Silver Selling for $1 per Ounce

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While the excruciating losses on Wall Street may require some adaptation, we Fools can't change who we are as investors. When fundamentals fly out the window and valuations become temporarily moot, the only thing an instinctive value-hound can do is dig even deeper for the most disjointed and infallible values out there.

Let's dig where digging's the thing.

Even within a sea of drowning value stocks, Silver Wheaton (NYSE: SLW  ) stands out like a lighthouse. Thanks to its unique, fixed-cost business model, a dive into these numbers is a lot more fun than the math-wary Fool might think.

As both Agnico-Eagle Mines (NYSE: AEM  ) and Coeur d'Alene Mines (NYSE: CDE  ) can attest, transforming a mine from prospect to producer is often a messy process involving unanticipated delays and cost overruns. Silver Wheaton, meanwhile, has pre-paid $1.22 billion to acquire its portfolio of silver streams, and will enjoy an essentially fixed cash cost of $3.90 per ounce for the life of those purchase agreements.

On the strength of core assets like Goldcorp's (NYSE: GG  ) Luismin and Penasquito mines, Silver Wheaton's total share of silver assets in the ground amounts to:

  • 382.3 million ounces of proven and probable reserves (highest certainty).
  • 230.4 million ounces of measured and indicated resource (reasonable certainty).
  • 447.5 million ounces of inferred resource (lowest certainty).

$1 per ounce of silver?
In a perfect world, we could declare that all 1.06 billion of those silver ounces will find their way out of the ground, and determine that the company's $1.07 billion enterprise value indicates a rough market value of $1 per ounce of silver. That's some bargain all right, but those inferred resources are just preliminary estimates that must be verified through exploration before we can rely upon their accuracy.

The most conservative approach would have us count only the proven and probable reserves, as I did in this comparative analysis of gold miners like Yamana Gold (NYSE: AUY  ) and Newmont Mining (NYSE: NEM  ) . Employing that formula, Silver Wheaton sports an alluring enterprise-to-reserves ratio of 0.28.

For this company, though, where six silver streams are already delivering silver and two more are expected by year's end, I believe the extremely high ratio of producing assets to development-stage assets makes the use of the first two categories combined a reasonably conservative basis for valuation calculations. For our purposes, then, we'll assume that over the long haul Silver Wheaton will acquire at least 613 million ounces of silver.

On that basis, we can calculate the company's fixed all-in cost of production as $5.89 per ounce. By contrast, major competitor Pan American Silver (Nasdaq: PAAS  ) reported an all-in cost of $9.53 for the third quarter, which is unnerving, considering that silver ended yesterday just above $10 per ounce. While I remain steadfast in my assertion that silver prices will rebound sharply before long, the added buffer for Silver Wheaton is a welcome moat during deep price corrections like the one we're experiencing now.

Speaking of deep corrections, Silver Wheaton shares have fallen an incredible 86% from their March high of $19.54, to close at $2.82 yesterday. With 251.5 million shares outstanding, long-term value investors can think of each Silver Wheaton share as roughly equivalent to 2.44 ounces of silver in the ground. It turns out investors really are paying just over $1 per ounce of silver in the ground.

Fun with the 2009 outlook and beyond
Silver Wheaton has targeted silver production of about 16 million ounces for 2009. With the production cost fixed at $3.90, cash flow from operations in 2009 would be roughly $98 million at $10 per ounce of silver. If silver stages a recovery to an average of $15 for 2009, the company will rake in about $178 million, or more than one-half the company's entire long-term debt of $351 million.

Judging by the forward P/E ratio of 10.7, it looks like analysts are anticipating silver prices of about $9 per ounce. Hogwash! I view $15 silver as far more likely, which would yield a forward P/E of about 4.9. If silver were to recapture the $20 mark and remain there or higher, then Fools could be picking up one sweet bargain at about 3.4 times forward earnings. No matter how you slice it, I believe the real story is a long-term saga of higher silver prices, making the notion of 2.44 ounces of silver per share the Foolish takeaway on the fundamental value of Silver Wheaton shares.

