Is Regis Resources Priced For Perfection?

This story features REGIS RESOURCES LIMITED. For more info SHARE ANALYSIS: RRL

Regis Resources impressed in FY17, delivering strong gold production. Risks for FY18 are skewed to the upside largely because of the potential at Duketon.

-Strip ratios at new pits are falling, which should be positive for costs
-McPhillamys offers upside, yet uncertainties exist
-Is the stock priced for perfection?

By Eva Brocklehurst

Regis Resources ((RRL)) continues to deliver new sources of ore and extend the life of its Duketon gold project in Western Australia. The company's June quarter result concluded a sturdy year of operations, delivering on guidance with strong free cash flow.

Citi downgrades to Neutral from Buy based on valuation, after a 60% run up from the December 2016 low. Nonetheless, the broker maintains a positive view on the stock and believes the risks for FY18 are skewed to the upside, largely because of exploration potential at Duketon, and the prospect for feasibility/permit progress at McPhillamys in NSW.

Canaccord Genuity was impressed with the performance of Duketon operations in FY17. Given an upgrade to prior FY18 guidance, the broker believes the recent positive share price performance is warranted and maintains a Hold rating. The broker, not one of the eight monitored daily on the FNArena database, raises the target to $3.70 from $3.55.

June quarter gold production was a record 90,400 ounces, up 14% on the March quarter. Importantly, FY17 gold production was up 6.3% and within guidance. All-in sustainable costs (AISC) were  $945/oz.

FY18 guidance of 335-365,000 ounces at an AISC range of $940-1010/oz has been set, supported by the higher grades from satellite deposits. Canaccord Genuity notes the company has beaten guidance on these costs for the past two years.

Duketon

The high grade satellite program has introduced gold from Gloster to the northern feed, which includes Moolart Well, and introduced Erlistoun to the southern feed, which includes Garden Well and Rosemont. Both new satellites have elevated initial strip ratios that will be lower in FY18 and support higher production forecasts at lower costs.

Credit Suisse observes the outlook for Duketon is now more positive and visible that it has been for several years and the project's reconciliation issues appear confined to history.

The two key questions broker has are: how much can the resource grow and what are the constraints in converting the resource to reserve? The Banygo and Tooheys Well satellites are still to be developed and will use the mining capacity released by the declining strip ratio. These will commence in the second half of FY18 and support production growth, the broker suggests, given higher grades will be displacing lower grade ore sources into FY19.

The company is also focused on the possibility of an underground mine at Rosemont, which could operate concurrently with the five-six-year open pit to maintain utilisation at the mill.

The  company's strategy of commercialising high grade satellite resources has been highly successful but UBS highlights these are being commercialised in a deliberate sequence, which reflects a view of the quality/economics of the targets.

Therefore, the risk is that the next six targets recently announced could be of lower quality. They are, on average, further away from the mill. UBS remains concerned that the market may be already capitalising these future targets.

McPhillamys

Meanwhile, the company has made good progress at McPhillamys, including the options for sourcing water. Aside from the patience required for permits in Australia's more populous eastern states, Citi observes the key to success at McPhillamys could be capital expenditure.

Typically, with a large volume, low-cost open pit mine, value is optimised with higher capex, which brings high volumes and low operating expenditure. The broker models McPhillamys at 7mtpa at 1g/t with 85% recovery over 10 years, producing 191,000 ounces.

Operating expenditure is estimated at $1,000/oz and capex of $200m, including a water pipeline. This generates an unrisked net present value of around $213m. The broker makes these assumptions on the basis of the company's $190m capex at the 7.5mtpa Garden Well/Rosemont mines in FY12-13.

Citi acknowledges capital costs in NSW could also be higher than WA, and any increase in capex could quickly cut into the value. The broker notes the company will need to balance its expectations again sensitivities to mining in an agricultural area, where issues such as scale, noise, and the use of chemical reagents in the Lachlan River catchment are key.

Macquarie believes McPhillamys offers more upside than ever, although the timeline for development and details around costs remain uncertain. The broker notes currency moves also present negatives for all Australian gold producers.

As two alternative water solutions have been articulated, Credit Suisse observes the next two milestones are the maiden reserve and updated resource, due during the September quarter, with a definitive feasibility study in the December quarter. These two information milestones should better define the project, in the broker's opinion.

Credit Suisse now attributes 75% of its valuation of McPhillamys in its target, up from 50% previously and prior to the water solutions. The 75% reflects the uncertainties around assumptions and the ultimate timing and performance of the project.

UBS has questions regarding costs at McPhillamys, especially given the escalation in power prices in NSW. Outside of this, with growth in domestic production, low costs and a strong balance sheet the broker believes the stock's premium valuation has been well earned.

UBS considers the stock is priced for perfection and the risks are skewing to the downside, retaining a Sell rating. Nevertheless, the broker acknowledges that, for small cap investors, there is not much else in the gold sector that screens as favourably.

There is one Buy rating (Ord Minnett, yet to comment on the quarterly), three Hold and four Sell on FNArena's database. The consensus target is $3.37, suggesting -12.0% downside to the last share price.
 

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