Australia | Feb 11 2013
– Newcrest's production should now ramp up
– Costs should fall
– Guidance looks ambitious
– Brokers positive but wary
By Greg Peel
“The 600koz we forecast in the March quarter,” suggest the analysts at Morgan Stanley, “will be pivotal in confirming progress at Lihir and Cadia Valley East and Newcrest’s ability to deliver”.
Australia’s leading gold miner Newcrest Mining ((NCM)) is at a crossroads. The stock is well known as a perennial disappointment for investors — since 2010 Newcrest’s shares have essentially halved in value even while the gold price has pushed on to all-time (nominal) highs. More recently the company has been pouring money into two major expansion projects even as gold revenues have fallen. Those projects are now operational, hence capex costs will wane from here. Production and revenue growth will nevertheless require Newcrest to deliver on expectations.
The company does not have a great delivery track record.
Newcrest’s interim earnings report, released on Friday, beat most broker expectations, although the “beat” was sourced from financial elements such as greater than expected interest capitalisation. Operationally, the numbers were described by more than one broker as “poor”, albeit mostly in line with analyst expectations. Cash flow was very weak as lower production, lower gold prices and substantial stripping activity met the peak in capital expenditure on the Cadia East and Lihir Million Ounce Plant Upgrade (MOPU) projects during the half.
Management has nevertheless suggested the low end of the previous 2.3-2.5moz FY13 production guidance range remains achievable, but “achieving guidance will be primarily dependent,” management warned, “on the speed of the Lihir plant ramp up and access to high grade ore stopes at Gosowong”. Macquarie echoes the thoughts of most brokers in suggesting this confirmed guidance seems “overly optimistic” and thus, if achieved, could be considered “a beat”. Consensus forecasts have FY13 production at 2.2moz.
Analysts will thus not be too alarmed if Newcrest falls a little short but the same may not be true for investors who have suffered through a long history of expansion delays and production downgrades. JP Morgan is concerned the recent share price rebound beginning in December indicates a rise in investor expectations. It is enough to keep the broker on a Neutral rating.
The good news is Cadia is already progressing ahead of expectations. The Lihir MOPU has also started impressively, but has only effectively been operational for one week. And Gosowong has been performing better in the March quarter to date. Both Gosowong and Hidden Valley nonetheless suffered production downgrades in the December quarter so as far as Citi (Neutral) is concerned, the pressure really is on at Cadia and Lihir. Morgan Stanley notes that to reach the low end of guidance production must improve in the second half by 41% on the first.
If the company can actually deliver on guidance, it still doesn’t mean corks can be popped just yet. Deutsche Bank (Hold) notes cash flow in the second half of FY13 will continue to be negative and further debt will need to be drawn to retain a positive cash balance and to pay dividends. At 12c, Newcrest’s announced interim dividend was a little lower than most expected but no one is surprised given the weak cashflow situation. The gearing ratio is now pushing towards 18% despite the company’s supposed 15% limit, and will likely push a little higher before the peak of capital and operational expenditure (capex and opex) is reached.
The capex and opex peak is a critical factor. A lot of stake has been put in the company’s expansion projects and a lot of money spent. If those projects deliver on improved production they will do so as costs fall, providing upside to both volumes and the first half FY13 “gold price received” of US$1618/oz. It is this combination that leads BA-Merrill Lynch (Buy) to suggest Newcrest is an “attractive proposition”. Macquarie (Outperform) agrees but warns any guidance miss or downgrade could “take the wind out of the sails”.
Morgan Stanley also retains an Overweight recommendation, but the analysts suggest that to achieve guidance, not only will Cadia and Lihir have ramp up as hoped but higher grade ore will need to be accessed at Telfer and Bonikro as well as Gosowong and throughput will need to be increased at Hidden Valley. Altogether, it’s quite an ask.
All brokers agree that FY13 is a pivotal year for Newcrest, that the second half will need to show a big improvement on the first, and that such improvement will need to be evident by the end of the March quarter otherwise wary investors could lose their bottle once more. Merrills’ estimated compound annual growth rate of 8.5% for Newcrest during the growth phase of the next 3-4 years is second only to Goldcorp in the global peer group.
UBS (Neutral) also notes investor sentiment towards gold miners has turned somewhat negative with most broker forecasts sitting a good deal above the current spot. UBS is sticking to its 2013 forecast price of US$1900/oz, for example, while current spot is languishing at around the US$1670/oz mark with 1700 looking like solid resistance at this stage. The sector thus remains “in earnings downgrade mode,” UBS warns.
Newcrest is not a company offering a very positive track record of production and development success, but FY13 and beyond may usher in a new era of growth. Now it’s just a case of delivering. The eight brokers in the FNArena database are to date split four-four on Buy or Hold (or equivalent) ratings, with no Sells. On consensus, earnings growth forecasts of minus 17% for FY13 flip over to 56% growth in FY14.
The consensus price target has been trimmed slightly following Newcrest’s result release to $27.91, offering 13% upside from the current traded price.
See also Rudi's View: Newcrest's Production Ace, published in late October last year.
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