May 8, 2009

This is the first of many posts concerning wealth protection- and in this particular case, wealth accumulation. Silver Wheaton, one of the most dynamic I have ever come across, is a hidden gem and should be a core position in everyone's portfolio for the following reasons
 The first reason is obviously valuation, I mean this is the stock market after all. It recently acquired Silverstone, increasing previous guidance of 14m/oz to 18m/oz. They will then reach 25m oz in 2010, 2900 in 2011 and 3100 by 2012.

But isn't mining a very risky business?? Yes mining does come with its share of risks, but that's the thing. IT DOES NO MINING! It is purely a royalty company, which is now comprised of 13 streams spanning around around the world. For those who don't know, a royalty company pays money up-front to miners in need of financing in return for a contractual % of the future product. So yes silver wheaton has been a very risky company in the past, and has come close to being unable to service their debt. But that is all in the past now, and I expect silver wheaton to announce around 25-40 million of debt repayments this coming monday. In addition I think they be debt free by Q1 2010.

WAIT, HOW DOES THIS WORK? Well it rather simple if you ask me, and anyone capable of doing elementary math can calculate a rough estimate of operating income. Silver Wheaton pays on average $4/oz for each oz of silver produced from their streams. Silver, which is currently trading at $14/oz as I write this would thus providing $10 of operating income per ounce. I expect silver to skyrocket over the next3-5 years (I will talk in depth later), which essentially makes SLW a pure play on this precious metal. They have 5 people in the entire company (remember no actual mining takes place), whose combined salaries don't even make it to the financial statements due to the insignificance of that amount.

WHAT ABOUT TAXES? Though a Canadian based company, they were allowed by regulators to be headquartered in the Caymans. I think we all know that means, NO Income Tax! That's right, unless the tax laws change, SLW will only pay capital gains tax on investments. So putting this altogether, GROSS REVENUE- INTEREST EXPENSE = NET INCOME = FREE CASH FLOW . For those unfamiliar with the meaning of the latter, free cash flow are the true earnings to investors. BUT I THOUGH NET INCOME WAS? Well yes they are the true earnings of the company, but in order for the business to continue operating, a significant portion of that must be reinvested into such things as inventory, plant, property, equipment cash (in order to ensure that viability, should the company hit hard times). SLW will likely continue to make additional purchases should the opportunity present itself, but it can continue operations for over 20 years even without doing so. It gets better, As mines develop, they often lead to additional reserves thus either increasing annual production for SLW or an extended royalty life (depending on the conditions of the contract).

WHY SILVER? Chances are you have stumbled upon this because you believe there will be substantial Inflation in the near future. Gold and Silver have historically been inflation hedges throughout history. They are and have always been recognized as international currencies (although not recognized by the government). This has to do with the history behind them , as they have been used for over 5,ooo years. Gold for larger purchases and silver for small purchases. As silver prices rise, the contracted purchase price can only increase 1% per year of the previous years purchase price. This means inflation is a positive! because net margins increase. IS THAT THE ONLY REASON?? Not by a long shot, Silver is being used more and more in technology(Silver will play a substantial role in the future of batteries, not to mention other technological equipment) and as we all know, it is important for industrial purposes. It becomes more and more compelling due to the fact 75% of world production is as a bi-product from base metals (which have come to a halt due to the recession). In other words the supply has drastically fallen without the market taking notice.

So how much could it be worth? Call me crazy but I think the intrinsic value of the company is in the range of $60-$80 ! No I'm not the type to make such a bold call, but those are my conservative estimates. A Silver Wheaton Equity Model is available for editing UNDER EQUITY VALUATIONS AT THE TOP RIGHT HAND CORNER OF THE PAGE. It is currently trading around $8.50 USD, a price which I don't think will last much longer. Avoiding any dragged out calculation, lets just project 2012 Profit. Assuming we experience that inflation of the late 70's (which is very conservative) silver will trade between 30-40/oz if the money supply had not changed. But to make it simple we will assume it only increased 2 to 3 fold. 65 is a good number. So 65-5= 60 profit per ounce. SLW will produce approx 32-35M oz. So 60*30M= 1.8 billion dollar. If the company has a current market cap of around 2.4Billion and should make at least a billion dollars(to be conservative) from 2012-20??, WOW! Maybe I'm Nuts! If this is being nuts, that's all I ever want to be.

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