SASAC approval granted - Speculative Buy
AOH has been advised by the Sichuan Railway Investment Group (SRIG) that approval has been received from SASAC for SRIG to go ahead with the investment of US$214M in the Cloncurry Copper Project, currently owned by AOH.
SRIG still needs Sichuan provincial government approval and Australian FIRB approval, but SASAC (State owned Assets Supervision and Administration Commission) was the major hurdle. The remaining approval processes should follow, allowing deal completion within the next few months. AOH has extended the closing date of the agreement to June 2017. The deal has been in the works since mid-2015.
Under the agreement SRIG will invest US$214M (A$282M) cash, and AOH AOH will invest US$25M (A$33M) cash, into a JV company in which AOH will hold 34%, and SRIG 66%. The JV will be fully funded into production with a cash position of A$314M covering the pre-production capex requirement of A$294M for the Cloncurry project, according to the 2014 DFS estimate.
Cash up front – no dilution, no debt
Cash funding means AOH will avoid equity dilution and debt costs. Effectively AOH’s undiluted, pre-developed project value is preserved through the JV agreement and is converted to a fully funded 34% interest.
AOH will initially operate the JV. SRIG is a provincial government owned industrial conglomerate with plans to diversify into mining. The copper concentrate from Cloncurry will be available for sale to independent smelters.
Cloncurry - +30ktpa Cu in concs, US$1.75/lb C1 cost.
AOH’s 34% share of production is estimated to average 12ktpa Cu equivalent over a 12 year project life. There are opportunities for higher output in early years, and for extension of the project life through exploration. The JV will also review the Cloncurry DFS in light of more competitive contractor rates, and the influence of infrastructure now built for Dugald River.
Hartleys estimate a post deal value for AOH of 36cps, using consensus copper price forecast of US$2.75/lb. Operating (C1) costs of US$1.75/lb and total (C3) costs of US$2.00/lb are forecast.
LME copper passed US$2.75/lb this week for the first time since mid-2015. Cloncurry is expected to come in mid-cost curve.
Focus to switch to project delivery.
The AOH/SRIG agreement is an unusual one in the context of Australian mine development. Deal execution risk is now low, leaving project execution as the main controllable risk. A residual discount to valuation may persist until the AOH/SRIG JV proves to be an efficient development vehicle, or until the upside potential of the district’s copper endowment is brought into focus. Hartleys’ Net Asset Valuation of AOH is 34 cps and the 12 month target share price is 27cps.
AOH is valued assuming 34% ownership of an incorporated JV with SRIG. The Cloncurry project is valued according to the base assumptions outlined in AOH’s 2014 feasibility study. The Little Eva pit comprises 72% of project reserves. An average waste:ore ratio of 2:1, earth movement costs ranging from A$6.20 to $7.30/bcm (ore and waste), and unit treatment + G&A costs of A$9.50/t ore are assumed. Project start-up is projected in 2019, with initial capex of A$260M. Concentrate freight to an offshore smelter, TCRCs of US$98/t concs and 9c/lb Cu, 97% payability for both copper and gold.
Cash flows are discounted at 8%, real and after tax.
AOH and SRIG will jointly manage the project under the incorporated JV. AOH directors have experience building and managing copper operations in Northern Europe. SRIG has limited experience in mining project construction and management, and AOH will nominate the majority of the initial JV management committee. Long term, AOH’s interests in the JV are protected by veto rights over major JV investment decisions.
Many successful mining projects have been operated under incorporated JVs around the World. Alignment of objectives and financial support capacity usually underwrites success. AOH and SRIG will need to continue to establish trust and common goals. A 20% discount is applied to the estimated NAV, to reflect AOH’s minority status in the incorporated JV.