Embed Size (px)
Citation preview
CFA Institute Research Challenge
hosted by
Local Challenge CFA Mexico Instituto Tecnológico y de Estudios Superiores de Monterrey
Mexico City Campus
2
Highlights
We initiate coverage on Industrias Peñoles with a BUY
recommendation, considering a 12-month target price of $584,
with a 19% upside from its closing price of MX$488.24 on
January 20th, 2017. Our recommendation is based on the
forecasted strength of gold and silver in the coming year, below-
average cash costs, quality of management, and expansion
projects. This is supported by our Sum-of-the-Parts (SOTP) and
relative valuation (RV).
- All that is gold glitters: We expect that the rally that began
started in 2016 for gold and silver to continue during at least
during the next 12 months with 22% and 18% respectively,
mainly due to political uncertainty and central banks hedging
against currency devaluation. Additionally, the expected return
is supported by management’s quality, rapid response to
industry threats, below-average cash costs, and expansion
projects. (See more on page 2)
- Management’s quality: In the last ten years, Peñoles’ management
has reacted rapidly to past industry threats. Its board of directors has
continuously made bold choices to adapt briskly to the market
changes; such as investing early in sustainable projects, and quickly
discarding unprofitable projects in early stages. (See more on page 5)
- Profitable expansion projects: We are optimistic about its further
production growth in Magnelec (chemicals), the most profitable division.
Furthermore, we expect “Rey de Plata” mine production to increase
widely in the next couple of years. The zinc smelter extension will lift
margins of what is currently its most profitable base metal. (See more in
page 4)
- BUY fundamentals: Intrinsic and relative valuations support our BUY
recommendation. Our SOTP, using Real Options and DCF models, gives
us a target price of MX$589. The relative multiples valuation results in a
target price of MX$573. We estimate Peñoles target price of MX$584
with a weighted average (70/30), adding more value to the intrinsic price.
(See more in page 8)
- Risks: Lower-than-expected precious metals’ prices and higher- than-
expected export tariffs are the main risks of our valuation. If these drivers
are worse than expected, the share price might not reach our target. (See
more on page 11)
Key Financials and Ratios 2014 2015 2016E 2017E 2018E 2019E 2020E
Total Revenue (*) 62,108.87$ 67,786.61$ 78,241.29$ 87,552.14$ 97,766.26$ 109,164.67$ 117,872.84$
Net Income (*) 1,079.21$ 2,579.89$ 2,872.62$ 2,777.89$ 3,569.51$ 4,066.03$ 4,656.94$
Operating Income Margin 5.37% 9.39% 8.40% 7.30% 7.99% 7.97% 8.27%
Net Income Margin 1.74% 3.81% 3.67% 3.17% 3.65% 3.72% 3.95%
LT Debt to Assets 21.17% 21.81% 21.36% 21.86% 21.32% 21.31% 21.12%
Return on Equity 2.32% 4.92% 4.70% 4.42% 4.69% 4.67% 4.59%
(*) In Millions of MXN
Key Financials
*Source Team Estimates
Academic Equity Research
Instituto Tecnológico y de Estudios Superiores de Monterrey Mexico City Campus Report published for educational purposes only, by students competing in The CFA Institute Research Challenge
Peñoles BUY: All That Is Gold Glitters Mining Industry
Date: January 20th, 2017
12- Month Target Price: MX$584
Expected Return: 19%
Recommendation Buy
Target Price $584
Closing Price $488.24
52-Week High/Low $559.04 / $156.24
Average Daily Volume 466,334 shares
Shares Outstanding 397.4 M
Market Capitalization 232,125.8 M
Expected Total Return 19.61%
Beta (3Y) 0.84
EV/Revenue 2017(E) 2.64x
EV/EBITDA 2017(E) 10.20x
EPS $16.27
Institutional Holdings 45.45%
Insider Holdings 35.36%
Market Profile
Source: Bloomberg & Capital IQ & Team Estimates
Updated January 20th, 2017
3
Investment Summary We initiate coverage with a BUY recommendation, 12-month target price of
MX$584, with a total return of 19% over the closing-price of MX$488.24 of
January 20th, 2017 due to the forecasted strength of gold and silver, below-average
cash costs, quality of management, and expansion projects. This is supported by
our SOTP (DCF and Real Options) and relative valuation. (See more in page 8)
Merits
Bullish on Gold and Silver We remain positive on both gold and silver in the medium term, as we expect
uncertainty to continue in the short and medium term (figure 2). Buying gold is
now a good hedge against emerging markets currency depreciation. Central banks
will play a big role in gold’s demand, and we expect them to increase their
holdings. We expect industrial demand for silver climb as a consequence of
technology’s integration on developing markets’ population.
Costs and Sustainability Half of Peñoles’ costs of sales are in USD, while the remaining half are in MXN.
The company’s cost structure adds a layer of protection from the volatile exchange
rate. Additionally, Peñoles’ mining division has one of the lowest cash costs in
the industry for zinc and silver. Due to the company’s commitment to
sustainability it was added to IPC Sustainable Index in 2011. Moreover, it is
making efforts to reduce costs in a sustainable manner with a wind farm in
Coahuila.
Expansion Projects Following the expansion plan established in 2014, Peñoles will open 6 more mines
increasing total reserves by 22%, lifting the total revenue (figure 3). We expect
“Rey de Plata” polymetallic mine to increase metal production in 2019 of gold by
12.5%, silver by 19%, copper by 43%, led by 14% and zinc by 18%. Centauro
Deep mine, part of the most promising gold belt in Mexico, will be opened in
2020. Furthermore, Peñoles has invested in CAPEX to strengthen Magnelec’s
position in the industry since it is the most profitable division.
Corporate Governance Peñoles has high-quality management characterized by a quick response to
industry threats. Since the end of the century, the company invested on Aeolic
energy. These early efforts in sustainability helped the company get into the IPC
Sustainable Index in 2011. Ever since, Peñoles has continued to invest in wind
farms that will ultimately benefit the company in the long term. While most of the
board of directors is independent (figure 4), they are still part of the holding group
“Grupo Bal”.
Concerns
Probable reserves Peñoles’ mining division partially relies on probable reserves, which are not
thoroughly measured. These reserves might change slightly the company’s
valuation. However unlikely, there is a potential scenario that the company will
not benefit from such reserves.
New US Administration The likelihood that US tariffs could rise in the next year could further increase the
operating costs of foreign companies. Since 73% of Peñoles’ sales are made to that
country, this could have a considerable impact on its numbers. Our model
incorporates a 6% import tariff based on the company’s and industry expectations.
Figure 2: Gold Price (in USD per try oz.)
*Alberto Bailleres is the Board Chairman of ALBACOR
4
Business Description Founded in 1887, Industrias Peñoles (Peñoles) is a Mexican mining group with
integrated operations that explores and extracts concentrated mineral, produces
and sells non-ferrous metals, and develops and sells inorganic chemicals. The
company was operated as private until its IPO in 1968. Since 2011, Peñoles
belongs to the IPC Sustainable Index. As of Q3 2016, Peñoles had 15 subsidiaries,
exports to 35 countries, and it is the main producer in Latin America of tuned gold
and silver; moreover, it is the main producer of tuned silver and metal bismuth
worldwide.
The company’s most important subsidiary is Fresnillo, PLC; in which it has a
participation of 75%. Year by year, it receives most of Peñoles’ investment in
working capital. Fresnillo is the biggest silver-producer in the world and has
traded, since 2008, in the London Stock Exchange (LSE) with the purpose of
reaching a higher market capitalization.
One of Peñoles’ competitive advantages is its below-average cash cost (see figure
5 and 5.a), which are derived from the firm’s continuous efforts to improve its
production processes. Since its revenue depends on the price of commodities,
Peñoles has implemented a way to reduce costs of production, based on producing
their own energy through wind farms. The initiative of energy self-sufficiency has
saved more than US$600 million of production costs in the last 10 years;
furthermore, it helped the company get into the IPC Sustainable Index in 2011.
