Lynas Buys Time With Equity Raising

This story features LYNAS RARE EARTHS LIMITED. For more info SHARE ANALYSIS: LYC

-3-6 months to fire up production rate
-Need to prove LAMP capacity
 

By Eva Brocklehurst

Rare earth producer Lynas Corp ((LYC)) will undertake a much-anticipated capital raising, to the tune of $40 million. Brokers expected more money would be needed after assessing the company's interim report in March but several were relieved the sum was not larger. Nevertheless, the company must also re-negotiate its debt profile to stem the cash drain.

A $30m share purchase plan and a $10m institutional placement will be undertaken at a 17% discount. Lynas has also negotiated for Nomura to buy and amend the US$215m Sojitz debt facility. Lynas proposes a single repayment of the entire facility in June 2016, instead of the current staged profile. This would occur one month ahead of the need to repay the Mount Kellett facility which expires in July that same year, meaning a total of US$440m will be due mid 2016. Lynas is developing a rare earths project in Western Australia with a downstream processing facility known as LAMP – Lynas Advanced Materials Plant – in Malaysia.

In UBS' view the company has bought essential time. Assuming the share purchase, placement and debt restructure are completed, the broker estimates Lynas will have sufficient cash until the end of FY16. Based on spot prices UBS estimates the company to be cash-flow break even at a rate of around 920t/month. Lynas does state a break-even sales rate of 750t/month but UBS stresses  this does not include capital and financing costs. If the company were unsuccessful in restructuring the debt, cash is likely to run out at the end of 2014, by UBS' calculation. Lynas has bought additional time to ramp up production and see – there is hope in this – rare earth prices lift.

UBS finds that a positive investment case is difficult to envisage when gearing is around 45% and the company is not breaking even on a cash-flow basis. Still, based on valuation, UBS has upgraded the recommendation to Neutral from Sell. Modelling suggests the company will only be able to achieve the required cash flow if the LAMP consistently produces at the 22,000tpa nameplate rate with a net rare earth price around US$26/kg. UBS observes, from the peak in 2011, rare earth prices have decreased to levels that are unsustainable for many producers. Drivers of demand in this area include energy efficient LED applications as well as in catalytic converters in the vehicle industry.

The company's March quarter production was 1,089t of rare earths, up 47% in the quarter. Sales totalled 751 tonnes and the price achieved was US$22.63/kg, in line with UBS forecasts. UBS expects, with Stage II expansion complete, Lynas will have to expand production beyond 11,000t per annum to achieve positive free cash, and has subsequently lifted forecast production to 15,000tpa from FY16. The key concern in the broker's view is whether there will be sufficient demand to meet this supply when it happens.

Deutsche Bank contends, while the outcome of the equity raising and restructured debt looks positive at face value, the company was $40m down in terms of cash flow during the March quarter, leaving $23m at the end of the quarter. The $40m is less than Deutsche Bank expected but gives the company just 3-6 months to increase production rates towards 11,000tpa and improve cash flow. Deutsche Bank thinks a longer-term debt solution is necessary, as the company would need to repay US$215m in June 2016 and US$225m in July 2016. Meanwhile, the operational hazards still persist and this broker is also concerned about the strength in the ramp-up of rare earth production.

The equity raising announcement was very necessary, in JP Morgan's view, and the stock is cheap, but the broker resists becoming more positive until the new financing facility is finalised and the company can prove the LAMP will operate at capacity and generate cash flow. Moreover, rare earth prices have not rebounded as quickly as the broker previously expected. Lynas is attractive, but not worth lifting from a Neutral rating.

Other brokers are not in a rush to upgrade the stock either. On the FNArena database there are four ratings and all are on Hold. The targets range from 19c (UBS) to 25c (Macquarie and Deutsche Bank) and the consensus price is 22c, suggesting 50.8% upside to the last share price.

See also, Future Fund Raising Damages Confidence In Lynas on March 12.
 

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