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American Barrick Resources Corporation

Submitted By:

Bhavesh Jain (10ESPHH010016)

Kush Kumar (10ESPHH010009)

Rajat Kataria (10ESPHH010006)

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Agenda

The Gold Hedging Program

Challenges / Concerns

About American Barrick

Diversity of Risk Management Practices in Gold Industry

Instruments for managing Gold Price Risk

Conclusion

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The Gold Hedging Program

One of the fastest growing gold mining firm

Manage firm’s exposure to gold price risk

This program is integral part of firm’s corporate strategy

Managed by financial executives: Wilkins, Wickham and Oliphant

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Challenges / Concerns to the Program

Latest gold findings – Meikle Mine

Meikle Mine Development Project required capital investment of $180 m. Yield of 400,000 ounces of gold

annually for 11 yrs

When, how much and how to hedge its gold production

Processing of rich ore would increase production level – concern is how to hedge this new development

Maintain a hedge position in the environment of low gold prices and low interest rates

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About the Company

Peter Munk – founder, chairma

n and CEO

Created in 1983

Equity Market

cap. Increased from $46 m to $5 B by 1992

Annual production grew from

34,000 ounces in 1984 to

1.325 mn ounces by

1992

Proven reserves increase

from 322,000

ounces to nearly 26 m ounces

Company grew because of –• Annual

acquisitions

• Good fortune

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Acquisitions

1983 • purchased interests in Canadian and Alaskan mines

1984• purchased interests in Pinson mines &

acquired Camflo Mine. It tripled Barrick’s reserves

1985 • purchased Mercur Mine near Salt Lake City

1986 & early 1987 • purchased GoldStrike Mine

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Contd…

It was fast growing as well as profitable.

Generated large operating cash flows - invest back in mines.

It was profitable because –

• Acquired gold mines at relatively low prices

• Struck huge gold reserves in GoldStrike deal

• Increased Production capacity and cut expenses in Mercur Mine

• Gold Price Management Program enabled it to sell at higher price

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Contd…

Tenets of the Company Develop a diversity of gold-producing interests in North

America

Maintain conservative financial policies by –• Issuing little debt• Moderating firm’s gold

price risk

Barrick adopted 2 ways to moderate risk

(Earlier) selling / hedging risk to others (Later) insurance strategies

Adept in using innovative financial techniques and instruments

Investors had confidence in company & so its stock out performed the market and peer firms (Exhibit 4)

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Exhibit 1Gold Production as well as gold reserves increased over the years (1984 to 1992)

Cost / Ounce has gone up in 1989 to 1991 because of stripping cost.

This cost includes cost of removal of overburden and waste materials during the development & expansion of existing mines and acquisition of new mines

Year

Gold Production

(oz.)

Gold Reserves

(oz.)Cash

Cost/Ounce

% change in Gold

Reserves

1984 34078 322000 247

1985 115952 1842000 217 472.05%

1986 186072 2905800 200 57.75%

1987 225109 10812400 246 272.10%

1988 341000 17082900 280 57.99%

1989 467837 19876600 307 16.35%

1990 596220 19510400 343 -1.84%

1991 789846 24377000 305 24.94%

1992 1322432 25708700 210 5.46%

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Exhibit 2 YearTotal

AssetsTotal

LiabilitiesShareholder's

EquityNet

Income CFO CFI CFF

1983 40422 8313 32109 -1226

1984 168489 87436 81053 -9056 71 -99015 71944

1985 165329 98384 66945 3095 12646 -20682 31803

1986 318884 210093 108791 11588 24466 -95679 73466

1987 675785 337645 338437 20570 37276 -192871 320945

1988 700825 310350 390485 30495 61693 -195175 21980

1989 1050069 524551 525518 33735 76801 -114569 290354

1990 1146883 502007 644876 58205 94040 -160263 72976

1991 1306337 465684 840653 92440 160233 -303346 28415

1992 1504293 511564 992729 174940 282782 -272209 26598

CFO and Net Income have increased over the years even in the years 1989 to 1991 when their cash cost/ounce was above $300 as seen in Exhibit 1.

The reason for this is that they were able to sell the gold at higher prices ($430 to $450) than COMEX price ($360 to 390).In 1987 and 1989 there was a sharp increase in CFF because of the gold loan that they used to acquire 2 gold mines – Goldstrike and Mercur Mines.

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Gold Producers and Production

Mining firms virtually do

not have any marketing

and distributing

costs

So competitive advantage lies in

cost of gold production,

physical features of gold deposit

and efficiency of firm’s operations

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Operating & Financing Performance (Exhibit 3)

American Barrick was way ahead in minimizing the costs and increasing the operation

efficiency –•Average realized price/oz - $438; highest among peers•Total cost/oz - $274; lowest among peers•Total reserves (million oz) – 25.3; highest•Hedging as percent of production – 94%; highest•Shareholder’s equity book value - $841; just below Placer Dome•% of firm owned by Officers and Directors – 25%; highest•Average price/oz. of hedge production - $424; this is good as seeing the % of production hedge•Stock return (1988-1992) is 218.7%; other firms are in negative

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Exhibit 5

Price of gold/oz.

is declining after

1980 till 1993 not

only in nominal

terms but also in real terms

Central banks

offloaded the

gold as it was

no longer playing

the central role in world

economy.

