Today’s update from gold miner Centamin (LSE: CEY) shows that the company is making encouraging progress. Production for 2016 has beaten expectations, while it has upgraded its dividend policy. This could mean that the company becomes a strong income play over the medium term, while its capital growth prospects remain high. Here’s why I think it’s a buy after today’s news.
Improving performance
Total gold production for the final quarter of 2016 was 16% higher than in the same quarter of 2015. Although this was an 8% decline on the third quarter of 2016, the company still exceeded production guidance for the full year. It produced 551,036 ounces of gold versus guidance of between 520,000 and 540,000 ounces. This figure represents a 25% increase on 2015.
Looking ahead to 2017, Centamin expects to produce around 540,000 ounces of gold. It expects to achieve this at a cash operating cost of $580 per ounce and an all-in-sustaining cost (AISC) of $790 per ounce. With gold trading at $1,173 per ounce, it seems highly likely that the business will turn a significant profit in the current year, especially since there’s scope for further increases in productivity.
Strong cash flow
Centamin’s financial position has continued to improve throughout 2016. Better free cash flow generation, thanks in part to higher production, means that it can afford a higher dividend than expected. It now plans to pay out at least 30% of net cash flow after sustaining capital costs and the payment of profit share to the Egyptian government. As a result, it now yields around 3.3% from a dividend that’s covered over three times. This marks it out as a potential income play in the long run.
Outlook
The gold price has fallen by around 10% since the US election. While disappointing, there’s a good chance it will recover this lost ground during the course of 2017. The risks facing the global economy remain high and new policies which are set to be implemented by Donald Trump could lead to higher inflation. This may raise demand for gold due to its status as a store of wealth, while Brexit, problems in Europe and a slowing China could cause Centamin’s rating to rise from its current lowly figure of 11.5.
This is in line with the rating of sector peer Rio Tinto (LSE: RIO). Although it’s more diversified than Centamin and is a larger entity with greater size, scale and financial strength, the outlook for gold is more positive than for iron ore. Demand from China for the steel-making ingredient may fail to rise significantly as it transitions towards a more consumer focused economy. And with the supply of iron ore likely to rise over the medium term, its price may stagnate. Of course, Rio Tinto remains a sound long-term buy, but gold miners such as Centamin could outperform it this year.
