Fabrice Taylor is a chartered financial analyst. ftaylor@globeandmail.com

It must be nice to be Barrick Gold. Think of all those little companies out there with great ideas that can’t get a cent from investors. Yet Barrick, to its everlasting credit, can pick up the phone and raise $3.5-billion (U.S.) in a matter of days, and not because it has a great idea. On the contrary: The money will go to paper over a mistake.

A few years ago I wrote some skeptical things about Barrick’s hedge book and heard from a few professional money managers who insisted there was nothing wrong with it, that it had allowed the company to earn lots of money despite low gold prices.

Oh yeah? Barrick, as of June 30, had retained earnings of about $3-billion – meaning that’s roughly the cumulative profit it has generated over time. Now that the company has decided to wind down some of its hedges, it will be taking a huge charge in the coming quarters that will wipe out those earnings and then some. Did it really make lots of money from the hedge program? Nope.

I draw two lessons from this: One, professional managers are sometimes as dumb as the rest of us; and two, what kind of stupid accounting rules allow a company to keep its mark-to-market losses off the balance sheet and income statement? Until, that is, it effectively concedes defeat.

Fans of hedging will say the stock has held up well. It has for sure, although you haven’t made much money owning Barrick long term, despite the fact that it enjoys an enormous market capitalization relative to its profitability. Bloomberg has the price-earnings ratio at 25 times, and that’s before the financing and hedge-trimming were announced. It’s bound to be higher now. The few analysts who have commented on the financing (most are conflicted because it takes a lot of banks to sell that much paper – even Barrick’s) point to a big dilution on earnings but are otherwise enthusiastic.

Lots of people would, and will, buy Barrick shares – the stock was up 3.3 per cent yesterday. The overallotment of 14 million shares will probably go too, bringing the total raised to about $4-billion. I wouldn’t buy it, for the simple reason that I don’t understand how the company works. Yes, the fixed-price hedges will, in theory, be gone within a year. These are hedges that deprive Barrick of upside (and protect it from downside) on gold prices.

There are three million ounces hedged this way. Barrick will either give the counterparties gold from its mines or buy gold in the open market to end them. That will cost, at current prices, about $2-billion.

Barrick will also eliminate some of its floating-rate hedges, which represent a liability of $3.7-billion. These, we’re told, allow the company to participate in the price of gold. Yet, somehow, when gold goes up, the liability does too. I’m sure there’s an explanation but if you want gold, buy gold, not complicated trades. And which ones will it unwind? Not all, that much we know, but are some more complex than others?

I also think Barrick wears a halo that’s not entirely deserved. Witness how some investors and analysts reckon that gold prices are likely to rise since Barrick is unwinding its hedges. If the world’s pre-eminent gold company knew where gold was going, it wouldn’t have unwound its trades at $1,000 an ounce, it would have done it at $300, or $400, or even $800, saving investors big bucks.

And while the hedge book gets all the attention, keep in mind that Barrick also sold a bunch of its future silver production for $625-million. If it’s bullish on gold, why not on silver? And if it’s bullish on silver, why sell it? Unless you have to.

The company insists in its prospectus that lenders and counterparties had no say in its decision to unwind. Company officials can’t talk right now, but I’d say there’s a healthy possibility that counterparties did have some influence. (By the way, the prospectus also says the underwriting syndicate may engage in stabilizing trades to keep the price of the stock from falling too much during the financing. Yesterday’s rally might not be what it seems.) In stock parlance, what I call a halo is a multiple. And Barrick’s is rich for what you get.

Barrick Gold

In U.S. dollars                  6 mo. 2009 6 mo. 2008
Share profit                     $0.98      $1.13
Cash from operations (mil.)      $1,067     $1,223
Cash invested in business (mil.) $1,039     $2,378
Net cash flow (mil.)             $28        -$1,155

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