By James Dunn
The commodities markets certainly appear to have turned the corner in 2016, as China showed signs of recovery and US President-elect Trump talked of an infrastructure-led rebound in the US economy.
While oil, gold and coal capture most of the commodity headlines, the tide has quietly turned for the industrial metals. “Doctor Copper” – so nick-named because the copper price has proven a better economic predictor than most economists – has surged 26% in the last three months. Nickel – used mainly in stainless steel – has rebounded by 45% since reaching a 13-year low in February 2016. Zinc is up 75% in 2016 and reached a fresh nine-year high. Lead hit a five-year high in November, while tin has gained almost 43% this year.
The news is good for many of Australia’s miners, which have gone through testing times lately, and there is cautious optimism that the momentum can be sustained. But as Ivan Glasenberg, head of global mining giant Glencore, reminded everyone last week, it will be China – and its 45% to 50% share of world commodities consumption – that will ultimately determine what happens to commodity prices.
Still, the rally has reasonable fundamentals. In copper, zinc and nickel, new supply is limited and big new mines are not being developed. Deutsche Bank said last month that it was the most positive on zinc and nickel for 2017.
Unfortunately for investors, if they are only becoming aware of the 2016 commodities rally now, they have mostly missed the boat, because the market got on to the commodities recovery very early. Many miners’ share prices have soared this year, most to the point where the market thinks they are over-bought, and due for a pull-back.
Here’s a look at the major Australian industrial metals producers.
South32 (S32, $2.83)
Market capitalisation: $15.1 billion
Share price 2016: +165.7%
FY17 forecast yield (at present A$/US$ exchange rate): 2.9%, unfranked
Analysts’ consensus target price: $2.80
South32 was born in 2015 when BHP Billiton spun out its base metal (and some of its coal) businesses, which it considered non-core, in a separate entity. The new company automatically became Australia’s third largest miner, with a market capitalisation of $11.3 billion.
South32’s portfolio comprises alumina, aluminium, energy coal, metallurgical coal, manganese ore, manganese alloy, nickel, lead, zinc and silver. It is the world’s largest manganese producer. Interestingly, South32 relies much less on China than most of its mining peers, with only about 11% of revenue coming from China, and Europe and South Africa being much more influential on its fortunes. South32 is a dividend-payer, with a policy of paying out at least 40% of underlying earnings, but unfranked.
The BHP spin-off has had a great year on the stock market, rising from $1.065 to $2.83, but the analysts that follow South32 can’t see further rises from here.
OZ Minerals (OZL, $8.18)
Market capitalisation: $2.5 billion
Share price 2016: +102%
FY16 forecast yield: 1.3% (December year-end)
Analysts’ consensus target price: $7.34
OZ Minerals is a copper play, mining the red metal at Prominent Hill in South Australia, and it also produces gold there. OZ has been a solid performer, meeting its copper production guidance for the last eight quarters despite weather problems and the new South Australian bugbear, power interruptions. In the September quarter, OZ lost 56 hours of production because of power outages.
OZ is one of the lowest-cost copper producers in the world, producing metal at present at a cash cost of 72.7 US cents a pound, and a total production cost of 151.4 US cents a pound. That contrasts nicely with a current price of US$2.62 a pound.
In 2016 (OZ Minerals uses the calendar year as its financial year) the company predicts copper production of 115,000 tonnes–125,000 tonnes, plus gold production of 115,000 ounces–120,000 ounces. OZ recently extended the mine life at Prominent Hill by five years, to 12, out to 2028. Last month, OZ began construction of its second mine in northern South Australia, at Carrapateena, which is scheduled to enter production in 2019. OZ is also studying the West Musgrave copper-nickel project (in which it can earn up to a 70% stake) in Western Australia, which could extend its growth pipeline further.
Some brokers see lots of value still in OZL – Macquarie has a target price of $9.20 – but on consensus, analysts expect a pull-back. In the meantime, its unfranked yield doesn’t justify owning the stock.
Independence Group (IGO, $4.39)
Market capitalisation: $2.6 billion
Share price 2016: +72.8%
Forecast FY17 yield 1%
Analysts’ consensus target price: $4.14
Diversified miner, Independence, mines nickel at the Long Nickel operation near Kambalda in Western Australia, and copper, zinc and silver at the Jaguar/Bentley operation near Leonora in WA, and gold at the Tropicana mine (IGO 30%), also in WA.
