American Barrick is a gold mining company that has a very effective price risk management program in place. The company hedges its gold price risk in order to gain greater financial stability, as well as operational and financial predictability. This allows them to plan their way forward with greater effectiveness. The first task is to determine the level volatility experienced by the company’s stocks with respect to changes in the price of gold. For this, data regarding both the financial and operational aspects of the company is to be used to make future projections of cash flows, which are to be discounted to reach the company’s intrinsic value. Then a sensitivity analysis needs to be conducted to determine the change in this intrinsic value with respect to change in gold prices. Once the volatility has been determined, hedging against its risk needs to be discussed using the information given in the case.
Cashflow Statement (in thousands of dollars)
Cash from operations
Cash from investment activities
Cash from financing
Cost per Ounce
Dividend to Income
Present Value (1992)
Number of Outstanding Shares
Gold Rate per Ounce
ABX Cost of Capital
Market Return (1992)
Risk Free Return (1992)
Cost of Capital ABX
1. In the absence of a hedging program using financial instruments, how sensitive would Barrick stock be to gold price changes? For every 1% change in gold prices, how might its stock be affected? How could the firm manage its gold price exposure without the use of financial contracts?
2. What is the stated intent of ABX’s hedging program? What should be the goal of a gold mine’s price risk management program?
3. What would convince you that a price risk management program created value for its shareholders ex ante?
4. How would you characterize the evolution of Barrick’s price risk management activities? Are they consistent with the stated policy goals?
5. How should a gold mine which wants to moderate its gold price risk compare strategies (using futures, forwards, gold loans, or spot deferred contracts) with insurance strategies (using options)? On what basis should these decisions be made? Once a firm has decided on either a hedging or an insurance strategy, how should it choose from among specific alternatives?
6. What is a “spot deferred contract?” Is it an option? a forward contract? Why has ABX chosen to rely on spot deferred contracts relative to other gold derivatives?