Business Divisions Peñoles has two business divisions: metals, and chemicals. The metal business is
headquartered in Torreón, Coahuila, through the metallurgical “Met–Mex”; where
the company produces non–ferrous metals (gold, silver, zinc, and lead) from its
mining extracts and other third–party companies’ extracts (figure 6). On the other
hand, the chemicals business is dedicated to the production and selling of sodium
sulfate, magnesium oxide, magnesium sulfate and ammonium sulfate. The metal
business represents 95% of the company’s income, led by revenues from gold and
silver. Additionally, each division is aided by in–house exploration and
construction. The exploration subdivision is dedicated to exploring and developing
mineral deposits, while engineering and construction is responsible of designing,
and developing mining projects.
Business Model Peñoles is segmented in two business divisions. (See figure 7) The production
division, in addition to taking all concentrates of the mining division, buys third-
party mineral concentrates to make the process more efficient. This integration has
helped Peñoles to keep all the value within the company. We expect third-party
concentrate acquisitions to decrease in the coming years making Met-Mex more
profitable.
Business Strategy The company would be vastly benefited if most of its metal production came from
its mining division. The following measures are efforts being made to improve
mining production: San Julian mine: Opening of a new mine in
Chihuahua with an investment of USD$515 million and an
annual expected production of 10.3 MOz of Silver and 44 kOz
of gold and an expected start up in 2017.
Rey de Plata mine: Located in Guerrero, this new
mine is expected to produce annually 4.7MOz of silver,
40kTon of lead and 7 kTon of copper, with an investment of
USD$296 million. It is expected to start production in 2018.
Refined zinc expansion: Through an investment of
USD$327 million in their zinc refinery, Peñoles is expanding
their Refined Zinc production, using electrolysis (starting in
2017) and direct leaching (starting in 2018) methods.
Figure 7: Business Model
5
Corporate Governance
Based on the IFC rating methodology of Corporate
Governance1, Industrias Peñoles has a rating of 3.4 out of 4
(figure 8 and Appendix 1). Management is focused on
promoting and combating criminal behavior within the firm,
based on the Code of Best Practices suggested by the Business
Coordinating Council. An Ethics and Compliance Program was
created to enhance communication, risks management, and audit
control. The strengths of Peñoles corporate governance were
identified as the following:
Board of directors: Most of the members of the Board have been serving in
other companies as directors, partners, and executives for several years (see
Appendix 2), managing successfully the different economic cycles’ impacts. The
Board Chairman is Alberto Bailléres, who has been part of Peñoles since 1962,
and has positioned the firm as an industry leader.
Risks and Ethics Management: The firm created a whistleblowing line
named “Peñoles plays fair”, so the personnel can report any unethical behavior.
There is also a Code of Ethics that all the people related to the company must
follow (figure 9). In case of not following this code, the personnel can be
admonished.
Control and Processes: Industrias Peñoles created committees of Audit,
Budget/Planning, Compensation, Corporate Governance, Executive, Finance and
Nominating, to have better control. (See Appendix 3)
We support the highly-rated Corporate Governance with the rapid response to
industry threats that have occurred in the past ten years. Some examples of this
quality of management are: the stop of “Naica” mine in 2015 due to a flood,
“Soledad-Dipolos” mine suspension caused by legal problems, and the delay of
“Rey de Plata” and “San Julián” projects because of macroeconomic factors and
low-priced metals during 2015.
Although the corporate Governance is highly-rated, we identified the following
threat:
Interlocking directorate: Even though 9 of the 14 members of the Board are
independent, they also serve as directors in Grupo BAL conglomerate,
incentivizing conflict of interests.
Industry Overview and Competitive Positioning Demand drivers Precious Metals as a Back-Up Plan We expect gold and silver prices to increase as the market is more
concerned due political uncertainty, further expected QE from the
Eurozone and inflationary pressure as a consequence of a forecasted
stronger US dollar. Markets will be very sensitive to first moves in the
UK BREXIT and Donald Trump’s presidency. Trump’s plans may
favor risky investments in the short run, but the prospects of a higher
budget deficit to finance tax cuts and infrastructure projects are
positive for gold in the medium term. A large FED rate hike is not
expected. Our estimates for both metals are optimistic. (See Appendix
5.a for commodities’ forecast)
1 IFC, a member of the World Bank Group, is the largest global development institution focused exclusively on the private sector
in developing countries. (www.ifc.org) Its corporate governance methodology consists in analyzing corporate governance
structures, policies and processes applying a relevant set of tools. Each analysis is company-specific to ensure practical approach
to corporate governance.
Figure 9: Code of Ethics and Compliance
Source: Peñoles Annual Report 2015
Figure 8: Corporate Governance Rating
6
Increase in gold demand Gold demand is expected to increase as a wealth preservation strategy.
Particularly in emerging markets with strong currency devaluation. India
serves as an example, where gold savings are preferred over bank savings
(30% of the world gold and jewelry demand). According to Forbes
Magazine2, there is a good expectation on monsoon season for this coming
year increasing rural demand for gold, considering the historic demand
(figure 11). Central banks have become net gold buyers since 2009. This
is expected to continue as a diversification strategy. Amid elevated levels
of volatility, ETF demand is likely to rise.
Silver outlook is not as bright as gold but still bullish As opposed to gold, more than 50% of silver demand is industry-driven
(figure 12). The Chinese economic slowdown poses a big concern; however, we
remain bullish as silver is mainly used in mobile phones, TVs and solar panels; all
of which have increased market penetration in developing markets.
Chinese economic slowdown reduces demand growth for base metals From 2000 to 2014, Chinese industrial growth fostered base metals consumption
(figure 13); however, the Chinese government is now reshaping its economic
growth model to 2020 and 2030 implying the lowest growth rate seen since 1990.
China’s transition to a consumption-driven economy is likely to slow demand for
raw materials for the next two years. We do not expect a decrease in consumption
in the medium term, yet we do expect a decrease in new industrial projects
(consumption lag). Yuan devaluation incentivizes current-inventory consumption
rather than new purchases. An exception to our low growth expectations for base
metals, copper prices (only 3.1% of Peñoles sales) are supported by the mobility
of rural inhabitants into Chinese cities, boosting housing construction.
Sodium sulfate demand Mexico has been a developing market for sodium sulfate, thanks to the demand of
the detergent sector. This global demand is expected to increase at 2-3% per year
until 2021.
Supply drivers We expect a net gold and silver deficit for the coming year. Gold supply has
followed a predictable pattern with a 5-year average CAGR of 3.26% (figure 14),
which we expect will continue. Due to the increase in the price of gold we expect
an increase in demand for recycled gold. The latter represents 34% of total supply
and we expect mine production (66%) to flatten. For silver, we expect the deficit
which has already lasted 3 years to continue. Supply is mainly driven by mine
production as the price has not been attractive enough to encourage recycling.
For base metals, we expect a decrease in overall supply. Last year, global zinc
production decreased by 6.1% mainly due to a significant reduction in Australian
production. Zinc, the most important base metal for Peñoles, expected supply
decrease will be larger than the demand. We expect a deficit to support its price.
Competitive Positioning The mining industry’s historical stable growth has made it easier for mature
companies, such as Peñoles, to thrive in the information age. This industry has not
yet been turned upside down by technological developments. Low costs and
natural resources are important in the industry, and Peñoles has both. The
company’s reserves are promising for the next ten years and they’re investing a
large amount of capital in exploration of new mines.
2 http://www.forbes.com/sites/greatspeculations/2016/10/17/monsoon-of-demand-expected-to-drive-indian-gold-jewelry-sales-to-
four-year-high/#16b907860e81
Figure 15: Porter’s 5 forces
7
The recent political developments in the
United States will increase the competitive
rivalry (see figure 15, Appendix 4), as
companies such as Peñoles will have to pay
higher tariffs. This will cause an increase in
sales costs for the company.