Further Foolishness:

If you've enjoyed this unconventional journey through Silver Wheaton's numbers, I think you'll appreciate the insight of The Motley Fool's Inside Value newsletter team as they tear apart the numbers on a wide array of screaming values. You sure can't beat the value of the 30-day free trial we're offering today.

Fool contributor Christopher Barker would like to go swimming in a silver stream. He can be found blogging actively and acting Foolishly within the CAPS community under the username TMFSinchiruna. He owns shares of Agnico-Eagle Mines, Coeur d'Alene Mines, Newmont Mining, Pan American Silver, Silver Wheaton, and Yamana Gold. The Motley Fool has an empathetic disclosure policy.

Read/Post Comments (4) | Recommend This Article (51)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 25, 2008, at 3:44 PM, NYUgrad wrote:

    I enjoyed this writeup on SLW and am in agreement. I think the recent news on Lundin, Hudbay, Jaguar etc is a great short term opportunity for manipulators.

    Fact is the USD will sink as the new administration rolls out their plans to avoid a depression. All these programs cost money America doesn't have, thus more money will be printed and added to the supply. Falling dollar will also mean extreme rise in gold and silver in 2009.

    Also a leading blogger on capital markes, Bill Cara, noted on his Oct 28 entry:

    "In my view, Silver Wheaton has a terrific business model, a good management team, its finances under control, a physical product that the market wants and needs, and on and on. This is why the company is in the Cara 100, and why traders need to consider buying it here at the bottom of the cycle – after a fall in a month from a high of US$11.09.

    In fact, I will be doing the same today.

    Let’s revisit this stock in three to six months and you tell me who’s the trader and who’s been the screaming mimi."

  • Report this Comment On November 28, 2008, at 2:05 AM, NYUgrad wrote:

    A follow up to the original write-up, I found an interview of SLW Ceo, Peter Barnes, from yesterday Nov 27, 2008. He addresses current price, future growth, debt, etc.


    Windows Media

    Happy Thanksgiving!

  • Report this Comment On June 13, 2011, at 2:02 PM, benign01 wrote:

    How To Sell Gold & Silver in the Uk for the best price

    1/ Shop around for the best price per gram for your gold & silver but don't just stop there. Shortlist 3 or 4 of the highest prices that you have found....then look deeper at the companies concerned

    2/ make sure that these companies have reliable trading standards approved weighing scales and either they will weigh your items in front of you OR will send you a photo of your items on scales (if you are using a postal service) remove the ones that don't show or prove the weights from your list

    3/ read the website small print and check for any fees charged eg refining fees, returned item fees, non-gold item fees, If they charge a fee, or have some long-winded one-sided page of terms and conditions then don't use them and remove them from the list

    4/ Phone up your remaining choices and talk to them. tell them what you have, ask them for a quote, ask questions about their company and modus operandi . Phone each in turn and check that they do what they say they do, and pay what they say they pay

    5/ You are now ready to sell your gold To the best of your ability sort out your items into the various carats of gold or purity of silver before using your selected company . Any items you are unsure of ie as to carat of gold etc then keep separate and query separately.

    6/Go sell

    Warning About Selling Your Silver.

    Watch out for companies that

    1/ Advertise false prices

    There's a company up North for example that advertises a high minimum price per ounce they pay. Its a false price because when you look closer the actual price they pay per gram on their calculator is far less.

    2/Underweigh the customers silver/ Using Faulty Scales to underweigh items.

    Watch out for the old trick many jewellers have,

    of scurrying to a private room to weigh your items,

    without you being able to see the weight!!

    3) Charge refining fees of up to 20% that are not transparent ie are hidden inside a contract

    4) Charge an admin fee for return of non-silver items which often turn out to be silver

    5) Undervalue the purity of silver

    6) Use clever and long contracts to avoid having to pay the price they advertise.

    7) Post a very high price then when they have your items, reduce the price dramatically.

    Silver does fluctuate but we accept that most customers check the price the day before they post or come in and that is the price we pay you.. You're safe!!

    8) Pay By Bank Transfer which can take up to 3 days.

    9) Charge extra for cash or return postage.


  • Report this Comment On September 26, 2011, at 8:29 AM, XMFSinchiruna wrote:

    For the record, SLW hit a multi-year low of $2.51 on the date of this article's publication.

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