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The Gold Stock Strategist analyzes leading junior gold producers and major gold mining companies.

Comments are welcomed!

Wednesday, March 4, 2009

New Gold & Western Goldfields Merger Analyzed

For those of us who follow junior gold producers, the merger between New Gold & Western Goldfields is no surprise.

These companies are two of the larger junior producers with New Gold projected to produce about 200,000 ounces of gold and Western Goldfields projected to produce about 140,000 in 2009. This deal moves the "new" New Gold into the intermediate producer range. I plan to continue following New Gold because it is very familiar to me and remains an interesting company with a vision to become a 1 million ounce producer by 2012.

A quick look at this merger suggests this is a marginally better deal for Western Goldfields investors for two reasons.

First, on a one for one share exchange Western Goldfields (closed at US$1.48 yesterday) receives a market-based premium (about 21%) in share price because New Gold closed at US$1.79 yesterday. That said, New Gold shares may trade down today on this news, reducing the Western Goldfields premium in the short-run.

Second, Western Goldfields projected cash cost per ounce is higher in 2009 (US$540) than New Gold at about US$475. The higher cost profile will weaken free cash flow on average for New Gold shareholders.

The good news for New Gold shareholders is that the company is moving forward on New Gold President and CEO Robert Gallagher’s vision of becoming a million ounce gold producer by 2012. This is an ambitious and worthy goal that is good for the industry and good for New Gold shareholders.

The reason junior gold producing companies are merging is because the larger the company, the better the valuation in the market. The cash flow multiple model I published on February 28 shows this. New Gold and Western Goldfields have a 1.8 and 1.5 valuation compared to smaller producers that end up at the top of the ranking with higher cash flow multiple estimates in 2009. Jaguar Mining is another example with a 1.5 cash flow multiple.

As a result, I don't expect this merger to give the "new" New Gold any short-run boost in price given both companies are already valued as intermediate gold producers. In fact, with the price of gold consolidating around US$915-US$920, this deal may see some short term share price compression.

However, if the new company can reduce General & Administrative or other expenses through this merger, there should be a long-run boost to share price from the deal independent of the price of gold.

Congratulations to New Gold and Western Goldfields shareholders.

Best,
Gold Stock Strategist

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