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Fresnillo shares will be a major beneficiary
As a high quality and growing silver miner in a stable jurisdiction, the major uncertainty for investors in Fresnillo (LSE, FRES) is the price of silver. Recent results show that the group has benefitted from doubling its realised silver price and should the precious metal continue its impressive rise, Fresnillo shares will be a major beneficiary.
A key driver for silver is the growth in investment demand as investors seek a hedge against the current uncertainty. As there do not seem to be any quick fixes to the sovereign debt issues and related problems this demand looks to be well underpinned.
Fresnillo – which is the largest focused silver producer and the second largest producer of silver in the world after BHP Billiton - saw its stock perform well despite a downgrade to silver output guidance for 2011. This is perhaps as investors have sought high quality precious metals producers to shelter from the storm. The group is focused on moving from the 42.1m oz produced in 2010 to 65m oz by 2018 which is an increase of just over half.
Operations are in Mexico which is one of the world’s largest silver producing countries and has a favourable mining environment. The company had only one - Fresnillo mine - silver focused mine in the first quarter of this year but in Q2 the Saucito reached commercial levels to make a meaningful contribution. The group has three other producing mines which are primarily focused on gold.
In first half of 2011, silver output rose by 2.6% on the previous year driven by the newly operating Saucito mine as the key Fresnillo mine saw lower output. But in the Q3 update the group lowered production guidance for this year on account of: “backfilling of long-hold stopes at the Fresnillo mine to reinforce safety conditions”.
Normal operations were expected to have resumed by the end of October but Q3 output was down 5.8% on last year. Full year silver output guidance has therefore been lowered to 41m oz from 44m oz - a slight fall on 2010’s output of 42.1m oz.
However, on the output front gold has been more successful with record attributable production at 326,245 oz in the nine months to the end of September (119,768 for Q3). This has meant that gold output guidance for 2011 is being revised up from 400,000 ounces to 430,000 ounces for the year.
Turning to the financials, revenue jumped 75% to US$1.1bn in the first half and gross profit increased by 91.8% to US$774.6m. EPS more than doubled and the dividend was increased by 128.3% to 21 US cents. The group had no debt and cash and cash equivalents at US$717.9m an increase of 28.3% compared to year-end 2010.
The bottom line for Fresnillo is that silver is the key driver and the stock looks fairly rated at around 17X 2012’s earnings given the growth prospects. Silver looks underpinned but has been very volatile.
This article was produced by Senior Research Analyst, Andrew Latto