In addition to mining and producing its own
precious and base metals, Peñoles engages
in third-party agreements of production and
it invests heavily on exploration compared
to its competition. Third-party agreements are not beneficial to Peñoles, since the
company has to pay its lack of mining production to make more efficient its
production division. (See more in Business Model, page 4). A detailed competitive
analysis can also be found in Appendix 4.
Financial Analysis
Overview The financial condition moving forward
highlights our previously mentioned
expectations of larger margins, larger revenue
base, and a healthy balance sheet. (See
appendix 8 for full projected financial
statements.) 2016 margins have been affected
by the USD/MXN parity, since the functional
currency of Peñoles is the USD.
Increase in price for main products. Gold and silver prices are expected to
increase; in addition, we expect the company
to expand production and have higher
margins. Thus, we also expect a larger
revenue base and net income.
Better margins for zinc production and
Magnelec. Average cash cost for zinc will
decrease after the expansion of zinc smelter
on 2Q 2017. Magnelec’s increase in
production will benefit its gross margin as a consequence of economies of scale. (See
figure 16)
Strong turnover and liquidity supported by in-house processing. Based on
our forecast we see a strong liquidity profile for the company with a cash ratio above 2.
Additionally, in the last 3 years, we have seen a commitment to maintain good liquidity
and cash holding. Although exploration projects require strong CAPEX, expansion
project opportunities within the company may use this strong cash position. Turnover
has been aided by the integration of the whole value chain within the company. In terms
of Met-Mex, this move will be considered a global benchmark.
Top quality assets and healthy balance sheet. One of the company’s best
attributes is to select only the top ore bodies in Mexico. The company has positioned
itself not only as a key producer, but also as an industry leader, with the lowest cash
cost worldwide. We expect the company to focus on above-average new projects as it
has done historically. We are positive in the funding for these new projects for the
company presents a forecasted low leveraged Debt/Assets ratio of less than 22%.
Peñoles will benefit from its healthy Balance Sheet funding new expansion projects,
either by doing a future equity issuance as a result of the recent share price appreciation
or issuing debt taking advantage of the company’s good credit rating. We expect the
latter. Moreover, we do not expect large capital structure changes in the long run.
Competitive Positioning Peñoles Hecla Frisco Zijin
Market Cap. (in Billions) 9.46$ 2.35$ 2.04$ 9.74$
Revenue * 3,001$ 597$ 677$ 10,768$
Total Number of Mines 13 4 9 17
Total Exploration Expenditure* 170.00$ 18.00$ 11.00$ 8.50$
Net Income* 40-$ 14-$ 189-$ 240$
* in millions Source: Bloomberg
Table 1: Peers comparison
2014 2015 2016E 2017E 2018E 2019E 2020E
Profitability
Gross Profit Margin 15.40% 17.19% 24.00% 25.92% 28.03% 27.88% 28.86%
Operating Income Margin 5.37% 9.39% 8.40% 7.30% 7.99% 7.97% 8.27%
Net Profit Margin 1.74% 3.81% 3.67% 3.17% 3.65% 3.72% 3.95%
EPS (team estimations) 2.72$ 6.49$ 7.23$ 6.99$ 8.98$ 10.23$ 11.72$
Return on Assets 1.13% 2.47% 2.35% 2.02% 2.36% 2.36% 2.40%
Return on Equity 1.93% 4.03% 3.80% 3.56% 3.86% 3.87% 3.85%
Liquidity
Current Ratio (x) 4.22 5.79 5.24 5.18 5.06 4.96 4.87
Cash Ratio (x) 1.66 2.01 2.42 2.44 2.47 2.49 2.52
Activity
Total Asset Turnover (x) 0.63 0.61 0.59 0.62 0.60 0.60 0.57
Fixed Asset Turnover (x) 1.15 1.04 1.05 1.19 1.09 1.02 0.95
Financial Leverage
Long-term Debt to Assets 21.17% 21.81% 21.36% 21.86% 21.32% 21.31% 21.12%
Long-term Debt to Equity 37.25% 37.77% 37.73% 39.46% 37.33% 36.92% 35.99%
Debt to Equity (x) 0.76 0.73 0.77 0.80 0.75 0.73 0.70
Financial Leverage 43.18% 42.28% 43.37% 44.59% 42.88% 42.27% 41.33%
Financial Condition
8
ROE Decomposition
We expect a consolidation of
ROE and slight improvement.
ROE will be mainly driven by an
improvement in net income
margin. The main reason for this
slight change is that we expect
retained earnings to be used to strengthen the liquidity in the medium run following
the company´s 2014 strategy to focus its expansion in current projects.
Valuation Due to the diversity of Peñoles’ revenue streams, we opted for a SOTP using
methodologies appropriately tailored for each division. In addition, we used Relative
Valuation (see figure 18). Our decision was based on the uncertainty, risks and
flexibility implied in the mining, industry, that wouldn’t be accurately reflected with
the consolidated basis used for metallurgical and chemical divisions. We valued
mining with a Real Option Valuation (ROV), and a Discounted Cash Flow (DCF) for
both metallurgical and chemical divisions. In addition to our SOTP, we prepared a
Relative Valuation (RV) (See Appendix 5 for the complete and detailed valuation)
Mining Division: Real Options Valuation
We choose to value the exploration and mining operations using ROV because it
accounts for the operational flexibility mining companies have as a response to
external factors such as metal prices, along with the consideration of the mines’
lifecycle. (See more on Appendix 6)
We run 56 Real-Options binomial models to get the intrinsic value of mining division,
considering the production of each metal per mine, based on its reference mineral,
cash costs and proven reserves lifetime (table 2 and Appendix 7).
To measure economic and industrial uncertainty, we forecasted a one-year implied
volatility vs historical volatility (see table 3) per metal. The rest of the assumptions
were:
An upside increases per metal of: gold (22.5%), silver (19%), copper (18%), zinc
(18%), and lead (15%), reflecting our best-case scenario view for gold and silver
rather than for base metals3
Historical probabilities of an increase or decrease per metal per mine changes
the price
3 This information was calculated adjusting Credit Suisse Commodities estimations
$340,730.04
Source: Team Estimates
Active MinesLifetime
(years)
Reference
Mineral
Value ($
millions)
Fresnillo (PLC)
Fresnillo 8 Silver 59,269.27$
Ciénega 10 Silver 30,910.37$
Saucito 5 Silver 67,482.48$
Herradura 9 Gold 104,361.13$
Noche Buena 3 Gold 5,425.00$
Peñoles
Sabinas 13 Silver 13,754.41$
Bismark 5 Zinc 2,211.96$
Tizapa 12 Zinc 22,123.77$
Madero 14 Zinc 8,308.99$
Velardeña 16 Copper 15,615.59$
Milpillas 8 Zinc 15,652.52$
Table 2: Mines Valuation
ROE Decompotition 2014 2015 2016E 2017E 2018E 2019E 2020E
Net Profit Margin % 1.74% 3.81% 3.67% 3.17% 3.65% 3.72% 3.95%
Asset Turnover 0.63 0.61 0.59 0.62 0.6 0.6 0.57
Equity Multiplier 1.76 1.73 1.77 1.8 1.75 1.73 1.7
ROE 1.93% 4.03% 3.80% 3.56% 3.86% 3.87% 3.85%
Figure 18: Sum-of-the-Parts Valuation
($ millions)
9
Different production levels and cash-costs adjusted per mine
Higher volatility increases the value of the mine, yet it may have a mixed effect on
the overall company performance since it improves new-project feasibility and capital
cost. For expansion projects, we used McKinsey´s three horizons (exploration,
development and mine) of growth to analyze the risk of each new project and the
probability to become a working mine (see Appendix 10). From the exploration phase,
the risk increases until it peaks in the construction phase (Coley, 2009). Risk
assessment per mine can be seen in table 4. We then valued using the same best-
practice methodology suggested by McKinsey, that is net present value using the
expected value for reserves for Horizon 1 and Horizon 2. This was estimated with the
expected value of reserves for each mine, assuming an average cash cost and
production capacity of other comparable Peñoles’ mines. We believe that there is
value in future projects, which represent a considerable part of Peñoles’ mining
division intrinsic value.
