Fresnillo - Gold output up a fifth; New CEO

Fresnillo is the second largest silver producer globally and is focused on the metal for its long-term growth.  In 2011 silver made up 52% of revenue with gold accounting for 44% and in the current year gold is likely to leap ahead as its output increases.

Fresnillo reported first half production numbers which saw gold output up a fifth. For the full year silver output is forecasted to be flat and gold output is set to increase by a quarter. On the corporate front the group announced the appointment of a new CEO replacing Jaime Lomelin. New CEO Octavio Alvidrez most recently was responsible for Mexico’s largest underground mine with the Penoles Group.

Fresnillo enjoys a premium stock market rating among London’s precious metal stocks for understandable reasons. The group has a solid operational history, net cash; solid growth plans and operates in Mexico which is a safe mining jurisdiction.

The stock market rating for the group is therefore 20X for the current year which falls to 16X next year. This is supported by the dividend policy which sees around half of earnings paid out giving a dividend yield of over 2.5%

However, moving to 2018 and the objectives are to boost silver output by 55% from the 2011 levels by 2018.  For gold the target is more modest with a 500,000 ounce objective versus the 449,000 ounces seen in 2011 – an 11.3% increase.

With silver the key driver of long-term value it remains appropriate to consider Fresnillo primarily as a silver producer.  The share price has seen some pullbacks, with the key driver being equity market weakness in the second quarter and volatile precious metal prices. 

Looking at silver and gold, both showed strong performances in 2010 and 2011 with silver the strongest.  Both precious metals will drive sentiment and profits towards Fresnillo in the near-term. In 2012 both silver and gold are broadly flat on their opening prices at the start of the year.  However, this means that silver is weak versus 2011 while gold is flat on the average price seen last year.

For Fresnillo the average realized gold price was up 26.6% in 2011 to US$1,585 while the average realized silver price was up a staggering 62.5% to US$35.75. 

Silver sees industrial demand as a key driver in contrast to gold which is driven by investment demand and jewellery.  Thus there is a risk that silver could weaken further on slowing global growth but if gold performs well silver will follow it up to some extent (as investment demand flows to both metals).

In terms of the half-year financial results we would expect rising gold output and a resilient gold price to offset weakness in silver prices and production.  For the full year this is also likely to remain the case provided silver prices don’t weaken meaningfully from here.

In terms of reserves the target is to have 650m ounces of silver and 5m ounces of gold by 2018 and as such the group continues to explore around its existing sites.  This compares to 403m ounces of silver reserves at the end of 2011 and 4.6M ounces of gold reserves.

In the short-term precious metal prices remain the driver of the stock with gold looking to strengthen but silver uncertain on slowing economic growth.  Meaningful upside depends on QE 3 driving precious metals higher.