Silver Wheaton (NYSE:WPM) is the world's largest precious metal streaming company, and as its name implies, it dominates the silver market. However, a steady stream of gold acquisitions in recent years put it in the position to cash in on the rising price of gold. Because of that, investors looking for exposure to the upside to the gold market should dig what Silver Wheaton has to offer.
A steady stream of golden cash flow
Streaming companies Silver Wheaton and rivals Royal Gold (NASDAQ:RGLD) and Franco-Nevada (TSX:FNV) don't make their money by producing precious metals. Instead, these streamers pay miners an up-front fee during a mine's development to lock in low-cost supplies once it comes on line. In Silver Wheaton's case, it was able to spend a mere $401 per ounce of gold last quarter. However, it sold that gold for $1,267 per ounce, pocketing the difference of $866 per ounce. Contrast this with leading gold miner Barrick Gold (NYSE:GOLD), which had all-in sustaining costs of $782 per ounce last quarter. That higher cost is due not only to mining expenses but the fact that it is paying Royal Gold on several royalty and streaming agreements. The net result is that Barrick Gold's margins per ounce are much lower than streaming companies.
On the other hand, the low fixed costs associated with streaming mean that these companies can earn good margins when prices are low and exceptional margins when prices improve. For example, Franco-Nevada's margin last quarter was 78.9%, which was up from 75.1% in the second quarter of 2015. Meanwhile, Silver Wheaton's gold margin was as high as 81% in 2011 before drifting down to 66% last year due to the slumping price of gold. That said, its margin is poised to move much if gold continues to rise.
Locking up low-cost gold
Not only is Silver Wheaton's margin per ounce poised to increase, but its overall cash flow from gold is projected to surge. That is due in part to its decision to spend lots of money to lock up a gold production over the past several years. In fact, the company recently paid $800 million to acquire an additional amount of gold equal to 25% of the life of mine gold production from Vale's (NYSE:VALE) Salobo mine in Brazil. That is its third such transaction with Vale for this particular mine, giving Silver Wheaton 75% of Salobo's gold production.
As a result of the Vale transactions and other gold-focused deals, Silver Wheaton has locked in a growing supply of gold production, which is projected to be 45% of its production over the next five years. Its previous deals drove gold production to a record 70,200 ounces in the second quarter, putting it on pace to produce 305,000 ounces this year. Furthermore, given the growth projects its partners have in the pipeline, Silver Wheaton forecasts that its gold production will average 330,000 per year through 2020. Even better, it locked in that growing gold supply at an average price of $403 per ounce through 2020. That means it has two headwinds that could drive cash flow higher in the future: increasing gold production and an improving price of gold.
While Silver Wheaton might be known for its namesake precious metal, investors should not overlook the streaming company's growing gold production. Its decision to lock in rising production at rock-bottom costs puts it in a prime position to deliver robust shareholder returns if gold continues to go higher.