Australia | Apr 02 2013
– FY13 production guidance downgraded
-Autoclave failure at Lihir the main cause
-Brokers remain optimistic on long term
By Eva Brocklehurst
What was largely expected has happened for Newcrest ((NCM)). Australia's largest gold miner has downgraded production forecasts for FY13. The problems inherent in being a gold miner were flagged in Could Newcrest Disappoint, Again? on March 4 and one of the concerns has come true just a month later. The potential for problems that are never far from the surface reared up, with a failure of the brick lining in one of the autoclaves at the plant on Lihir Island, PNG. The cost of repair has not been estimated yet but it adds another layer to the ongoing two-year remediation of the old plant. Newcrest has downgraded production estimates for FY13 to 2.0-2.15 million ounces against the previous guidance of 2.3-2.5m ozs.
As our previous story notes, the company has a history of under delivering on guidance, so brokers were disappointed but generally not too surprised. Most had foreseen the company would be hard pressed to achieve the low end of the prior guidance range. Deutsche Bank noted this is the first real downgrade to FY13 production guidance since the FY12 earnings report last August, when guidance for FY13 was first delivered.
No broker on the FNArena database has pulled back on recommendations as a result of this guidance downgrade, with target prices revealing plenty of upside potential.There are no Sell ratings on the database, just four Buy and four Hold. CIMB did predict a production guidance downgrade a month ago after reviewing the Lihir asset, and adjusted the target price down a jot. A Buy rating was retained. Citi justifies a Hold rating thus: remain cautious on NCM's growth profile. The broker then elaborates on the stock's potential: it is leveraged to a positive gold environment through a large, world class reserve with high quality exploration opportunities. In the case of broker's target prices on the database this ranges from $22.10 (Deutsche) to $29.25 (Credit Suisse). The consensus target price of $25.77 shows 28.3% upside to the last traded share price.
Citi calls it growing pains, and longer-term believes the recent investment in upgrades at Lihir should provide potential for strong cash flow. Near-term operational risks, such as that just encountered, are in place. FY13 is viewed as a transitional year while major capital expenditure is undertaken and production comes on stream. Deutsche Bank has now estimated FY13 production at around 2.05m ozs. Moreover, the risks extend to FY14 and this broker's estimates for that year are reduced by 4%, to 2.7m ozs. The refurbishment of the Lihir plant is still a year away from completion and Deutsche Bank finds it hard to be comfortable with the operating capability that is required in order to achieve the 1m ozs expected from that operation in FY14.
Macquarie expected a downgrade but was surprised by the quantum. The broker had thought that lifting Lihir to reach nameplate in February would be a tough ask and had forecast production of around 2.15m ozs. The broker now expects 2.06m ozs for FY13. The bigger issue for Macquarie, as for Deutsche Bank, is the impact on FY14. Newcrest has not issued guidance for FY14 but expects to grow production to 3.1-3.5m ozs by FY17 and the majority of this is expected from Lihir and Cadia Valley. Macquarie has taken a conservative tack and forecasts 2.73m ozs in FY14.
Besides Lihir, which was the major contributor to the downgrade, there were more conservative estimates offered for Gosowong. Management had warned of the need to return to high grade sources there to achieve guidance. While grade has been restored, ground conditions have prevented a more permanent access to the footwall. Other mines are affected by smaller downgrades. Hidden Valley's performance has been poor, Deutsche Bank notes, and the company has downgraded guidance to 80-90,000 ozs from 90,000 ozs. Deutsche Bank has opted for the middle of the range, forecasting 85,000 ozs. Telfer has lost some mining days as a result of Cyclone Rusty but there's been no change to production guidance, while Cadia East is performing as planned.
For BA-Merrill Lynch it is a reminder of just how tough Lihir is as an operation. The broker has downgraded FY13 earnings forecasts by around 15%. Despite the downgrade, Merrills is comfortable with the approach the company has taken at Lihir. In this broker's view the ramp up with the new Million Ounce Production Upgrade (MOPU) has progressed reasonably smoothly and once it is fully integrated it will alleviate legacy issues associated with the old plant. Nevertheless, it will be around six months before the market can become more confident that production will be consistent.
Credit Suisse notes the earnings impact would be equal to the revenue loss from the production loss. On the basis of spot gold assumptions, this could mean a $177 million impact on earnings. So, the broker estimates a 20% downgrade to FY13. Note though, the broker's assumption for foreign exchange is below the spot price and above spot in the case of the gold price. Marking to spot would indicate a further decline in earnings.
Management's guidance for Lihir is now conservative and reflects pro rata autoclave capacity loss. The plant is seen operating at around 80% capacity, equivalent to three out of the four autoclaves. Credit Suisse notes, on the optimistic side, that surplus oxygen could enable the other autoclaves to operate at higher rates. Again, on the positive side, Credit Suisse cites the historical reliability of the autoclaves and the increasing redundancy of autoclaves and oxygen plants should reduce the impact of future autoclave outages.
Newcrest may have disappointed the market with the new production guidance but, as Merrills notes, the company has the longest reserve life of mine (25 years) among its peers (around 18 years). Newcrest trade at a premium on earnings and cash flow multiples and improves on this for 2014/15, based on the production ramp up at Lihir and Cadia.
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