TORONTO (miningweekly.com) – Despite reporting record production and sales for the three months ended December 31, NYSE- and TSX-listed precious metals streamer Silver Wheaton reported a net loss of $169.3-million, or $0.42 a share, for the three months ended December 31, compared with net earnings of $52-million, or $0.14 a share, in the comparable period of 2014.

The Vancouver-based company, which made upfront payments in return for the right to purchase a fixed percentage of the future silver and/or gold output from mines, advised that the reason for this was mainly related to asset impairment charges of $230.9-million linked to its Barrick and Keno Hill silver interests, its 777 silver and gold interest, and its Sudbury gold interest.

Excluding special items, the adjusted net earnings for the three-month period totalled $57.4-million, or $0.14 a share, beating analyst expectations of earning $0.12 a share.

Despite silver-equivalent output in the fourth quarter rising 70% year-on-year to 15.5-million ounces – comprising 10.3-million ounces of silver and 69 200 oz of gold – and sales volumes rising 59% to 13.6-million ounces of silver equivalent, revenues rose by only 43% to $200.5-million, as a 10% decline in the average realised silver-equivalent price offset the record performance. This resulted in a 14% drop in the cash operating margin at $10.23/oz of silver equivalent.

Silver Wheaton’s cash operating margins had been steadily declining from 88% in 2011, to 83% in 2013 and 78% in 2014. For 2015, the cash operating margin of $11.02/oz of silver equivalent was down another 23% over 2014, bringing the cash operating margin down to about 70%.

The company’s operating cash flow for 2015 remained flat year-on-year at $431-million.

The board had declared a quarterly dividend of $0.05 a share.

CRA DISPUTE
A bitter tax dispute with the Canadian Revenue Agency (CRA), lower precious meals prices and the potential for the US Federal Reserve to increase interest rates could conspire to dim the fundamental outlook for Silver Wheaton in the medium term. While the company’s NYSE-listed stock had gained nearly 43% since the start of the year, hurdles in further growing its cash flows might hinder price performance.

The company’s cash flows could come under increased pressure going forward, as it would have to deal with a potential CRA tax bill of about $520-million that it would possibly have to settle once the dispute had been resolved.

“The CRA reassessments are the biggest things impacting our share price at the moment,” said president and CEO Randy Smallwood during a recent interview with Mining Weekly Online.

The CRA had in January notified the company that it would be reassessing the company’s international transactions covering the 2011 to 2013 taxation years, potentially placing the company on the hook to pay another $310-million in tax for the period.

Silver Wheaton was already embroiled in an acrimonious standoff with the CRA over the agency’s reassessment of its 2005 to 2010 taxation years. The revenue agency aimed to collect taxes on income earned by Silver Wheaton’s offshore subsidiaries totalling about C$353.4-million.

“The CRA seems to be playing a bit of tit-for-tat, in that, two weeks after we launched our appeal with the Tax Court, they notified us that tax years 2012 and 2013 will also be reassessed. While the initial reassessment took seven years, we have not heard anything from them since,” he said, noting that he was optimistic about dealing with lawyers instead of auditors for the first time since the reassessments started.

“This is the first case of Canada trying to reach out for tax resources outside of Canada. We think we have a very strong case; the laws of Canada do not allow that. If we lose this case, we will be the first of many resources companies moving their head offices out of Canada. And this would then extend to other sectors of the economy, such as Canadian banks moving out too,” he warned, adding that if Silver Wheaton won this case, it might consider petitioning for tax payer abuse by the CRA.

RATE HIKES
Meanwhile, the US Federal Reserve’s decision on Wednesday to keep the US benchmark interest rate steady between 0.25% and 0.5%, suggesting that it would implement two interest rate hikes this year, could place pressure on Silver Wheaton’s share price. Over the past eight years, the stock had performed well when interest rates were low, while a gradual increase had led to a drop in the stock price.

Increasing interest rates also pressured the precious metals prices. As interest rates rose the general tendency was for the gold price, which earned no interest, to fall and, as interest rates fell, for the gold price to rise.

However, while gold had sustained a rally of more than 19% so far this year to $1 262/oz, silver lagged, rising only 14.7% since the start of the year to $16.07/oz.

“Silver always lags gold," explained Smallwood, adding that 2000 – when gold started and silver fell – was the most recent bull run that both commodities went through.

According to him, the lag was about a year-and-a-half to two years. “Gold started running in 2001/02 and gradually climbed up. When we created Silver Wheaton in 2004, silver was trading at about $5/oz range. However, silver is much more volatile. It went from $4/oz to $48/oz – a 12-bagger as they’d say, while gold went up only about six times in the same period. That’s the reason why we prefer silver,” Smallwood said.

Despite industrial demand being down 20% in 2015, it was not considered a price driver – investor sentiment was the biggest price driver by far.

ASSET ACQUISITIONS
According to Smallwood, there were, collectively, about $3-billion to $4-billion in potential asset acquisitions on the market, though many of them did not meet the company’s due diligence benchmarks.

He noted that the quality of assets on the market had peeled back a little, mainly on the back of Silver Wheaton closing two of its best deals last year – the Salobo II and Antamina streaming transactions, for which it paid about $900-million each.

“Those assets are one in a million, you don’t get those chances very often. We don’t see anything of that quality right now, but some of them are close. There still are first and second-quartile projects on the market, but maybe not in the lowest-cost range. The size seems to have decreased too, as $500-million is about the upper limit of opportunities at the moment,” he commented.

Silver Wheaton’s focus had always been the bottom-two cost quartiles of the industry, mainly taking secondary gold and silver production from base metals producers. Currently, 93% of the company’s production came from the bottom half of the respective cost curves, increasing to 97% in 2018.

“We manage a high-quality asset base. The reason for that is twofold. We know that they will continue to deliver gold and silver even when prices drop, because it will continue to be profitable. But, most importantly, those are the assets the partners will reinvest into first, because those will generate the most cash. They also tend to be the candidates for reinvestment as brownfields exploration takes place and expansions are implemented,” he explained.

Meanwhile, lower copper prices were bringing big diversified companies that Silver Wheaton had not yet struck deals with to the negotiating table, as they started exploring streaming to see if there was a way to generate cash to deal with stressed balance sheets.

“We have a strong ability to close new acquisitions this year. We are generating about $500-million a year in free cash flow, at current commodity prices, with significant upside should prices increase. We have about $600-million available under our $2-billion revolver, which provides us with adequate capacity for the opportunities we are looking at out there,” he said.

Smallwood stressed that the company was comfortable with debt levels of $2-billion, noting that with signficant cash flows, “the debt disappears very fast if we choose to do that”.