Price Uncertainty Clouds Atlas Iron’s Outlook

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-Plan to aggregate ore processing
-Railway the key to unlock resources
-Uncertainty over growth, capex, costs
 

By Eva Brocklehurst

Iron ore junior, Atlas Iron ((AGO)), reported strong sales figures for the March quarter but this involved drawing down on stockpiles of lower grade ore. It may have been a record in terms of shipments but the issue for most brokers is the price the company needs to achieve for its iron ore. The company has also outlined an ambitious plan for a hub in the Pilbara to draw together its various projects.

Despite the increase to FY14 sales volume forecasts, Deutsche Bank notes the impact on the top line is minimal, as both the grade and price were disappointing. Unit costs increased to $55/t and this has reduced the broker's earnings forecasts by 13%. The upside for the stock is heavily dependent on obtaining a rail deal for Horizon II and the pre-feasibility study at McPhee's Creek. To Deutsche Bank the valuation could go either way depending on the outcome of these two issues. Until the outlook is clearer the broker retains a Hold rating. Atlas is currently assessing the option of developing a blending and crushing centre at Corunna Downs, to aggregate ore from satellite mines, McPhee Creek and, possibly, Mt Webber. This necessitates putting the rail pre-feasibility on hold until the proposal is assessed and Deutsche Bank expects this could take another six months.

While this is a significant change to prior plans CIMB thinks it is a positive adjustment, offering the option for a more staged development pipeline and it could, while delivering added tonnage, offer a more economically viable solution. Nevertheless, the broker's viewpoint is based on securing that all-important commercial rail access agreement and obtaining a commitment from a third party for development capital, potentially in combination with an off-take agreement. CIMB has lowered FY14 profit expectations by 14.7% and marginally lowered second half capex in line with company guidance. CIMB believes Atlas still faces substantial hurdles and retains a Reduce rating.

The realised price in the quarter was slightly below Macquarie's expectations, while operating costs were higher than expected. Headline earnings were a surprising miss in quarter and the company was cash flow negative. The rail and port funding solution is the catalyst for unlocking the Horizon II resources and this is where Macquarie believes there is upside risk to the base case valuation. Until such a deal is forthcoming the broker is maintaining a Neutral recommendation. JP Morgan also holds a Neutral view, preferring Fortescue Metals ((FMG)) in the sector. This broker considers there's too much uncertainty regarding the company's growth plans, capex and cost profile to be comfortable with a more positive view.

The company's plan for a hub at Corunna is a best case scenario and it's going to be costly, in BA-Merrill Lynch's opinion. The broker suspects it could have a price tag of more than US$1 billion. While plausible, many pieces need to fall into place for the plan to go ahead. None the least is the iron ore price, which the broker observes is forecast to be lower than the current price at the time when the outlined plan comes into play. This is a major risk, as the iron ore price is skewed heavily to the demand profile coming out of China. Upside risks lie with a commercial rail solution that opens up the Horizon 1A asset and additional exploration success to emulate the recent success at Corunna.

The future is as clear as the iron ore price, in Credit Suisse's opinion, as the company is just breaking even at US$90/t. The broker doubts if either the update on Corunna Downs exploration or the McPhee Creek pre-feasibility mid year will be enough of a a catalyst to move the market without a rail solution. The broker concedes, having so much prospective ground with high resource potential, where it was always proposing to build a railway, is highly significant. It brings Corunna Downs into the McPhee Creek arena. The stock is in good shape and the broker expects capex to decline rapidly from the June quarter, so cash should be rebuilt over the second half of the year …depending of course on the iron ore price.

There are two Buy ratings on the FNArena database, three Hold and three Sell. The consensus price target of $1.02 signals 7.3% downside to the last share price and compares with $1.06 ahead of the quarterly. Targets range from 77c (CIMB) to $1.30 (Credit Suisse).
 

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