Reserves fell

from 886 m oz in 1968

to 726 m oz

in 1991

There is a

direct relatio

n betwe

en inflation rate and gold

prices

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Diversity of Risk Mgmt Practices in Gold Industry (Exhibit 6 & 7)

Risk mgmt activities

varied among

gold mining firms.

Australian Firms > North

American Firms > South

African Firms

No. of firms managing their risks increased from 35 in 1990 to 52 in 1992 for

North American

firms

Percent of Production

Hedged increased for North American

firms

They increased the % of

production hedged

because the gold prices

were continuously decreasing

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Comparison of Percent of Production Hedged (Exhibit 8)

1992 1993 1993

American Barrick

94% 96% 96%

Amax Gold

50 12 12

Echo Bay 15 4 12

LAC Minerals

80 49 6

NewMount Mining

29 16 0

Pegasus Gold

68 10 10

Placer Dome

24 14 14

Big firm like Homestake engaged in no risk management

But for American Barrick, managing gold price risk was one of the business objectives and was integral part of business

Barrick had maximum % of production being hedged as compared to other firms which might be due the fact that mgmt was holding 25% of the equity

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Instruments for Managing Gold Price Risk

Gold Financings Forward Sales

Options and Warrants

Spot Deferred Contracts

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Gold Financings

American Barrick used many financial vehicles for

acquisition and expansion of its mines. Some of these are –•Barrick Cullaton Gold Trust – 3% of mine output when gold price was below $399 per ounce. Rising to 10% when gold price was at $1,000 per ounce•Bullion Loans – entered into a bullion loan with Toronto Dominion bank for acquisition of Mercur Mine in 1985. In this, it received 77000 ounces of gold and raised $25 m from market. It will repay the loan in EMI in ounces of gold at rate of about 2% p.a. over 4.5 yrs •Gold Indexed Eurobond – Offered $ 50 m in 2% gold-indexed notes to Euro market investors.

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Forward Sales

These are OTC transactions typically for

10000 ounces or more.

Forward sales proved costly in 1984 and

1985.

Spot Prices in 1984 was $ 360

and Forward contract rates for American Barrick

was $ 311.

They sold 20,000 ounces of gold in 1984 but the prices

recovered later on.

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Exhibit 9Year

Gold Price (Per Oz.)

Forward Price (Per Oz.) Fwd - Spot % change

Jan,1982 384.11 443.56 59.45 15.48%Jun,1982 314.93 359.59 44.66 14.18%Jan,1983 479.88 522.11 42.23 8.80%Jun,1983 412.82 451.75 38.93 9.43%Jan,1984 370.86 405.72 34.86 9.40%Jun,1984 377.64 423.53 45.89 12.15%Jan,1985 302.77 327.75 24.98 8.25%Jun,1985 316.39 338.95 22.56 7.13%Jan,1986 344.58 368.06 23.48 6.81%Jun,1986 342.77 363.68 20.91 6.10%Jan,1987 408.31 428.69 20.38 4.99%Jun,1987 449.57 481.376 31.806 7.07%Jan,1988 476.57 507.29 30.72 6.45%Jun,1988 451.34 481.96 30.62 6.78%Jan,1989 403.99 436.6 32.61 8.07%Jun,1989 367.59 393.11 25.52 6.94%Jan,1990 410.12 439.17 29.05 7.08%Jun,1990 352.31 377.28 24.97 7.09%Jan,1991 384.47 403.7 19.23 5.00%Jun,1991 366.7 387.37 20.67 5.64%Jan,1992 354.43 366.38 11.95 3.37%Jun,1992 340.8 352.52 11.72 3.44%

Dec,31,1992 333.33 340.86 7.53 2.26%

As we see that the difference between forward and spot gold prices are shrinking over the years. Since the Contango is decreasing.

Contango is the difference between interest rate for lending dollars and the interest rate for lending gold.

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Exhibit 10

Year

Ounces Sold

Forward (000s)

Date of LongestForward

Sale

Average Price

at Delivery

($)COMEX

Price

COMEX - Delivery

Price

Gain / Loss (if

not hedged)

1984 0 1985 79.4 Dec-86 336 368 32 25408001986 92.6 Dec-87 364 447 83 76858001987 37.9 Jan-89 497 437 -60 -22740001988 56.6 Dec-92 486 345 -141 -79806001989 117.4 Dec-91 427 362 -65 -76310001990 0 1991 0 1992 0

Total Loss -7659000

If the Barrick has not gone for hedging, their would have been a significant loss.

