American Barrick Resources Corporation (ABX) hedges the price of gold to manage risk given that extracting gold from mines takes many years. ABX's hedging program evolved over time, initially using forward contracts and later options and spot deferred contracts. The goal of ABX's hedging program as mandated by its board is to fully protect production for 3 years and be 20-25% protected for the following decade, creating an imperfect hedge that balances downside protection with potential upside from price increases.

1. 11
American BarrickAmerican Barrick
Resources CorporationResources Corporation
(ABX)(ABX)
Managing Gold Price RiskManaging Gold Price Risk
FINA 6335 Risk ManagementFINA 6335 Risk Management

2. 2
Typical Gold Hedging ProgramTypical Gold Hedging Program
 It takes many years to extract gold from aIt takes many years to extract gold from a
mine. By the time the mine is producingmine. By the time the mine is producing
the price of gold will have changed.the price of gold will have changed.
 A gold mining company will estimate theA gold mining company will estimate the
ounces they will produce from a mine andounces they will produce from a mine and
then determine the time it will take tothen determine the time it will take to
exact this gold.exact this gold.
 They then enter into short futures orThey then enter into short futures or
forward contracts to lock in the price thatforward contracts to lock in the price that
will be received.will be received.

3. 3
American Barrick CorporationAmerican Barrick Corporation
 Hedging activities;Hedging activities;
• Originally they entered into forward contractsOriginally they entered into forward contracts
• They then entered into options.They then entered into options.
• Next they used spot deferred contacts.Next they used spot deferred contacts.
ABX used virtually every instrumentABX used virtually every instrument
available to manage its gold price risk.available to manage its gold price risk.
ABX creates imperfect hedges; they doABX creates imperfect hedges; they do
not completely neutralize their potentialnot completely neutralize their potential
for upside profits; and definitely are in afor upside profits; and definitely are in a
position to profit when prices of gold fall.position to profit when prices of gold fall.

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Hedging PolicyHedging Policy
 Barrick’s board mandated a hedgingBarrick’s board mandated a hedging
policy:policy:
 Fully protected for all production outFully protected for all production out
3 years.3 years.
 20%-25% protected for the following20%-25% protected for the following
decade.decade.

5. 6
In the absence of a hedging program usingIn the absence of a hedging program using
financial instruments, how sensitive wouldfinancial instruments, how sensitive would
Barrick stock be to gold price changes?Barrick stock be to gold price changes?
 Without a hedging program Barrick’s stock priceWithout a hedging program Barrick’s stock price
would be very sensitive to the fluctuations in goldwould be very sensitive to the fluctuations in gold
prices.prices.
• If the gold price rose so would the stock price.If the gold price rose so would the stock price.
• If the gold price falls so would the stock price.If the gold price falls so would the stock price.
 Some gold mining companies do not hedge at all;Some gold mining companies do not hedge at all;
this is publically announced and the investors canthis is publically announced and the investors can
buy these company stocks and reap the rewardsbuy these company stocks and reap the rewards
of rising gold prices.of rising gold prices.

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For every 1% change in gold prices,For every 1% change in gold prices,
how might it’s stock be affected?how might it’s stock be affected?
 The performance of gold bullion is oftenThe performance of gold bullion is often
compared to stocks.compared to stocks.
 They are fundamentally different assetThey are fundamentally different asset
classes: gold is a store of value whereasclasses: gold is a store of value whereas
stocks are a return on value (i.e. growthstocks are a return on value (i.e. growth
plus dividends).plus dividends).
 A 1% change in gold would create a 1%A 1% change in gold would create a 1%
change in the stock price for ABX if theychange in the stock price for ABX if they
did not hedge.did not hedge.

7. 8
Dow Jones Industrial Average divided by the price of anDow Jones Industrial Average divided by the price of an
ounce of gold.ounce of gold.

