Capex Plans To Feature For Fortescue Metals

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This story features FORTESCUE LIMITED.
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Fortescue Metals delivered record June quarter shipments but brokers remain concerned about the lack of detail on capex in FY19, hoping some uncertainties will be allayed in the August results.

-Current share price factoring in a realised iron ore price around US$44/t
-Short pay-back period signalled for Eliwana
-Difficult to ascertain opportunity without targets
 

By Eva Brocklehurst

Fortescue Metals ((FMG)) offers upside if it can enhance its product mix and improve realised pricing, brokers suggest, yet the comapny's positive quarterly performance was eclipsed by concerns about forthcoming capital expenditure.

The company delivered record quarterly shipments, helped by less time spent on unplanned maintenance and weather delays as well as the usual push on productivity at the end of the financial year. These features, as well as a focus on diversifying the customer base, underpin estimates for FY18. FY18 shipments totalled 170mt and FY19 guidance is 165-173mt. The latter, UBS suggests, is a reflection of the flexibility required as the company changes its product mix.

Macquarie reduces FY18 and FY19 and estimates for earnings by -9% to reflect lower assumptions on price realisation. The broker estimates the current share price is factoring in a realised price around US$44/t. June quarter realised prices were 58% against the index and brought FY18 realisations to 64%. No guidance was provided for FY19.

Citi forecasts an average realisation of 67% in FY19 against an index price of US$63/t, increasing to 72% in FY20 against an index price of US$58/t. The broker downgrades to Neutral after adjusting for costs, price realisation and capital expenditure. Ord Minnett was disappointed with the lack of detail surrounding capital expenditure although, importantly, notes the Eliwana budget of US$1.28bn is unchanged.

Increased Capex

Ord Minnett was disappointed with the lack of detail surrounding capital expenditure although, importantly, notes the Eliwana budget of US$1.28bn is unchanged. Capital expenditure will increase in FY19 because of accelerated spending on Eliwana that could start earlier than previously assumed. First ore is due in December 2020. At this stage it is unclear as to the split on project expenditure and further detail is expected with the financial results in August.

Costs are higher than Bell Potter estimated and the capital expenditure for Eliwana is expected to lower free cash flow forecasts. Nevertheless, the broker is of the view that Fortescue Metals is in a strong position to pursue Eliwana and the capital intensity points to a short pay-back period on a mine life that is more than 20 years.

The broker, not one of the eight monitored daily on the FNArena database, considers the stock high quality and retains a Buy rating with a $5.45 target. Shaw and Partners, also not one of the eight, views lower provisional pricing as the only blemish in the June quarter.

The recovery in the share price will be a slow burn, the broker suspects, supported by valuation metrics and correlations. Some catch up is due, given the iron ore price has significantly outperformed the company's share price since late May and typically these are well correlated. Shaw and Partners has a $5.60 target and Buy rating.

Cloudy Outlook

Credit Suisse finds more questions than answers. The broker acknowledges Fortescue is focusing on optimising margins to meet market demand as a new product strategy is implemented, but finds a lack of context for what is occurring in the market presently, and no clarity on what 60% product volumes are being targeted in FY19 or the longer term. It is also unclear if volumes ex China will be higher or lower in FY19.

Credit Suisse accepts the cost profile is evolving, amid sector-wide pressures, and has no issue with the fact Fortescue is not targeting a majority of production over 60% any more. It is just difficult to ascertain the opportunity without any targets.

A decision regarding the Iron Bridge magnetite project is expected by the end of the year, described by Credit Suisse as a "black box" as there is no detail on expenditure. Ord Minnett recognises the re-rating catalysts are long-dated but retains its Accumulate rating based on the undemanding valuation.

FNArena's database shows five Buy ratings and one Neutral (Citi). Consensus target is $5.29, suggesting 21.6% upside to the last share price. The dividend yield on FY18 and FY19 forecasts is 4.5% and 4.9% respectively.

See also, Could Eliwana Reduce Fortescue's Discount? on June 4, 2018.

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