Discount Rate We used a risk-free rate composed of a Mexican 10-year-bond minus the Country
Risk Premium Methodology proposed by Damodaran. Cash flows from each mine
were forecasted until its proven reserves were finished.
MetMex’s 5-year DCF To calculate the intrinsic value of the metallurgical division, we used a DCF valuation
because of the correlation between it and the mining division. We could forecast
revenue and production considering the same adjusted estimations used in the
previous ROV. To forecast revenue for the next five years, we put drivers into the
model such as expected price of commodities, metals demand, and USD/MXN
appreciation revenue. However, our revenue’s main driver was the expected mining
production of the company. As we have stated in other sections, Peñoles’ strategy is
focused on increasing the mining production to cut costs incurred in buying third-
party mineral concentrates. We also accounted for production capacity of the
metallurgical complex.
In terms of costs, we considered for inflation (see more in Peñoles Inflation section
below), and the expected US Tariff to raw materials (6% of total revenue).
Nevertheless, the most important costs are the third-party purchases. To get the NPV,
we calculated a WACC based on a CAPM that included the country risk premium.
This division of the company is valued at MX$54,509.
Magnelec’s 5-year DCF
We used DCF to value the chemicals production division of the company, since we
can predict its cash flows based on production capacity and demand growth. The main
driver in this valuation was the demand of sodium sulfate because it is the principal
and most profitable chemical of the company. For the other three chemicals, we
considered their main industry growth forecast, such as GDP of primary sector and
materials industry. To estimate costs and expenses, we considered Peñoles’ inflation,
as well as export tariffs of 6%. To get the NPV, we used the same WACC as the one
used to value metal production.
Peñoles’ Inflation
According to Peñoles’ annual report, the inflation rate is different from the one
forecasted by Mexican Central Bank (BANXICO) since the inputs of the enterprise
are highly specialized. To calculate Peñoles’ estimated inflation rate, we took
BANXICO’s inflation forecast for the next 5 years and added an average historical
spread between BANXICO’s and Peñoles’ inflation. (See table 5)
Weighted Average Cost of Capital
Capital Asset Pricing Model was used to estimate Cost of Equity considering the risk-
free rate of a M10 Bond and the country risk premium of Mexico. Additionally, the
Cost of Debt is a weighted average yield to maturity of all debt issued by Peñoles. We
used a tax rate imposed by the Mexican government to the industry as can be seen on
table 6.
Metal Implied volatility
Gold 20.01%
Silver 17.15%
Copper 15.26%
Lead 15.26%
Zinc 14.00%
Table 3: Implied volatility per Metal
Mines Phase
Technical
Risk
Corporate
riskRacaycocha Exploration High Low
Humos Discorvery High Low
Centauro Deep Construction Low High
Juancipio Construction Low High
Orisyvo Feasibility Medium High
Rey de Plata Construction Low High
San Julian Ramp- up Low High
Table 4: Risk assessment per Mine
BANXICO
Inflation
Peñoles
Inflation
2017 4.30% 6.23%
2018 4.30% 6.23%
2019 4.00% 5.93%
2020 3.50% 5.43%
2021 3.00% 4.93%
Table 5: Peñoles Inflation
Table 6: WACC Analysis
10
Terminal Value
We considered the estimated Mexican GDP of the primary sector (2.5%) as a terminal
growth rate, deducted from the current WACC, which was accounted in the 5-year
DCF model. This value was considered for metallurgical and chemical divisions. For
mining, we ran the real options model until the proven reserves were depleted.
Sum-Of-The-Parts Valuation
To calculate the intrinsic value of the company, we added up the Real Option
valuation of the mining division, plus both DCFs from the metals and chemicals
divisions. We obtained an adjusted firm’s value of MX$340,730.05 (to see more about
the adjustments, go to appendix 5), subtracted debt value to arrive at an equity value
of $234,606.64 which was subsequently divided by the shares outstanding, achieving
a twelve-month target price of MX$584. (See table 7)
Relative Valuation
For the relative valuation, we choose peers focused in mines that have the same
metals’ production as Peñoles. The sample is composed of 5 comparable companies.
We use the forward P/E, and forward EV/EBITDA for 2017 to compare Peñoles with
the industry because of the relevance of these multiples in the mining sector, as well
as the comparability of EBITDA as a cash flow figure.
As we can see in the results, Peñoles is located in the lower half of the estimated
EV/EBITDA for 2017. This means that the current stock price could be undervalued
compared to its peers. In the Estimated P/E for 2017, Peñoles is located above
average, meaning that investors expect a higher earnings growth of this company than
from its peers. This valuation results on an intrinsic value of MX$558, with an upside
of 14% above the current share price, supporting our BUY recommendation, as well
as our target price of MX$584.
Monte Carlo Simulation (see more in Appendix 9)
We ran two different Monte Carlo simulations in our valuation process. One for the
target price, and another for our recommendation. Both simulations have 10,000
iterations. In our target price simulation, the inputs are: gold and silver demands and
prices, and USD/MXN exchange rate.
The recommendation simulation uses as input the spot share price plus a 7.9% rate
(the rate of a M-10-bond), and a 5% spread that we assume will be the expected return
an investor should ask for considering the risk.
Our target price simulation tells us that our target price will be between $560
and $607 with a 70% certainty. Thus, supporting our BUY recommendation. On
the other hand, our buy recommendation simulation has a larger standard
deviation since an important input is the return, which has a larger standard
deviation. Albeit, the model supports our BUY recommendation with an 82.3%
certainty.
Price Target and Range
The MX$584 target price is derived using our ROV, and our 5-year DCF with a Monte
Carlo simulation. All our models are designed to account for historical information,
market conditions, recent political developments, and other macroeconomic factors.
Our MX$584 target price concludes in a BUY recommendation with a 19% return.
($ millions)
Division Value
Mining $276,527.32
Metallurgical $54,509
Chemicals $9,693.73
Total $340,730.05
Less: Total Debt $14,532.76
Less: Adjustments $91,590.65
Equity Value $234,606.64
Shares Outstanding (M) 397.475747
Intrinsic Value per
Share $589.00
Sum of the Parts
Table 7: Sum-of-the-Parts
Figure 20: Monte Carlo – Buy Recommendation Figure 21: Monte Carlo – Target Price
Figure 19: Relative Comparison
11
Investment Risks
Economic Risks Downgrade in Mexico’s credit rating (ER1) (Moderate) Mexico’s current economic situation is uncertain due to its high currency inflation,
political troubles, and large debt. It is highly likely that the main rating companies
will look to downgrade the country’s credit rating to BBB from its current BBB+
rating. (S&P) Political Risks
Rise in US Tariffs (PR 1) (High) The new Trump administration will most likely rise US Tariffs that will increase
the operating costs of foreign companies. At of the time of this writing (early
January), there is no official rate for tariffs applied to raw materials. We estimate
and performed our valuation considering 6%, the same tariff as before NAFTA
agreement. Peñoles expects a tax rate between 4% to 10% for imports, which
represent 72.8% of the total revenue. (See figure 20)
Dependence on Government Concessions (PR 2) (Low)
The mining division of Peñoles depends heavily on government concessions for
rights to explore and exploit national resources. These concessions are renewed
every fifty years. However improbable, there is a small chance that the government
adds special regulation that might affect Peñoles.
Market risks Raise in interest rates (MR 1) (Moderate) The probability of an increase in the interest rate by the FED in the short term, is
a year, is 92.8% according to Bloomberg data. This increase can be up to 50 basis
points in two parts, 25 basis points each and has a strong impact because the
United States is the main market. If the rates increase more than 50 basis points,
our target price would decrease due to the high negative correlation between the
rates and the price of gold and silver.
