The Creeping Cost of Gold Production Is a Huge Problem for Miners

Rising capital expenditures, writedowns, and falling profits are all factors that are now affecting gold miners, pushing stock prices and valuations to lows not seen since, well in some cases, ever.

However, despite these well publicized factors, one of the bigger issues affecting the companies is the creeping price of gold production, which has been rising much faster than inflation and the price of gold over the past three years.

Indeed, the all-in sustaining cash cost of producing one troy ounce of gold for Barrick Gold (GOLD 1.64%) , Goldcorp (GG) , and Newmont Mining (NEM 0.67%) has expanded at a compounded annual rate of 14%, 2%, and 26% respectively over the past four years (that is including the estimated all-in sustaining cash production cost, or AISC for this year).

All-in sustaining cash costs

Source: Most recent 10-Q. Figures in $US

As shown in the table, at a compounded annual rate, the price of gold has fallen 3% a year for the last four years, including performance so far this year. In comparison, the price of gold production has grown at a much faster rate, rising rapidly at all three producers in the four-year period.

Unfortunately, this cost inflation is not set to slow down anytime soon.

So, what are these companies doing to offset costs?
As the world's largest gold producer by output, Barrick is leading by example. Actually, Barrick is one of the only gold miners to be reporting a falling AISC. Indeed, management reported during the fiscal third quarter earnings call that the company's AISC was down 10% year on year by around $100 per ounce, to $916 per ounce for the quarter. The company also reported a 15% decline in copper production costs.

In addition, Barrick is targeting annualized cost savings of $500 million as the company moves ahead with job cuts and a slimmer corporate structure. In particular, Barrick's management has identified that during the past few years the company's regional management structure has created too many layers and with it a complex decision-making structure. So, to solve this the company is slicing off management layers and cutting 1,800 jobs to reduce costs, improve efficiencies, and streamline production.

Meanwhile, Newmont is focusing on quality over quantity. Based on numbers reported at the end of the fiscal third quarter Newmont had reduced spending by 13% year on year and capital spending was down 36%. What's more, the company sold off its non-core interests in a Canadian oil sands venture. All in all, this helped the company cut its AISC 16%, to $993, chasing that of industry leader Barrick.

In addition to all these cost cuts, Newmont increased gold production by 4% during the quarter. Furthermore, for the first time in nearly two year years the company was free cash flow positive during the third quarter. The company generated $30 million in free cash flow, a significant milestone.

Thanks to an aggressive cost cutting program to maximize return on investment, Goldcorp's AISC dropped to $992 in the fiscal third quarter, down from $1,279 in the fiscal second quarter. Still, for the full year the company is guiding for an AISC in the range of $1,050 to $1,100.

Unfortunately, Goldcorp is facing cost pressures within Argentina, where annual inflation is running at 25% to 30%. In particular, the company's capital cost estimate for getting the mine into full production is expected to be in the range of $1.6 to $1.8 billion, up from the initial estimate of $1.35 billion.

Foolish summary
Mining for gold is no longer the cash cow it was. Rising costs and the falling price of gold are crushing profits, and these three miners are having to act drastically to remain profitable and competitive. 

Fortunately, it looks as if these mining companies are making real progress divesting non-core assets and reducing their all-in cost of production. This should help offset some of the recent declines in the price of gold.