Are Dividends Paid by Gold Companies Best for the Company and the Shareholder?

Dividends often drive investments. One gets the unlimited upside of owning a security, plus an ‘extra’ just for owning it. The dividends of all companies come from free cash flow, and while this is great for companies which produce a product that sell within constraints, gold company sales have no constraints except for how much they can produce. There will always be a buyer for gold. The factors for production (once production has commenced) are cut-off grade and actual gold in the ground. In certain vein hosted deposits there may not be any gold outside of the vein, but in broad disseminated deposits, the higher the gold price, the more economical it is to mill the lower grade.

The second point, how much gold is in the ground, focuses on the point that companies always have to find more. The markets value growth, but gold and all mining, are by definition, depleting assets. With this said, one may question if a gold company is in the position to have free cash flow (which is rare), wouldn’t it be more valuable to the company – and shareholders to ‘find’ more gold. The term find is not necessarily to be taken entirely literally. The company will have to drill and assay samples to discover new areas to mine, but the mining industry is incestuous and cannibalistic. There are so many junior mining companies that it is almost impossible to count. Most of these companies desire to get to a point where a larger one buys them out, or one of their properties. The question is when it is accretive for the buying company to do so.

So, the two ways a mining company finds replacement assets is by drilling (which costs money) or by buying (which costs money). Granted one may say the companies can issue shares to buy into a project or a project outright, but then that dilutes the existing shareholder base. This all comes back to the dividend question. If a gold company’s only purpose is to produce a product that will immediately be sold, shouldn’t all of their free cash flow be used in finding more?

This is not a simple yes. One reason companies will issue dividends is to attract institutional shareholders. Some funds may require companies in their portfolio to issue dividends or they will not be bought. The stronger the shareholder base, the stronger the company. Another reason a company may issue a dividend is that it may not be getting traction in the market. By issuing a dividend, it may signal to the investment community that their earnings are legitimate and that their balance sheet allows them to do this. A promotional company cannot issue a dividend.

There is no simple answer. One must question how much they understand the gold environment before investing. Most drilling may be comparable to the research & development stage of a pharmaceutical company, as there is a great chance that money may yield nothing. However, one may also understand that gold companies may constantly pay themselves, buy producing wealth. If one buys for a dividend, is that investor missing the upside on the gold equity? If a gold company offers a dividend, are they attracting the wrong investors – those who miss the gold upside?