Decrease in gold and silver demand: (MR 2) (Moderate) The average price of gold and silver in the last 8 years is $ 1,311.83 and $ 22.02
per ounce, currently both are below. A decrease in the demand of the same would
have an adverse impact in the international price of these commodities.
Regulatory risks Change in regulations (RR 1) (Low) The company has always complied with the regulations imposed by the Mexican
government; however, a change in the tax rate to one that exceeds the current 30%
could have a very strong impact on the net margin.
Operational risks Downgrade of credit rating (BBB): (OR 1) (Moderate) Even though Peñoles got an upgrade in its third quarter last year, they could be
impacted by the rise in their interest payments because of the country risk
premium. Seizure of mine operations: (OR 2) (Low) Historically, Peñoles has had to close just one mine because of union strikes in the
last ten years. Albeit, we do not discard a possible strike in the future.
Other risks Lack of independent members in board of directors: (OTR 1) (Low) Five of the fourteen Peñoles’ board members are executives of the company. Of
the remaining nine, seven are in some way related to the holding group (Grupo
Bal). The company claims that the majority of its board is formed of independent
members; however, only two of them are not related in any way to the main
holding group. This could contribute to future conflicts of interest.
Table 8: Risk Mitigation
Figure 22: Revenue by Geographic
Segment
12
Appendix
Appendix 1. Corporate governance To analyze Industrias Peñoles Corporate Governance, the International Finance Corporation (IFC) rating methodology of
Corporate Governance (CG) for Listed Companies was utilized. The score is as follows:
Attributes
A. Commitment to Corporate Governance. 4
Industrias Peñoles Corporate Governance is attached to the Code of Best Corporate Practices, issued by the Business Coordinating
Council (Consejo Coordinador Empresarial). Management of Ethics and Compliance is the division in charge of monitoring the
implementation of the Ethics and Compliance Program, based on the Anti-Money Laundering Act in Mexico (LFPIORPI for its
Spanish acronym); it reports directly to the Compliance Officer. There is also a code of ethics that all the personnel of Peñoles must
follow, and the Corporate Ethics and Values committee oversees it, as well as the “Peñoles plays fair” confidential and anonymous
whistleblowing line. There is also a Corporate Governance Committee that reviews the performance of the board every year.
B. Structure and Functioning of Board of Directors. 4
The Board of Directors has had a good performance since its creation in 1967. During the 2015 fiscal year, the Board met four times
with a high quorum of attendance: 100% of the Board Members were present at two sessions, 93% at one and 88% at the remaining
session. There are 14 Property Board Members and 13 alternates. The Board is integrated by 4 independent members (representing
more the 25% of the board), 1 patrimonial and 9 related (they serve in the other Grupo BAL firms).
Industrias Peñoles has also committees of Audit, Budget/Planning, Compensation, Corporate Governance, Executive, Finance and
Nominating. There is also a Board Secretary, who oversees the organization and functioning of the Board.
C. Control Environment and Processes. 4 All the committees mentioned in the previous question are responsible for the firm’s intern control, complying the best practices
number 23 to 35 of the Code suggested by the Business Coordinating Council. In 2015, the Peñoles also implemented the Enterprise
Risk Management, responsible of with the objectives of developing a culture of internal control and prevention across the
Organization, and establishing functional communication channels.
D. Transparency and Disclosure. 4
All the financial statements of the company are audited internal and external. The partner responsible of the Financial Statements is
changed at least every 5 years. The Financial Committee works with the Board of Directors in the decision making. In terms of
information, the quarterly reports are elaborated with the same policies and criteria of the annual ones (Best Practice #32).
E. Treatment of Minority Shareholders. 1
The Board Secretary is responsible of the Board meetings. He sends the information to the Board of Directors 5 days before the
meetings, so they can plan their decisions. The company presents information to the minority shareholders quarterly, and it pays
dividends every year. The Minority shareholders cannot nominate members of the Board. There is no enough information about
minority shareholders.
Score 3.4
Appendix 2. Board of Directors & Professionals
Professionals
Name Title Background
Alanís Ortega,
Sergio Fernando
Chief Executive Officer Mr. Sergio Fernando Alanís Ortega serves as the Chief Executive Officer
at Industrias Penoles S.A.B. DE CV. Mr. Fernando Alanís Ortega served
as an Executive Vice President of Metals and Mining division of
Industrias Penoles S.A.B. de CV. Mr. Fernando Alanís Ortega joined
Penoles in 1997. He holds a BS degree in Industrial Chemical
Engineering from the Universidad Iberoamericana.
Alarcón Ruiz,
Leopoldo
Chief Financial Officer and
Vice President of Finance
Mr. Leopoldo Alarcón Ruiz serves as the Chief Financial Officer and
Vice President of Finance at Industrias Penoles S.A.B. DE CV. Mr.
Alarcón Ruiz served as Assistant Vice President of Financial Resources
and Assistant Vice President of Marketing & Sales for Metals of
Industrias Penoles S.A. de C.V.-
13
Arreola Coronel,
Martín
Vice President of
Administrative Services
Mr. Martín Arreola Coronel serves as Vice President of Administrative
Services of Industrias Penoles S.A.B. DE CV and served as its
Comptroller.-
Rodríguez Molleda,
Sergio
Vice President of Law and
Secretary
Mr. Sergio Rodríguez Molleda serves as Vice President of Law and
Secretary of Industrias Penoles S.A.B. DE CV.-
Sánchez
Marroquín,
Augusto
Vice President of Human
Resources
Mr. Augusto Sánchez Marroquín serves as Vice President of Human
Resources at Industrias Penoles S.A.B. DE CV and served as its
Assistant Vice President of Corporate Human Resources and Assistant
Vice President of Human Resources and Community Relations, Metals
& Inorganic Chemicals.-
Delfín Hierro,
Ignacio
Assistant Vice President of
Treasury & Financing -
Finance
Mr. Ignacio Delfín Hierro serves as an Assistant Vice President of
Treasury & Financing - Finance at Industrias Penoles S.A.B. DE CV.-
Board Members
Executive Title Role
González, Alberto Baillères Chairman External
Baillères G., Juan Pablo Director External
Baillères Gual, Alejandro Director External
Baillères Gual, Raúl Director External
Beckmann Vidal, Juan Francisco Independent Director External
Bordes Aznar, Juan Director External
Fernández C., José A. Independent Director External
Fernández Pérez, Arturo Director External
Figueroa G., José Octavio Director External
Lomelín Guillén, Jaime Director External
Lozano Molina, Tomás Independent Director External
Raczynski Von O., Andreas Director External
Senderos , Fernando Mestre Independent Director External
Silva, Eduardo P. Director External
Obregón del Corral, Raúl Member of Audit & Corporate
Governance Committee
External
Vega V., Ernesto Member of Audit & Corporate
Governance Committee
External
14
Appendix 3. Committee Structure
Audit Committee
Name Title
Lozano Molina, Tomás Independent Director
Obregón del Corral, Raúl Member of Audit & Corporate
Governance Committee
Vega V., Ernesto Member of Audit & Corporate
Governance Committee
Budget/Planning Committee
Name Title
Baillères Gual, Alejandro Director
Bordes Aznar, Juan Director
Fernández Pérez, Arturo Director
Figueroa G., José Octavio Director
González, Alberto B. Chairman
Lomelín Guillén, Jaime Director
Raczynski Von O.,
Andreas
Director
Silva, Eduardo P. Director
Compensation Committee
Name Title
Bordes Aznar, Juan Director
Fernández Pérez, Arturo Director
González, Alberto B. Chairman
Corporate Governance Committee
Name Title
Lozano Molina, Tomás Independent Director
Obregón del Corral, Raúl
Member of Audit &
Corporate Governance
Committe
Vega V. Ernesto
Member of Audit &
Corporate Governance
Committe
Executive Committe
Name Title
Bailléres Gaul, Alejandro Director
Bordes Aznar, Juan Director
Fernández Pérez, Arturo Director
Figueroa G., José Octavio Director
González, Alberto B. Chairman
Lomelín Guillén, Jaime Director
Raczynski Von O., Andreas Director
Silva, Eduardo P Director
Finance Committe
Name Title
Bailléres Gaul, Alejandro Director
Bordes Aznar, Juan Director
Fernández Pérez, Arturo Director
Figueroa G., José Octavio Director
González, Alberto B. Chairman
Lomelín Guillén, Jaime Director
Raczynski Von O., Andreas Director
Silva, Eduardo P. Director
Nominating Committe
Name Title
Bordes Aznar, Juan Director
Fernández Pérez, Arturo Director
González, Alberto B. Chairman
15
Appendix 4: Competitor Comparison
As of December 31, 2016. All information is in USD.