8. 9
How could the firm manage its goldHow could the firm manage its gold
price exposure without the use ofprice exposure without the use of
financial contracts?financial contracts?
 The price of gold is fairly stable due to the costsThe price of gold is fairly stable due to the costs
associated with extracting the gold.associated with extracting the gold.
 Supply Chain ManagementSupply Chain Management
• By creating long term relationships with the equipment,By creating long term relationships with the equipment,
suppliers, and services that are needed, and to obtainsuppliers, and services that are needed, and to obtain
them dependably through long term supply arrangements.them dependably through long term supply arrangements.
 Continuous ImprovementContinuous Improvement
• Make equipment and supplies last longer; raise operatingMake equipment and supplies last longer; raise operating
efficiencies.efficiencies.
• Its an ongoing process, involving multi-disciplinary teams;Its an ongoing process, involving multi-disciplinary teams;
company creates best practices that are copied by othercompany creates best practices that are copied by other
mines.mines.
• Using technology to improve efficiency and reduce costs.Using technology to improve efficiency and reduce costs.

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What is the stated intent of ABX’sWhat is the stated intent of ABX’s
hedging program?hedging program?
 Hedging program mandated by the board.Hedging program mandated by the board.
• Fully protected for all production out 3 years.Fully protected for all production out 3 years.
• 20%-25% protected for the following decade.20%-25% protected for the following decade.
 ABX’s hedging program intentABX’s hedging program intent
• To manage the firms exposure to gold price risk.To manage the firms exposure to gold price risk.
• In an environment of falling gold prices; Barrick wouldIn an environment of falling gold prices; Barrick would
profit.profit.
• In an environment of rising gold prices; Barrick wouldIn an environment of rising gold prices; Barrick would
profit to a mutually acceptable amount.profit to a mutually acceptable amount.
• Finanical conservatism was to moderate although notFinanical conservatism was to moderate although not
completely eliminate, Barrick’s exposure to gold pricecompletely eliminate, Barrick’s exposure to gold price
risk.risk.

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What should be the goal of a gold mine’sWhat should be the goal of a gold mine’s
price risk management program?price risk management program?
 It depends on the firm. Some will not want toIt depends on the firm. Some will not want to
hedge at all, some will hedge partially, and somehedge at all, some will hedge partially, and some
will try and totally reduce their risk 100%.will try and totally reduce their risk 100%.
 In my opinion Barrick’s hedging policy is perfect.In my opinion Barrick’s hedging policy is perfect.
They have maintained a strong stock price andThey have maintained a strong stock price and
have reaped the benefits of surges in gold prices.have reaped the benefits of surges in gold prices.

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Evolution of ABX’s Hedging ProgramEvolution of ABX’s Hedging ProgramInnovation
Time
Gold Financing
Forward Sales
Option-Based Insurance
Spot Deferred Contracts

12. 14
Gold FinancingGold Financing
ADVANTAGESADVANTAGES
 No debt involvedNo debt involved
 Low funding costLow funding cost
 Royalties increaseRoyalties increase
only if priceonly if price
increasesincreases
DISADVANTAGESDISADVANTAGES
 Sacrifice profitsSacrifice profits
when price peakswhen price peaks
 ““Lien” on outputsLien” on outputs

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Forward SalesForward Sales
ADVANTAGESADVANTAGES
 No debt involvedNo debt involved
 GuaranteedGuaranteed
premiumpremium
(contango)(contango)
 Protect againstProtect against
falling pricesfalling prices
DISADVANTAGESDISADVANTAGES
 Sacrifice profitsSacrifice profits
when price peakswhen price peaks

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Option Based InsuranceOption Based Insurance
ADVANTAGESADVANTAGES
 No debt involvedNo debt involved
 Protect againstProtect against
falling pricesfalling prices
 Benefit when priceBenefit when price
peakspeaks
DISADVANTAGESDISADVANTAGES
 Few marketFew market
playersplayers
 Short term horizonShort term horizon

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Spot Deferred ContractSpot Deferred Contract
ADVANTAGESADVANTAGES
 No debt involvedNo debt involved
 Protect against fallingProtect against falling
pricesprices
 Benefit when priceBenefit when price
peakspeaks
 Long term horizonLong term horizon
DISADVANTAGESDISADVANTAGES
 Greater RiskGreater Risk

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Questions?Questions?