Wheaton Precious Metals (NYSE: WPM) investors, I may have some good news for you. After putting up with the stock's dud performance in the past year, when it lost 9% of its value even as you watched shares of peers Royal Gold (NASDAQ: RGLD) and Franco-Nevada (NYSE: FNV) climb 10% and 21%, respectively, you have reasons to be hopeful.
Why? Increased diversification and a recent deal that could turn the fortunes around for a key mine have the potential to boost Wheaton's cash flows substantially. That means now could be the time to get greedy with Wheaton stock while it still trades at a big discount to peers.
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Wheaton recently signaled something important
Unlike Royal Gold and Franco-Nevada, which derive a major portion of their revenues from gold, Wheaton Precious Metals is primarily a silver-based company. In fact, it was known as Silver Wheaton Corp. until last year when it changed its name.
Gold has hugely outperformed silver in recent years, which is one big reason why Royal Gold and Franco-Nevada have grown their sales and cash flow from operations steadily over the years, so much so that both companies even boast among the strongest dividend track records in the precious metals industry. Wheaton, on the other hand, hasn't had much luck because of low silver prices, but things could soon turn for the better for several reasons.
To begin with, Wheaton continues to generate strong operating cash flows, which stand at $548 million for the trailing 12 months as against net income worth roughly $206 million for the period.
What matters is management's increasing confidence in its cash flow-generation capabilities, which was evidenced when Wheaton upped its dividend, or cash-generation payout, significantly last year. Wheaton links its dividend to cash flows and was paying out 30% of the average of its trailing four quarters' operating cash flows in dividends. Last year, the company boosted the percentage to 40%.
With that, Wheaton sent out a strong signal that its cash flows should continue to improve, largely backed by a changing product mix with greater leverage to gold.
The lure of gold
Management's decision to drop silver from the company's erstwhile name and change it to Wheaton Precious Metals was more than just a name change: It marked its transition to a more diversified precious metals streamer.
In 2016, Wheaton paid $800 million to mining giant Vale and acquired the right to purchase an additional 25% of the gold produced from Vale's Brazil-based Salobo mine over and above the 50% production it already had an agreement on. To remind you, Wheaton doesn't mine metals but buys "streams" of precious metals from pure mining companies at discounted prices to resell in the spot market later. In exchange, Wheaton finances the miners up front.
The Salobo agreement is a major diversification push for Wheaton as it should boost gold's share in its top line. Between 2017 and 2021, Wheaton expects to generate 45% of its revenue from gold and the rest from silver, a move that should help the company improve its margins and cash flows.
Even better, there's a chance Wheaton could upgrade its gold production projections in its upcoming fourth-quarter earnings report, thanks to its latest agreement with First Majestic Silver (NYSE: AG).
A deal at the right time
In January, First Majestic Silver announced plans to acquire Primero Mining, as a result of which Wheaton's existing streaming agreement on Primero's San Dimas mine will be replaced with a new agreement with First Majestic. Under that deal, Wheaton will get 25% of the gold and gold equivalent to 25% of the silver produced from the mine, converted to gold at a fixed gold-to-silver ratio of 70:1. For each ounce of gold, Wheaton will pay $600 or less, adjusted by 1% for inflation.
This new agreement is important for several reasons. First, it's gold-focused unlike Wheaton's earlier silver-based San Dimas agreement and should add 40,000-45,000 ounces of gold annually to Wheaton's production over the next five years.
Second, and more importantly, San Dimas is Wheaton's oldest and primary source of precious metals. Operational and liquidity challenges at Primero severely hit operations and development at San Dimas in recent years, sending ripples through Wheaton. Having a more competent and efficient owner in First Majestic should now, hopefully, get San Dimas back on the growth track and end the uncertainty in Wheaton's production and cash flow from the mine.
What you should make of it
With Salobo and San Dimas emerging as two visible catalysts to Wheaton's cash flow growth, the stock could gradually close the gap with peers on a price-to-cash flow basis going forward.
In other words, this could be a great chance to pick up some shares of Wheaton Precious Metals on the cheap.
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