at $21 assuming stable AISCs, they would soar an astounding 1489% higher to $7.47 per ounce!

You better believe silver-stock prices would skyrocket with that kind of earnings growth. The higher their AISCs, the greater their upside profits leverage. Now consider this same 50% silver upleg using the rolling-past-4-quarter top-17-SIL-stock average AISCs of $10.43 per ounce. That implies the $3.57 profit seen at $14 silver would only balloon 196% to $10.57 per ounce at $21 silver. So higher costs aren't necessarily bad.

As long as AISCs are below prevailing silver prices, the major silver miners can weather anything. The closer their AISCs creep to silver, the greater their earnings growth when silver mean reverts higher. So the major silver miners' upside from here is truly explosive as silver recovers, just like back in early 2016. And silver will power much higher soon as the record silver-futures shorts of early September continue to be covered.

While all-in sustaining costs are the single-most-important fundamental measure that investors need to keep an eye on, other metrics offer peripheral reads on the major silver miners' fundamental health. The more important ones include cash flows generated from operations, GAAP accounting profits, revenues, and cash on hand. As you'd expect given the miserably-low silver prices, they were on the weak side in Q3.

Operating cash flows among these SIL top 17 reporting them fell 23.0% YoY to $830m, which is totally reasonable given the 2.2%-lower silver production and 11.2%-lower average silver prices. Sales fell 9.5% YoY to $2717m, with some of the silver-side weakness offset by the 1.6%-higher gold production. And cash on hand fell 9.8% YoY to a still-hefty $2419m, giving these silver miners plenty of capital to weather this storm.

The hard GAAP accounting profits looked pretty ugly though, plunging to a $243m loss from being $88m in the black in Q3'17. But most of those losses didn't reflect operations. TAHO alone wrote off a massive $170m for the impairment of Escobal, which reflected an estimated restart date of the end of 2019. Coeur Mining reported a smaller $19m writedown for one of its mines. These two non-cash charges alone were $189m.

Without them GAAP profits would've sunk from $88m in Q3'17 to a milder $54m loss in Q3'18. That's still poor, but not unexpected given the lowest silver prices seen in almost several years. Again silver-mining earnings will soar if not skyrocket as silver inevitably mean reverts higher from here. All it takes for silver to surge in major bull-market uplegs is for gold itself to power higher, and huge gold upleg fuel abounds now.

The silver-mining stocks are doing way better fundamentally than they've been given credit for. Their higher Q3'18 mining costs still remained below the recent deep silver lows. And the compressed gap between their AISCs and low prevailing silver prices guarantees epic profits upside as silver recovers and mean reverts higher. That will attract back investors fast, catapulting silver stocks up sharply like in early 2016.

While traders can play that in SIL, this ETF has problems. Its largest component is now a base-metals smelter of all things! And the great majority of its stocks are primary gold miners with byproduct silver production. The best gains by far will be won in smaller purer mid-tier and junior silver miners with superior fundamentals. A carefully-handpicked portfolio of these miners will generate much-greater wealth creation.

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The bottom line is the major silver miners' fundamentals remain solid based on their recently-reported Q3'18 results. They continue to mine silver at all-in sustaining costs below even mid-November's deep silver lows. Their profits will multiply dramatically as silver rebounds higher driven by gold's own upleg and record silver-futures short covering. Investment capital will flood back in, catapulting silver stocks up violently.

So traders need to look through the recent forsaken herd sentiment to understand the silver miners' hard fundamentals. These left-for-dead stocks are seriously undervalued even at today's low silver prices, let alone where silver heads during the next major gold upleg. Silver can't languish at extreme anomalous multi-decade lows relative to gold for long. And once it catches a bid, silver stocks will really amplify its upside.


Nov 23, 2018
Adam Hamilton, CPA

Thoughts, comments, or flames? Fire away at zelotes@zealllc.com. Due to my staggering and perpetually increasing e-mail load, I regret that I am not able to respond to comments personally. I will read all messages though and really appreciate your feedback!

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