In October, Independence kicked off production at the world-class Nova nickel-copper-cobalt operation, also in WA. Nova produced its first nickel and copper concentrate six weeks ahead of schedule, and the first shipment heads off this month.
Nickel production at Nova is expected to be 9,000 tonnes–10,000 tonnes in FY17, ramping up to 27,000 tonnes–30,000 tonnes in FY18. Copper production is projected at 3,900 tonnes–4,400 tonnes in FY17, rising to 12,000 tonnes–13,000 tonnes in FY18.
Nova secures the future for IGO, given that Long has a remaining mine life of about two years, while Jaguar is a bit more longer-life than that. Like the other two, Nova is a high-grade, high-margin operation, and its debut will prove well-timed, if nickel can extend its recovery.
Again, however, analysts see Independence as over-priced, and a 1% fully franked yield doesn’t compensate for that.
Western Areas (WSA, $3.19)
Market capitalisation: $868 million
Share price 2016: +42.4%
FY17 forecast yield: 0.2%
Analysts’ consensus target price: $2.55
Nickel producer Western Areas has two mines in Western Australia, Flying Fox and Spotted Quoll, and has done all that it can in the face of a weak nickel price in recent years, by lifting its tonnage, while at the same time, reducing development spending. Western Areas signed two new offtake deals in November, also agreeing to a new three-year contract with BHP Billiton Nickel West.
Western Areas is well-placed on the cost curve and is highly leveraged to a recovering nickel price – but it’s the same story as the rest of the sector, with a share price rise that has pushed it above value – although Macquarie has a price target on the stock of $3.80. In the meantime, the minuscule (and unfranked) prospective yield doesn’t do much for investors, either.
Sandfire Resources (SFR, $6.02)
Market capitalisation: $950 million
Share price 2016: +6.9%
FY17 forecast yield: 1.9%
Analysts’ consensus target price: $5.82
Copper miner Sandfire Resources earned world notice when it entered production at DeGrussa in Western Australia in 2012, having moved the project from discovery to first copper production within three years – a remarkable achievement. Sandfire has subsequently generated more than $2 billion in revenue from De Grussa. The mine achieved record production for the 2016 financial year of 68,202 tonnes of contained copper and 37,612 ounces of contained gold, at a cash operating cost of US 95 cents a pound of copper. That brought sales revenue of $497.2 million and a net profit of $46.4 million, from which a fully-franked dividend of 11 cents was paid.
Sandfire is highly leveraged to the copper price. The share price has been very quiet this year, although it has reacted strongly to copper’s recent surge, having risen from $4.95 in mid-October to the current $6.02. Copper does not appear to have the scope to move higher that nickel and zinc are considered to have, and that could be holding Sandfire back. The company is working hard to push the minelife at DeGrussa out beyond FY21, but Sandfire definitely needs copper to keep rising. Macquarie is the most bullish on the stock, with a price target of $7.30, but the analysts’ consensus sees Sandfire struggling to move higher. It is one of the stronger fully franked yields in the mining sector – but that is not saying much.
Poseidon Nickel (POS, 4.8 cents)
Market capitalisation: $40 million
Share price 2016: +4.3%
Analysts’ consensus target price: 22.8 cents (Thomson Reuters)
The bearer of a famous name in nickel, Poseidon, says it has the second largest published nickel sulphide resource in Australia. It has three mines in Western Australia – including Silver Swan, which is the world’s highest-grade nickel mine, and the newly discovered Cerberus orebody – but the company put them on a care-and-maintenance footing last year because of the weak nickel price, and is yet to recommence mining. Poseidon has been getting cash flow from nickel concentrate left in ponds. Overall, POS has a resource of 44 million tonnes at a total grade of 0.9% nickel, yielding 391,900 tonnes of nickel metal. Its Lake Johnston prospect also has lithium potential.
The company recently struck a memorandum of understanding with Chinese group Tsingshan, under which it will ship raw ore from Silver Swan, which may defer the need to restart the Black Swan processing plant and significantly reduce the nickel price at which Poseidon can profitably recommence mining.
Poseidon is very leveraged to the nickel price, and does offer speculative value, but the risk is heightened by the lack of clarity on when mining operations will fully resume.
