Wheaton Precious Metals (NYSE: WPM) is one of the largest gold and silver streaming companies in the world. It generated nearly $800 million in revenue in 2018 -- a figure dwarfed by the $1 billion in back taxes and penalties that Canada, the country the company calls home, was trying to recover from Wheaton. No wonder investors were pleased when the two sides in this tax dispute finally reached an agreement back in December, and more recently, Wheaton's latest quarterly report shed more light on what the impact of the agreement is likely to be going forward. Here's a little more about what happened, what Wheaton investors should be looking for in the future, and why it's also likely to be good news for peers like Franco-Nevada (NYSE: FNV).
What's been going on
Taxes are a complicated affair, as anyone who has ever done their own can easily appreciate. They get a lot more complicated when you are dealing with a corporate entity and even more complicated when that entity happens to have investments spread across North, Central, and South America and Europe. There are a lot of governments to answer to, and estimates and best guesses must be made, with the end goal of doing what's right without overpaying on the tax front.
It's a pretty complex issue, but Wheaton was paying Canadian taxes based on what it believed was an appropriate method (transfer pricing). The Canadian tax authority disagreed and started to review the company's historical tax payments. The government was claiming that Wheaton owed 399 million Canadian dollars in back taxes and fines for the years between 2005 and 2010. That, however, was just the tip of the iceberg, since the company has used the same transfer pricing method all the way up to the present.
Wheaton estimates that the total liability here could have been as high as $1 billion U.S. A bill that large would have wiped out all of the company's revenue in 2018 and then some. If that expense were to be funded with debt, Wheaton's $1.26 billion in long-term debt would increase to around $2.26 billion. Although that's just a hypothetical scenario, it would represent a nearly 80% rise in long-term debt. This was a big issue and, understandably, an overhang on the streamer's stock price. But it also cast a cloud over peers, since the tax case against Wheaton was quite possibly just the first step in a broader tax push for Canada with regard to precious metals companies with foreign assets.
Thank goodness that's over
Luckily for Wheaton, and likely precious metals peers, the two sides came to terms on an agreement in late 2018. Without getting too deep into the woods on a very complicated topic, Wheaton will change how it interacts with its foreign subsidiary in such a way that the fee income it generates from the relationship will increase. That, in turn, will result in higher taxable income in Canada. Far from a loss for Wheaton, this is actually a huge win. The change will have no impact on the 2005 to 2010 tax years and will lead to an increase in tax payments of around $10 million for the years between 2011 and 2017.
That's much better than the worst-case scenario Wheaton was looking at. But, more importantly, it puts this issue behind the company and means that Wheaton and Canada are now on the same page tax-wise. There shouldn't, with any luck, be any tax surprises from here. However, investors in Wheaton do need to brace themselves for ongoing higher costs. Using back of the envelope math, Wheaton's taxes could rise by as much as $1.4 million per year (it will probably less than that, assuming there are penalties involved, but it makes conservative sense to err on the side of caution here). That would represent a roughly 9% increase compared to 2018 taxes -- a significant figure and one that will need to be kept in mind as Wheaton incorporates the change into its financial results.
Just as important as the fact that the dispute is behind Wheaton, however, is the fact that it can now focus all of its attention on its core streaming business without this outside distraction. And since investors don't need to worry about a big tax bill, for which Wheaton hadn't put any money aside, the stock rose over 10% on the settlement news.
That said, there are bigger implications for the streaming industry here. Peer Franco-Nevada, for example, also calls Canada home. In fact, the Canadian government is examining Franco-Nevada's tax returns right now. The country's tax authority is looking to get paid more for revenues Franco-Nevada generated in Mexico. The company disagrees and is fighting it. Although there's no way to tell how things will fall out, and the dollar amounts involved are much smaller, Franco-Nevada noted in its fourth-quarter 2018 conference call that the Wheaton settlement had set a precedent. In other words, there's a template that all streaming companies can use to remain in compliance now that Wheaton has been put through the tax wringer. So not only is it a weight off of Wheaton, it's really a weight off the company's peers as well.
Clear skies ahead?
Getting the Canadian tax issue behind it was a major success for Wheaton. And that the impact was so small relative to the risks was a big win for the company and its shareholders. The changes Wheaton is making, meanwhile, are likely to ripple through to other streamers doing business in Canada and clear up a dark cloud that was hanging over some of the big names in the sector. Often-volatile commodity prices are still be the driving force here, but at least now Wheaton and its peers have a better understanding of the tax rules under which they are playing in Canada. The streamer's ongoing costs are likely to rise a bit because of this settlement, but if this billion-dollar issue was keeping you on the sidelines regarding investing in Wheaton, you might want to revisit the streamer today.
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