What does it take to win? Often it's the stronger competitor who prevails. Sometimes the faster person or team wins. Every now and then, though, the winner is the one who plays the game differently from others.
Two precious-metals companies, Royal Gold
Playing the game differently
Royal Gold and Silver Wheaton are both in the mining business without actually being miners. Royal Gold specializes in buying royalties and streams in gold mining operations. Silver Wheaton focuses on acquiring silver streams.
What is the difference between the two approaches? Royalties allow the buyer the right to receive a percentage of production from a mine. A metal stream gives the buyer the right to make purchases over the lifetime of the mine at pre-established prices with a smaller up-front payment.
Neither company owns any mines, yet both control substantial amounts of precious metals through their royalties and streams. Royal Gold controls gold reserves of 83.9 million ounces. Silver Wheaton owns streams that include more than 836 million ounces of proven and probable silver reserves.
There are benefits to operating virtually. Royal Gold generated $260 million in revenue in the last 12 months with a total of 21 employees. Silver Wheaton chalked up revenue over $770 million during the same period with only 25 employees.
While competitors invest large amounts of money in equipment and infrastructure, Royal Gold and Silver Wheaton keep their expenses low. Costs of mining have continued to go up recently, but the two virtual miners are largely insulated from these inflationary pressures.
Both companies boast high operating margins as a result of their lower cost structures. Royal Gold's operating margin is over 59%. Silver Wheaton's is even higher at nearly 77%.
Risks of playing
Using royalties and streams doesn't eliminate the inherent risks associated with mining precious metals, though. Both Royal Gold and Silver Wheaton take a risk every time they buy a royalty or stream for a mining operation. Mines don't always produce as predicted. If they don't generate enough silver or gold, the companies could incur losses.
The fortunes of Royal Gold and Silver Wheaton depend on high prices for silver and gold. If these metals drop significantly in price over an extended period, shareholders in the two companies feel the pain.
However, the virtual approaches used by the two companies reduce their risks compared to traditional miners. The upfront payments for royalties and streams are much less than the costs incurred by the mining companies for exploration and development. If things don't work out as planned, the traditional miners would get hit harder than Royal Gold or Silver Wheaton would.
The only way to really see who is winning is to look at the scoreboard. For investors, the ultimate scoreboard is return on investment. This return is made up of two components -- share price and dividend payments.
How has Royal Gold fared against rivals? Share prices for Royal Gold have doubled in the last three years. By comparison, large gold miner GoldCorp
Royal Gold's five-year average dividend yield is 0.80%. The company has increased dividends over the last five years by nearly 11% annually. Goldcorp also has a five-year average dividend yield of 0.80%. However, its dividend payouts grew during that five-year period by an average of over 31% per year.
Silver Wheaton shares skyrocketed 277% during the past three years. Key competitor Pan American Silver
On the dividend front, Silver Wheaton has only paid dividends since early 2011. The company's forward dividend yield stands at 1.30%. Pan American Silver began paying dividends in 2010. Its dividend yield is 0.90%.
Royal Gold and Silver Wheaton emerge as winners against these rivals. And these comparisons aren't the exceptions. Royal Gold and Silver Wheaton stock also outperformed other major rivals such as Barrick Gold, Silver Standard Resources, Thompson Creek Metals, and Vale over the past three years.
Both Royal Gold and Silver Wheaton believe that their business models give them competitive advantages. I agree.
Silver Wheaton looks to be the better pick for investors right now. It sports a forward price-to-earnings ratio around 12, which is on the low end of its five-year range. Barring a meltdown in silver prices or major mine disruptions, buying this virtual silver miner should result in some real profits down the line.
If gold puts a gleam in your eyes, you might want to check out The Motley Fool's special report titled "The Tiny Gold Stock Digging Up Massive Profits." To get your copy of this free report, just click here.