Growth Options Increasingly Drive Newcrest

This story features NEWCREST MINING LIMITED. For more info SHARE ANALYSIS: NCM

Newcrest Mining has improved the outlook for its two key mines, Cadia and Lihir, although brokers remain mindful that production declines beyond 2020 will drive a renewed focus on growth options.

-Shareholder returns to be linked to free cash flow
-Near-term upside case for Cadia production slightly reduced
-Risks of a concentrated portfolio highlighted
 

By Eva Brocklehurst

Newcrest Mining ((NCM)) has improved the outlook for its two key gold mines, Cadia (NSW) and Lihir (PNG), although brokers remain mindful that production declines beyond 2020 will drive a renewed focus on growth options.

In FY17 the balance sheet benefited from a US$250m swing around in working capital, leading to gearing of just 17%, a contrast to the 34% gearing level of just three years ago. FY18 guidance of 2.4-2.7m ounces sits reasonably well with brokers but they observe costs are starting to creep up. Guidance implies all-in sustainable costs are up 8% to US$850/oz because of higher capital expenditure, but also an assumption of a US80c Australian dollar rate.

Dividend Policy

The company has announced a new dividend policy, linking shareholder returns to free cash flow. Going forward, the total dividend paid out will be 10-30% of free cash flow, with a minimum of $0.15 per share per year.

Deutsche Bank highlights the certainty this provides to shareholders, allowing the company to withhold capital when investing, although this sets an FY18 dividend of 15-25c, which implies around 1% in dividend yield. FY18 guidance has been provided for the first time, at 2.4-2.7m ozs and 80-90,000t copper for the full year.

Deutsche Bank, Ord Minnett and Morgans maintain Hold ratings on valuation. Morgans considers the business in good financial shape, although given higher capital and operating expenditure guidance suggests the company is unlikely to be in a position to lift the dividend off the minimum until FY19.

Growth in earnings per share remains impressive into FY19 and the main catalysts should be the ramp up in production at Cadia by June next year, in Citi's view. Both Citi and UBS believe management would not have reaffirmed a ramp-up target unless it was confident in the post-earthquake recovery at Cadia.

Project Outlook

Cadia guidance has increased 4% to 680-780,000 ozs for 2017 and is expected to be back at previous operating rates by the March quarter 2018. In the wake of the earthquake the company is still to re-interpret the PC2 cave shape and define the air gap, and until this happens extraction rates cannot increase.

When production certainty is achieved, metal produced should briefly peak for a couple of years on a peak average grade, Credit Suisse calculates. Elevated cash during this period is expected to more than fund the capital required to further expand the operation.

Meanwhile, the broker observes that Lihir has a modest capital trajectory that will continue to ramp up mill capacity and improve recovery. Macquarie is impressed with the continued improvement and rising throughput at Lihir and now has a more bullish outlook for the project, bringing forecasts in line with guidance.

Yet, the opposite is the case at Cadia, as the slightly better ramping up in FY18 is offset by a reduction in the broker's expansion case. The company has reduced its near-term upside case for Cadia to 30mtpa from 32mtpa. On the conference call, management announced it was confident Cadia would achieve nameplate at around 25mtpa in the December quarter.

UBS urges caution on this front, as meeting guidance will depend on the mining inspectorate lifting the prohibition notice. Cadia and Lihir comprise almost 100% of the broker's gross asset value and the risks inherent in the concentrated portfolio appear to have come to fruition this year following the seismic event at Cadia.

Development of Wafi-Golpu also appears to have been delayed. Macquarie observes low expenditure suggests first production is still at least three years away. Meanwhile, Gosowong had a strong year and significantly exceeded guidance, remaining a solid contributor to overall ounces.

Credit Suisse notes Bonikro is increasingly challenged, as the grade appears destined to reflect the reserve grade, at which the operation does not generate cash. Macquarie concurs, believing the former two are fast running short of reserves and the company could start to look elsewhere for growth.

As both these sites are failing to respond to management's attention Credit Suisse suggests there is little justification to put new capital at risk for production that may be constrained by future of mining lower grades amid greater costs.

Hence the company is becoming a two-asset operation, Cadia and Lihir, with all others mature and in decline. Longer-term, Credit Suisse believes the SolGold investment opportunity in Ecuador is a compelling route but will require material capital in 5-10 years.

The broker expects rising energy costs on Australia's east coast will challenge Cadia, as energy cost increases in FY18 have not been offset by other reductions or productivity gains. The broker maintains an Underperform rating.

FNArena's database has five Hold ratings and three Sell. The consensus target is $20.18, signalling -6.7% downside to the last share price. Targets range from $14.00 (UBS) to $23.00 (Citi).
 

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