Source: Capital IQ
Peñoles and their three major competitors, Hecla Mining (Hecla), Minera Frisco (Frisco), and Zijin Mining Group (Zijin), operate
similarly. Each shaded box represents a service or product that the company offers. The information was acquired from each
respective company’s annual report.
Source: Capital IQ
Appendix 4: Porter’s Five Forces Analysis
Bargaining Power of Customers – LOW: Since most of Peñoles’ products are commodities, its customers do not possess
considerable bargaining power. Moving forward, we see no change in this aspect.
Intensity of Competitive Rivalry – MODERATE: Most of Peñoles’ customers are US-based companies. The recent political
developments in that country will increase the intensity of competitive rivalry.
Bargaining Power of Suppliers – LOW: Peñoles’ mining division does not depend on key suppliers. And since its production
division key supplier is Peñoles itself, we see a low bargaining power of suppliers.
Threat of Substitutes – LOW: There are no substitutes for precious metals. Peñoles, being the biggest producer of silver and one
of the biggest of gold, should have no threats in this aspect. However, we see that threat of substitutes from competitors will rise
in base metals, led by copper.
Barriers to Entry – INSIGNIFICANT: Historically, this industry requires a considerable amount of capital to start a company
in it. This makes it very hard for new companies to thrive in mining.
Legend
0 No threat to Peñoles 1 Insignificant threat to Peñoles 2 Low threat to Peñoles 3 Moderate threat to Peñoles 4 Significant threat to Peñoles 5 High threat to Peñoles
16
Appendix 5: Valuation Process
As shown on the following diagram, the valuation process started by finding the best valuation method for each business division.
1) For mining (in blue), we chose 2) Real Options Valuation because it accounts for uncertainty, risks, and flexibility that are
inherent in managing risky assets such as metals; moreover, it considers all aspects of a project’s life cycle4. 2.a/3) This model was
based on 56-binomial trees where we forecasted the 4/5) price of metals (gold, silver, copper, zinc and lead), as well as the production
per mine according to its 6) cash cost (cost of extraction) and proven reserves5. We valued each of the 11 active mines, estimating
its 7) potential production per metal for the next 10 years, focusing on its reference mineral. 8) In the case of new mines, we
considered the opening year, and projected the future production. To determine the cash flows, we multiplied the potential
production per metal by its previous forecasted price. 9) They were brought to present value using the risk-free rate minus the
country risk premium (suggested by Damodaran) as a discount factor. 10) The Total Value for each mine was the sum of the metals’
Net Present Value, while the result of the mining sector was the sum of the 16 mines, resulting on a valuation of MX$276,527.32.
The metallurgical division 11) (MetMex) (in red) was valued with a 12) DCF since its revenue and production can be
forecasted with the same information we used for the Real Options Valuation, as well as other factors like inflation. In terms of
revenue, the main drivers were: 13) price of commodities, 14) metal’s demand (based on adjusted industry information), and 15)
USDMXN appreciation revenue. The last one was considered because the enterprise reports an increase in revenue every time the
USDMXN parity appreciates. For 16) production, we took into account the current 17) Peñoles’ mining sector output. The difference
between the latter and 18) the forecasted demand was allocated to third parties. We also included 19) Peñoles Inflation forecast and
20) new export costs to US, due to Trump’s new administration. To calculate the NPV, we estimated a 21) WACC based on a
CAPM that included country risk premium, 22) issuing a valuation of MX$54,509 for this sector.
A DCF was also used to value the 23) chemicals division (Magnelec) (in green) due to the predictability of its 24) cash
flows, based on a demand growth rate and production capacity. 25) We estimated the future demand of all the four chemicals it
produces. The most important one is Sodium Sulfate, used mainly on powder detergents, which expects an industry increase of 2.3%
per year until 2021; however, Magnelec’s main customers (P&G, Henkel and La Foca) are planning to decrease its production by
10% annually beginning in 2018. In terms of Magnesium Oxide (used for construction tools), we expect an average industry growth
of 6% per year, while for Ammonium Oxide and Magnesium sulfate, we used the primary sector forecasted GDP, since these
materials used as fertilizers. 26) For production, we considered the current capacity, 27) expansion plans, as well as Peñoles
Inflation forecast and export costs previously mentioned. The discount factor was the same of Met-Mex, 28) resulting on a NPV of
MX$9,693.73.
Summing up the three valuations, we achieved a Firm Value of MX$340, 730.05, which was adjusted with depreciation,
CAPEX, change in working capital and total debt to get an Enterprise Value of MX$234,234.27 that was divided by the shares
outstanding, achieving a 12-month target price of MX$589.
