Material Matters: Oz Miners And Debt, Base Metals and Ammonium Nitrate

This story features ORICA LIMITED, and other companies. For more info SHARE ANALYSIS: ORI

 – Oz miners and debt repayments
 – Contrasting views on nickel outlook
 – Aluminium carry trade to continue
 – Zinc carry trade now out of the market
 – Ammonium nitrate demand outlook positive
 

By Chris Shaw

Given commodity prices have struggled in recent months, Goldman Sachs has assessed the debt positions of mining companies under coverage and their ability to meet debt repayments in the event the commodity pricing environment worsens going forward.

Using criteria including debt repayment schedules through to June 2015, projected cash flow, running cash balances and quarters where payments may be greater than the available running cash balance, Goldman Sachs suggests Aquarius Platinum ((AQP)), Western Areas ((WSA)), Alumina (AWC)) and OceanaGold ((OGC)) require further analysis.

For Aquarius, Goldman Sachs sees sufficient cash to pay the outstanding Booysendal payment in the final quarter of this year, while still giving the company the financial flexibility to complete the ramp-up of the Everest project. If full expropriation of the Mimosa mine occurs, then the broker suggests Aquarius will require additional funds of as much as US$50-$60 million by later this year.

Western Areas has $105 million due this July, which compares to a cash balance for June of $69 million, $45 million in a facility to purchase the Lounge Lizard nickel assets and $80 remaining in a debt facility. Convertible bonds are due in July of both 2014 and 2015, but on the numbers of Goldman Sachs Western Areas has enough funds to pay for these as they fall due. 

While Alumina has around US$53 million repayments due by the end of this year, the company has US$295 million in undrawn facilities, leaving Goldman Sachs reasonably comfortable that the company won't need to raise additional cash to meet this repayment. 

The position worsens in 2013 as Alumina is forecast to generate a cash flow loss of around US$90 million, along with US$150 in debt repayments. This puts Alumina at risk of requiring further funding near the end of next year, so any metal price outcome lower than currently forecast will increase these risks in the view of Goldman Sachs.

OceanaGold has a cash balance lower than combined debt repayments due to December of next year but Goldman Sachs notes this shortfall is modest at around US$5 million. This offers scope for the company to cut back on exploration or capex before needing to raise additional funds. 

Goldman Sachs suggests it is likely OceanaGold is in discussions with banks in relation to a revolving credit facility. Success here would give the company scope to deal with these payments if the gold price were to underperform in coming years. 

In the view of Goldman Sachs, the outlook for nickel has deteriorated sharply in the first half of 2012, as stainless steel production is likely to fall slightly while nickel supply in the first half of the year has risen by around 9% relative to the same period last year.

Looking ahead, Goldman Sachs suggests 2012 is likely to see the first significant production from high pressure acid leach (HPAL) operations such as Ambatovy and Ravensthorpe as well as rising ferronickel production from the Onca Puma and Barro Alto projects.

Outside of this new production, Goldman Sachs suggests China's nickel pig-iron (NPI) sector is the price sensitive swing capacity. Here the broker expects NPI output will fall this year given lower metal prices.

Overall the expectation of Goldman Sachs is global nickel production is expected to increase by around 3% this year compared to 2011, while consumption growth for the metal is likely to increase by around 1% relative to last year.

This implies the nickel market is set for extended surpluses, with little prospect for any demand-led pricing tension prior to 2016. Despite this, Goldman Sachs notes cost inflation is pushing up annual average prices slightly.

In terms of price forecasts, Goldman Sachs expects nickel will trade below its mid-cycle long-term forecast of US952c per pound through 2016. Given such an outlook nickel remains the broker's least preferred commodity, with no pure-play exposure recommended at the present time.

Commonwealth Bank is not as negative on the outlook for nickel prices, largely given the view there may be a tightening in refined nickel markets as new HPAL projects are simply too complex. This offers the scope for further project delays or for production to fall short of expectations, meaning markets may remain tight such as in 2010-2011. For CBA, this offers scope for nickel prices to rise from current levels.

Still on the base metals, Macquarie suggests the aluminium carry trade, where stock holdings are financed through the forward price curve, is set to continue. As Macquarie notes, the aluminium forward curve has been comfortably in contango for the past two to three years, so the incentive to accumulate the metal has put stockholders in competition with consumers.

This has seen spot premiums bid up to record levels, helped by the fact a large proportion of on-warrant aluminium stockbuild has been channeled into a small number of warehouse locations in recent years. This curbs customer access, thus pushing just-in-time manufacturers back into the physical market where balances are tight.

This is pushing up spot pries, Macquarie noting some spot sales in the last few days in a number of Asian countries have been reported at premiums from US$210-$250 per tonne for good western grade ingot. 

While the risk-reward balance on premiums is tilting given the increasingly large downside relative to upside at current levels, Macquarie suggests the potential for premium appreciation continues to encourage the aluminium carry trade.

In contrast, Macquarie notes the zinc carry trade now appears to be out of the money, meaning more units are being offered into a market that is currently in surplus and is facing seasonally softer demand conditions. This combination is putting zinc premiums under pressure and adding to downside risks for exchange prices, even though the market already appears to be short the metal. 

Turning to the ammonium nitrate market, Macquarie remains positive on the demand outlook given $34 billion in iron ore and $23 billion in coal mining and infrastructure projects are either under construction or already have commitments in place. This, and increasing strip ratios, should support volume related growth from both higher production and greater intensity of ammonium nitrate (AN) use. 

On the supply side Macquarie notes AN projects tend to be multi-year, long lead time projects, which offers scope for new projects to take longer to construct and ramp up. This means if demand expectations were to change significantly, there is potential for AN expansions to be pushed out or for ramp-ups to take longer.

Over the past decade the AN industry has enjoyed rational pricing and Macquarie sees this continuing in coming years. This implies adjustments to any material changes in market conditions to avoid a large AN oversupply situation. 

The trend of rising construction costs leads Macquarie to suggest a higher AN price is needed to generate a required return. While pricing of around $600 per tonne had been enough to support recent project expansions in Australia, the broker notes this has moved up to more than $700 per tonne given higher labour and construction costs.

In terms of AN market exposure the main plays in Australia and Orica ((ORI)) and Incitec Pivot ((IPL)), both of which Macquarie rates as Outperform. In relative terms Macquarie prefers Incitec Pivot as the stock is trading at a valuation discount to Orica of around 20% at present. This gap is expected to close on a successful start-up of the Moranbah plant.

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