Barrick stopped using Forward Sales of Gold after 1990 probably because Contango was decreasing.

So they started looking for option based insurance strategies which will benefit them from downside risk as well as gain if prices rise.

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Options and Warrants (Exhibit 11)

The firm stopped adding new

options positions from 1990.

Spot prices were declining which led them to lower the

call strike price. That means, company

had to surrender the upside potential.

This was because, market was liquid only

for contracts with maturities under

2 yrs.

This was much shorter than 20 yrs of expected

production currently in

reserve.

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Spot Deferred Contracts

A type of forward sale of gold.

We have multiple delivery dates with final one being 5 or 10 yrs after initiation of the contract.

Have right to defer the delivery until the end of the contract

Barrick could deliver on the contract or it could roll the contract forward to the next period

Pricenext year = prior contract price + prevailing contango premium

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Exhibit 12

Year

Avg price for GoldDelivered during

Yr ($)

Avg OuncesDelivere

dCOMEX

Price

COMEX Price -

Delivery Price

Gain / Loss (if not

hedged)1984 311 34078 360 49 16698221985 333 115952 317 -16 -18552321986 348 185359 368 20 37071801987 410 219776 447 37 81317121988 446 330479 437 -9 -29743111989 436 472452 393 -43 -203154361990 437 575656 384 -53 -305097681991 438 787735 362 -76 -59867860

1992 422 1280320 345 -77 -98584640 Total Loss -200598533

Had they not gone for hedging, there would have been a significant loss

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How Sensitive Would American Barrick Stock Be to Changes in Gold Price in the Absence of Risk Management?

• Pre-tax earnings (Exhibit 2) $222.744 mn ……. a)• Reduction in earnings if gold was sold at spot (Exhibit 2 and 12) [1.280320 mn oz. * (422-345) ] $ (98.585) mn ……… b)

• Pre-tax earnings (a+b) 124.16 mn ……… c)• Taxes (21% tax rate, exhibit 2) 26.07 mn ………

d)• After-tax earnings (From Hedging) 98.07 mn

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Elasticity of Earnings and Profits for 1% Change in Gold Price

1% change in gold price $3.45Number of ounces 1.280322 mnAdditional pre-tax profits $4.42 mn

Additional after-tax profits $3.49 mn

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Assumptions for Hedging Calculation

Contracts are SDC

Implied Volatility of gold to be 13% (Exhibit 15)

Contango Premium for 1st yr i.e. 1993 (4.06%-1.80%) = 2.26% (Exhibit 15)

Contango Premium for 2nd and 3rd yr i.e. 1993 and 1995 is (4.93%-2.25%) = 2.68% (Exhibit 15)

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If Barrick Hedged 1.7 mn ounces of Gold

1992 1993 1994 1995Total Gain/Loss ($ mn) Scenario

Spot 333.33 376.6629 425.629077 480.960857 All three yrs Increase

Forward 340.86 348.563436 357.9049361 Profit 0 0 0 0

Spot 333.33 289.9971 252.297477 219.498805 All three yrs decrease

Forward 340.86 348.563436 357.9049361 Profit 28.82231 54.5507101 78.43014095 161.8031611 Spot 333.33 376.6629 327.696723 370.297297 Inc-Dec-IncForward 340.86 348.563436 357.9049361 Profit 0 23.6489414 0 23.6489414 Spot 333.33 289.9971 327.696723 285.096149 Dec-Inc-DecForward 340.86 348.563436 357.9049361 Profit 28.82231 11.8244707 41.25831268 81.90509338 Spot 333.33 376.6629 425.629077 370.297297 Inc-Inc-DecForward 340.86 348.563436 357.9049361 Profit 0 0 0 0 Spot 333.33 289.9971 252.297477 285.096149 Dec-Dec-IncForward 340.86 348.563436 357.9049361 Profit 28.82231 54.5507101 41.25831268 124.6313328

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If Barrick did not Hedged 1.7 mn ounces of Gold

1992 1993 1994 1995

Total Gain/Loss ($ mn) Scenario

Spot 333.33 376.66 425.63 480.96 All three yrs IncreaseProfit 24.56 27.75 31.35 83.66

Spot 333.33 290.00 252.30 219.50 All three yrs decrease

Profit -24.56 -21.36 -18.59 -64.50 Spot 333.33 376.66 327.70 370.30 Inc-Dec-IncProfit 24.56 -27.75 24.14 20.95 Spot 333.33 290.00 327.70 285.10 Dec-Inc-DecProfit -24.56 21.36 -24.14 -27.33 Spot 333.33 376.66 425.63 370.30 Inc-Inc-DecProfit 0.00 27.75 -31.35 -3.61 Spot 333.33 290.00 252.30 285.10 Dec-Dec-IncProfit -24.56 -21.36 18.59 -27.33

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Conclusion

American Barrick should go for Hedging

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