4https://www.researchgate.net/profile/Margaret_Slade/publication/298847852_Valuing_managerial_flexibility_An_application_of
_real-option_theory_to_mining_investments/links/571276bd08ae4ef745261628.pdf 5 Peñoles 2015 Annual Report
17
2017 2018 2019 2020 2021 2022 2023 2024 2025 2026
Gold (g) 47.29$ 50.19$ 53.27$ 56.54$ 60.01$ 63.70$ 67.61$ 71.76$ 76.17$ 80.84$
Silver (g) 0.62$ 0.65$ 0.68$ 0.72$ 0.75$ 0.79$ 0.83$ 0.87$ 0.92$ 0.96$
Copper (TON) 5,675.00$ 5,373.66$ 5,088.32$ 4,818.13$ 4,562.28$ 4,320.03$ 4,090.63$ 3,873.42$ 3,667.74$ 3,472.99$
Lead (TON) 2,193.72$ 2,215.66$ 2,237.81$ 2,260.19$ 2,282.79$ 2,305.62$ 2,328.68$ 2,351.96$ 2,375.48$ 2,399.24$
Zinc (TON) 2,431.64$ 2,302.52$ 2,180.26$ 2,064.48$ 1,954.86$ 1,851.06$ 1,752.77$ 1,659.69$ 1,571.56$ 1,488.11$
Source: Team estimates
Future price of Commodities* US dollars
Appendix 5.a: Price of Commodities
Forecast
$234,606.64
18
Appendix 6: Real Options Valuation Example Mine: Fresnillo
Metal: Gold
Price of Gold per Gram in USD
Proved Reserves 12.22 TON
Current production 1.39 TON
Current Peñoles cost
of extraction
19.89$
2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026
1.39 1.53 1.68 1.85 2.04 2.24 2.47 - - -
1.39 1.53 1.68 1.85 2.04 2.24 2.47 - -
1.39 1.53 1.68 1.85 2.04 2.24 2.47 -
1.39 1.53 1.68 1.85 2.04 2.24 2.47
1.39 1.53 1.68 1.85 2.04 2.24 2.47
1.39 1.53 1.68 1.85 2.04 2.24
1.25 1.38 1.52 1.67 1.83
1.13 1.24 1.36 1.50
1.01 1.12 1.23
0.91 1.00
Total production (TON) 0.82
1.39 1.48 1.56 1.66 1.76 1.86 1.97 2.01 1.92 1.68 1.35
Revenue (millions) 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026
19.89 20.88 21.92 23.02 24.17 25.38 26.65 27.98 29.38 30.85 32.39
51.58$ 75.66$ 109.06$ 155.17$ 218.58$ 305.49$ -$ -$ -$ -$
22.92$ 36.21$ 54.95$ 81.15$ 117.56$ 167.89$ 237.19$ -$ -$ -$
13.61$ 23.67$ 38.04$ 58.37$ 86.87$ 126.53$ 181.45$ -$ -$
4.63$ 13.43$ 26.01$ 41.82$ 64.16$ 95.49$ 139.11$ -$
(1.57)$ 5.08$ 14.75$ 28.58$ 48.09$ 72.99$ 107.81$
(6.63)$ (1.74)$ 5.57$ 18.05$ 33.44$ 55.09$
- (9.68)$ (6.57)$ (1.73)$ 5.50$ 16.02$
-$ -$ -$ (6.51)$ (1.73)$
- - - -
- - -
- -
- -
# of Periods 1 2 3 4 5 6 7 8 9 10
34.33$ 40.12$ 46.80$ 54.41$ 63.33$ 73.96$ 86.10$ 88.52$ 77.87$ 59.06$ 39.81$
1,573.71$ 38.03$ 42.05$ 1,152.11$ 51.12$ 56.59$ 62.44$ 60.85$ 50.74$ 36.48$ 23.30$
Fresnillo Mine
2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026
44.55$ 54.57$ 66.85$ 81.90$ 100.32$ 122.89$ 150.55$ 184.42$ 225.91$ 276.74$ 339.01$
36.35$ 44.53$ 54.55$ 66.83$ 81.86$ 100.28$ 122.85$ 150.49$ 184.34$ 225.82$
29.66$ 36.34$ 44.51$ 54.53$ 66.80$ 81.83$ 100.24$ 122.80$ 150.43$
24.21$ 29.65$ 36.32$ 44.50$ 54.51$ 66.77$ 81.80$ 100.20$
19.75$ 24.20$ 29.64$ 36.31$ 44.48$ 54.49$ 66.75$
16.12$ 19.74$ 24.19$ 29.63$ 36.30$ 44.46$
13.15$ 16.11$ 19.74$ 24.18$ 29.62$
10.73$ 13.15$ 16.10$ 19.73$
8.76$ 10.73$ 13.14$
7.15$ 8.75$
5.83$
Probability
2017 2018 2019 2020 2021 2022 2023 2024 2025 2026
100.0% 60.0% 36.0% 21.6% 13.0% 7.8% 4.7% 2.8% 1.7% 1.0% 0.6%
40.0% 48.0% 43.2% 34.6% 25.9% 18.7% 13.1% 9.0% 6.0% 4.0%
16.0% 28.8% 34.6% 34.6% 31.1% 26.1% 20.9% 16.1% 12.1%
6.4% 15.4% 23.0% 27.6% 29.0% 27.9% 25.1% 21.5%
2.6% 7.7% 13.8% 19.4% 23.2% 25.1% 25.1%
1.0% 3.7% 7.7% 12.4% 16.7% 20.1%
0.4% 1.7% 4.1% 7.4% 11.1%
0.2% 0.8% 2.1% 4.2%
0.1% 0.4% 1.1%
0.0% 0.2%
0.0%
Price of Gold Forecast 47.29$ 50.19$ 53.27$ 56.54$ 60.01$ 63.70$ 67.61$ 71.76$ 76.17$ 80.84$
Net Present Value Net Present Value Gold Production Fresnillo Mine
19
Appendix 7: Reserves and Production per Mine
Fresnillo (PLC) Gold (g) Silver (g) Lead (Ton) Zinc (Ton) Copper (ton)
Fresnillo 1,391,794.06 535,533,432.93 31,631.68 63,805.62 -
Ciénega 1,884,373.47 161,707,160.37 5,683.03 9,671.12 -
Saucito 3,070,063.50 549,330,847.86 26,139.40 51,401.63 -
Herradura 13,553,686.94 - - - -
Noche Buena 7,307,971.02 - - - -
- - - - -
Peñoles - - - - -
Sabinas - 120,520,694.60 12,818.73 20,953.69 4,807.02
Bismark - 26,894,799.36 4,824.88 41,789.66 2,957.18
Tizapa 797,434.58 105,230,180.26 6,058.72 25,393.17 1,336.48
Madero - 44,255,730.00 15,314.96 47,296.20 1,576.54
Velardeña 364,257.00 46,948,680.00 7,689.87 78,112.89 4,249.67
Milpillas - - - - 29,404.23
Total 28,369,580.57 1,590,421,525.38 110,161.27 338,423.99 44,331.12
Fresnillo (PLC) Gold (g) Silver (g) Lead (Ton) Zinc (Ton) Copper (ton)
Fresnillo 12,224,520.00 4,703,741,280.00 277,830.00 560,422.80 -
Ciénega 18,810,225.00 1,614,195,975.00 56,729.25 96,539.25 -
Saucito 17,040,187.50 3,049,025,092.50 145,085.03 285,301.43 -
Herradura 125,239,095.00 - - - -
Noche Buena 23,735,880.00 - - - -
- - - -
Peñoles - - - -
Sabinas - 1,558,026,520.00 165,713.60 270,878.00 62,142.60
Bismark - 139,691,520.00 25,060.40 217,055.40 15,359.60
Tizapa 8,978,371.50 1,184,793,928.50 68,215.56 285,903.45 15,047.55
Madero - 718,679,100.00 248,703.20 768,054.00 25,601.80
Velardeña 5,641,200.00 727,088,000.00 119,092.00 1,209,724.00 65,814.00
Milpillas - - - - 235,786.00
Total 211,669,479.00 13,695,241,416.00 1,106,429.04 3,693,878.33 419,751.55
Production
Proven Reserves
20
Appendix 8: Historical and Forecast Financial Statements
For the Fiscal Period Ending 12 months
Dec-31-2014
12 months
Dec-31-2015
12 months
Dec-31-2016E
12 months
Dec-31-2017E
12 months
Dec-31-2018E
12 months
Dec-31-2019E
12 months
Dec-31-2020E
12 months
Dec-31-2021E
Currency MXN MXN MXN MXN MXN MXN MXN MXN
Total Revenue 61,555.61 64,896.49 76,214.00
Metallurgical METMEX 55,017.31 60,121.98 69,629.11 78,565.57 88,035.30 98,649.40 106,585.90 110,997.59
Chemicals MAGNELEC 7,091.56 7,664.63 8,612.18 8,986.57 9,730.96 10,515.27 11,286.95 12,076.42
Total 62,108.87 67,786.61 78,241.29 87,552.14 97,766.26 109,164.67 117,872.84 123,074.01
Cost Of Goods Sold 45,483.80 51,536.00 54,664.64
Metallurgical METMEX 50,533.15 53,997.11 62,666.20 61,600.16 66,838.11 74,929.22 79,805.24 84,861.46
Chemicals MAGNELEC 2,012.01 2,136.37 2,421.96 3,257.40 3,524.90 3,794.91 4,049.42 4,308.30
Total 52,545.16 56,133.47 65,088.16 64,857.57 70,363.01 78,724.13 83,854.65 89,169.77
Razon Revenue/Costo 1.18 1.21 1.20 1.35 1.39 1.39 1.41 1.38
Gross Profit 16,071.81 13,360.49 21,532.00
Metallurgical METMEX 4,484.16 6,124.87 9,870.95 16,965.41 21,197.19 23,720.18 26,780.66 26,136.13
Chemicals MAGNELEC 5,079.55 5,528.26 8,909.44 5,729.17 6,206.06 6,720.36 7,237.53 7,768.11
Total 9,563.71 11,653.13 18,780.40 22,694.58 27,403.25 30,440.54 34,018.19 33,904.24
Other Operating Exp., Total 9,193.05 8,599.51 8,618.49
Metallurgical METMEX 4,312.80 2,224.77 4,486.36 11,662.90 14,572.05 16,306.48 18,410.42 17,967.34
Chemicals MAGNELEC 1,913.58 3,063.46 5,506.47 4,636.41 5,022.34 5,438.54 5,857.07 6,286.45
Total 6,226.38 5,288.23 9,992.83 16,299.31 19,594.39 21,745.03 24,267.49 24,253.79
Operating Income 6,878.76 4,760.97 6,573.14
Metallurgical METMEX 171.36 3,900.10 5,384.59 5,302.50 6,625.14 7,413.69 8,370.24 8,168.80