CuDeco (CDU, 43.5 cents)
Market capitalisation: $169 million
Share price 2016: –67.2%
Copper producer CuDeco has just commenced production at its Rocklands copper project, near Cloncurry in north-west Queensland, a decade after discovering 11 copper ore bodies at the site. Rocklands shipped its first copper to China in August and was officially opened in October. CuDeco hopes to reach full production by early-2017, at which time it could be producing three million tonnes of copper concentrate a year.
CuDeco has a 10-year lease of the open cut mine site, but the life of the mine is thought to be at least double that. CuDeco is backed by Chinese property developer China Oceanwide, controlled by billionaire Lu Zhiqiang, who wanted to diversify into resources.
Aeris Resources (AIS, 5.5 cents)
Market capitalisation: $8 million
Share price 2016: +37.5%
Copper miner Aeris’ flagship project is the wholly-owned Tritton copper project, near Nyngan in New South Wales. If business is about controlling what you can control, Aeris can’t do much more: Tritton delivered record copper production in FY2016, of 30,425 tonnes (FY2015: 30,245 tonnes), exceeding both its original production guidance of 28,000 tonnes and its upgraded guidance of 29,500 tonnes. This was Tritton’s third consecutive year of record copper production. Cash costs for the financial year averaged A$2.26 a pound, down from A$2.44 a pound in FY15.
In FY16, Aeris generated revenue of $192.5 million, down 11%, but operated at a gross loss of $2.4 million. But a gain on debt restructure of $45.4 million helped net profit come in at $22.2 million, however there was no dividend. This year, Aeris is targeting 28,000 tonnes of copper. The stock is wholly dependent on the copper price, and at this stage, is for speculators only.
Hillgrove Resources (HGO, 5.2 cents)
Market capitalisation: $10 million
Share price 2016: –67.5%
Analysts’ consensus target price: 6 cents (Thomson Reuters)
Hillgrove produces copper and gold from the Kanmantoo Copper Mine in South Australia, located only about 55 kilometres from Adelaide. 2016 copper production (Hillgrove reports on a calendar-year basis) is forecast to be just below the lower end of guidance (14,500 tonnes–16,500 tonnes, while gold production is expected to be above the top end of guidance (8,000 ounces–10,000 ounces.) Cash costs are running at US$1.58 a pound, below 2016 guidance (US$1.85 a pound–US$2.25 a pound), against a current copper price of US$2.62 a pound. But those margins are not expected to be enough to allow Hillgrove to make a profit, this year or next, which doesn’t give much of a reason to buy it.
Red River Resources (RVR, 20 cents)
Market capitalisation: $61 million
Share price 2016: +124.7%
Analysts’ consensus target price: 44 cents (Thomson Reuters)
The Australian stock market is short of zinc plays, but one that shows potential is Red River Resources, which is developing the Thalanga project, located about 60 kilometres west of Charters Towers in Central Queensland.
Red River says Thalanga could yield annual production of 21,400 tonnes of zinc, 3,600 tonnes of copper, 5,000 tonnes of lead, 2,000 ounces of gold and 370,000 ounces of silver in concentrate, over the initial mine life of five years, with potential to extend the initial mine life. Thalanga has a low operating cost, a low pre-production capital cost of $17.2 million and importantly, a short timeline to production of six months – once the company presses the button. Speculators would need to see good news flow and further rises in the zinc price.
Heron Resources (HRR, 13.5 cents)
Market capitalisation: $59 million
Share price 2016: +53.4%
Analysts’ consensus target price: 25 cents (Thomson Reuters)
Heron is developing the Woodlawn zinc-copper project, located near Goulburn in southern New South Wales. The company is in the process of spinning-off its non-Woodlawn related exploration and early stage development assets into a newly listed entity, Ardea Resources Limited.
Marindi Metals (MZN, 1.5 cents)
Market capitalisation: $17 million
Share price 2016: +114.2%
Marindi owns the Newman zinc-lead-silver project in Western Australia and the McArthur River zinc tenements in the Northern Territory, and is in the process of buying a 30% stake in the Reward zinc joint venture in the Northern Territory, which includes the Teena prospect, considered one of the best zinc prospects in the world, with a resource of 58 million tonnes at 12.7% zinc and lead.
Content provided by Switzer Super Report.
By James Dunn