Alumina Ltd Cuts A Better Deal From JV

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Alumina Ltd has cut a better deal from its AWAC joint venture with Alcoa and brokers welcome the development.

-Access to bauxite and alumina off-take even if change of control occurs
-Improvement in governance, debt and distribution policies
-Market may attribute more value to AWC through takeover premium
 

By Eva Brocklehurst

After a protracted period of discussion which was leading to a court case, now abandoned, Alumina Ltd ((AWC)) and Alcoa have agreed on amendments to their 40:60 AWAC joint venture. Brokers welcome the development as concerns over the AWAC JV had mounted after Alcoa announced a restructuring and de-merger.

Essentially, the changes involve access to bauxite and alumina off-take in the future if there is a change of control and a termination of exclusivity provisions. No longer does a buyer of either company have to vend in the JV, or divest, any of its bauxite or alumina assets. There is also improved alignment on governance, such that Alumina now has more say over acquisitions or divestiture. Debt and distribution policies are also improved.

UBS holds the view that the market has long treated the requirement that any owner of AWAC must hold its interests within the JV as a barrier to a change of ownership. As a result it has restricted any existing player in those commodities from acquiring Alumina.

History is illustrative in that, when Western Mining divested Alumina Ltd in 2002 it expected a standalone alumina business would become more attractive as an acquisition, yet 14 years on the company is still on its own. UBS does not expect the new arrangement will produce any immediate response from a prospective owner but may well mean the market attributes more value to Alumina through a takeover premium.

Changes to distribution policy will mean AWAC distributes surplus cash above a net cash position of US$140m, which is in line with most broker forecasts and distribution estimates are largely unaltered.

A takeover of Alumina Ltd is unlikely, Macquarie argues, as only Mubadala and Hongqiao have a strategic need for alumina, and both are in the process of expanding their own upstream refining capacity. The broker continues to exclude any takeover premium from valuation and its recommendation (Underperform) hinges on a bearish view on alumina. Nonetheless the changes are incrementally positive for AWC as it becomes more attractive as a strategic investment and has secured greater involvement in decision making for the JV.

Macquarie does flag the fact that the changes only take effect post the separation of Alcoa assets in the second half of 2016. Both parties will settle litigation ahead of the court trials which were scheduled to commence on September 20. The broker also believes the changes to AWAC's minimum distribution policy are unlikely to cause major differences to the outlook as AWAC has a history of distributing well in excess of 50% of lagged earnings.

Either Alumina or Alcoa can now decide to expand an existing asset or develop a new project and, while this is a positive, Deutsche Bank points out that there are limited high-return growth projects in the portfolio. The broker believes the amendments are supportive over the long run but immediate benefits hard to quantify. The broker is also cautious about the alumina price in the second half because of the re-starts to Chinese refineries and new low-cost supply.

Morgan Stanley welcomes the changes and keeps an Overweight rating on Alumina, but remains wary of the potential that a debt-laded partner (Alcoa) trades on lower multiples and this translates back to the market's view of the stock. The changes do not affect AWAC's cash flow or earnings in the short term and Ord Minnett, therefore, considers the announcement value neutral. Still the investment appeal of Alumina is improved and the broker has an Accumulate rating.

Shaw and Partners, not one of the eight stockbrokers monitored daily on the FNArena database, also has a Buy rating with a $1.60 target and believes the stock is a stand-out value opportunity. The broker observes the stock has lagged broader Australian mining peers in recent months and the revamping of the AWAC JV could be a catalyst to address the underperformance.

There are two Buy ratings, three Hold and two Sell on the database. The consensus target is $1.39, suggesting 4.6% downside to the last share price. Targets range from $1.00 (Macquarie) to $1.70 (Morgan Stanley). The dividend yield on 2016 and 2017 forecasts is 5.6% and 4.7% respectively.
 

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