Chemicals MAGNELEC 3,165.97 2,464.80 3,402.98 1,092.76 1,183.72 1,281.82 1,380.46 1,481.66
Total 3,337.32 6,364.90 6,573.14 6,395.27 7,808.86 8,695.51 9,750.70 9,650.46
Interest Expense (977.50) (1,015.30) (939.10) (939.10) (939.10) (939.10) (939.10) (939.10)
Interest and Invest. Income 272.44 136.35 213.02 221.73 221.73 221.73 221.73 221.73
Net Interest Exp. (705.10) (879.00) (717.37) (717.37) (717.37) (717.37) (717.37) (717.37)
Income Tax Expense 578.15 1,382.08 1,538.90 1,488.16 1,912.24 2,178.23 2,494.79 2,464.71
Minority Int. in Earnings (269.80) (644.97) (718.16) (694.47) (892.38) (1,016.51) (1,164.23) (1,150.20)
Net Income 1,079.21 2,579.89 2,872.62 2,777.89 3,569.51 4,066.03 4,656.94 4,600.80
Income Statement
21
Appendix 9: Financial Condition
Balance Sheet
Balance Sheet as of: dic-31-2014 dic-31-2015 dic-30-2016 dic-31-2017 dic-31-2018 sep-30-2019 dic-31-2020
Currency MXN MXN MXN MXN MXN MXN MXN
ASSETS -0.209099439 -0.102775567 0.709128144 0.132417712
Total Cash & ST Investments 15,596.70 13,993.74 23,917.10 27,084.15 30,670.57 34,731.90 39,331.01
Total Receivables 9,538.38 8,170.51 8,088.42 8,816.38 8,489.29 8,174.34 7,871.07
Inventory 13,173.16 16,016.88 18,938.90 21,590.35 23,749.38 26,124.32 28,736.75
Total Current Assets 39,586.67 40,256.39 51,892.56 57,490.87 62,909.24 69,030.56 75,938.84
Gross Property, Plant & Equipment 86,981.26 112,350.12 127,310.12 143,225.52 160,133.72 178,041.52 196,949.32
Accumulated Depreciation (33,192.40) (47,031.60) (57,266.88) (69,531.34) (83,951.54) (100,654.93) (117,358.33)
Net Property, Plant & Equipment 53,788.91 65,318.52 74,726.15 73,694.18 89,609.58 106,517.78 124,425.58
Other Long-Term Assets 5,077.07 5,284.43 6,913.75 9,740.62 9,552.38 6,357.84 5,616.11
Total Assets 98,452.65 110,859.34 133,532.46 140,925.67 162,071.20 181,906.18 205,980.53
LIABILITIES 0.39 (0.26) 0.42 0.12
Total Current Liabilities 9,371.05 6,950.80 9,900.68 11,092.72 12,428.29 13,924.67 15,601.21
0.03 0.16 0.18 0.12
Long-Term Debt 20,839.27 24,173.37 28,526.45 30,808.57 34,561.35 38,771.26 43,493.98
Pension & Other Post-Retire. Benefits 1,215.48 1,598.67 1,624.20 1,650.13 1,676.47 1,703.23 1,730.43
Def. Tax Liability, Non-Curr. 6,098.27 8,094.15 12,130.77 12,979.92 13,888.52 14,860.71 15,900.96
Other Non-Current Liabilities 4,985.87 6,049.07 5,735.98 6,309.57 6,940.53 7,634.58 8,398.04
Total Liabilities 42,509.93 46,866.06 57,918.07 62,840.91 69,495.16 76,894.46 85,124.62
(0.42) (0.47) (0.37) (0.42)
EQUITY
Common Stock 2,191.21 2,191.21 2,191.21 2,191.21 2,191.21 2,191.21 2,191.21
Retained Earnings 39,365.03 37,915.20 40,256.82 41,067.34 41,894.19 42,737.68 43,598.15
Treasury Stock (30.50) (30.50) (30.50) (30.50) (30.50) (30.50) (30.50)
Comprehensive Inc. and Other 4,895.41 12,333.23 18,637.35 19,569.21 31,989.13 42,235.49 55,763.83
Total Common Equity 46,421.15 52,409.14 61,054.88 62,797.27 76,044.03 87,133.88 101,522.69
5.34 1.52 0.51 1.32
Minority Interest 9,521.57 11,584.14 14,559.52 15,287.50 16,532.01 17,877.84 19,333.23
(0.29) 0.22 0.26 0.08
Total Equity 55,942.72 63,993.28 75,614.40 78,084.76 92,576.04 105,011.72 120,855.92
Total Liabilities And Equity 98,452.65 110,859.34 133,532.46 140,925.67 162,071.20 181,906.18 205,980.53
Estimations
22
Appendix 9: Monte Carlo Simulation
The Monte Carlo simulation supports the valuations of both target price and buy recommendation, and includes different variables
such as demand for gold and silver, and the international prices of the same commodities. The other variable considered is the
exchange rate because the company has a significant benefit from the depreciation of the Mexican peso against the US dollar. The
variable of the supply of both commodities is not taken into account since the correlation within the model was not as significant as
we expected.
Although the company extracts other metals besides gold and silver such as zinc, copper, concentrates, etc.; The first two represent
sixty-nine percent of PE&OLES revenues and the impact that the demand and the price of others may have, are not so significant
and related to the exchange rate because they are sold mainly in the local market.
The simulation was applied to the valuation model with a ten thousand iterations with a confidence interval of ninety percent. The
distributions of the explicative variables were made based on the estimates that we use for the whole model. Similarly, the mean
was taken from the data of the last five years.
23
Appendix 10: Expansion Projects Valuation
McKinsey’ Three horizons
On its research, McKinsey argues the existence of three horizons that mining companies face to operate. A mine needs to be
discoverable and developable. If these attributes are not present, a company may force the construction of the mine, having an
unprofitable outcome. There are several negative outcomes that a company should detect and prevent. These are: investing money
in an unrealizable mining project, and having a big CAPEX may be required to make it operative. According to McKinsey’s
estimation, only the 2.5% of the projects are profitable.
Once this assessment is done, the company decides to invest in the mine they phase 3 horizons of the project, the exploration,
development and mining. We did an assessment of the phase of the mines where the company was already incurring in CAPEX
and adjust for the probability of the probable reserves to become in proven reserves.
*Source: Trench & Packey (2012)
24
Disclosures: Ownership and material conflicts of interest:
The author(s), or a member of their household, of this report does not hold a financial interest in the securities of this company. The author(s), or a member of their household, of this report does not know of the existence of any conflicts of interest that might bias the content or publication of this report. Receipt of compensation:
Compensation of the author(s) of this report is not based on investment banking revenue. Position as a officer or director:
The author(s), or a member of their household, does not serve as an officer, director or advisory board member of the subject company. Market making:
The author(s) does not act as a market maker in the subject company’s securities. Disclaimer:
The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to be reliable, but the author(s) does not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as the basis of any investment decisions by any person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This report should not be considered to be a recommendation by any individual affiliated with CFA Mexico, CFA Institute or the CFA Institute Research Challenge with regard to this company’s stock.
CFA Institute Research Challeng
