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Western Areas Hostage To Nickel Upside

Australia | Jan 25 2018

Western Areas generated positive cash flow and sustained record production in the December quarter but most brokers are wary about the upside, given the nickel price implied in valuations.

-Potential for larger mine at Odysseus could mean longer life
-Mill production needs to lift 6% in the second half to achieve top end of guidance
-Mill recovery enhancement could unlock more resources over time


By Eva Brocklehurst

Western Areas ((WSA)) increased production in the December quarter, maintaining steady cash costs amid an improved nickel price. This generated positive cash flow but brokers differ on their outlook for nickel going forward and most suggest upside is already factored into the stock.

The company sustained record mill production, but the timing of shipments meant sales were weaker than some expected. The definitive feasibility study for Odysseus has been delayed to the June quarter, pending a larger mine plan which could extend the life to 10 years. Shaw and Partners welcomes the delay to this development for this reason. CLSA, on the other hand, remains cautious on this aspect and awaits more details.

The company is considered to be on track to achieve FY18 guidance of 23-25,000t. The ore sorting campaign meant continued feed of additional lower-grade material in the December quarter, which supported a record throughput at the mill but reduced overall recoveries by -1%. The milling of this material is expected to be completed in the March quarter.

Deutsche Bank retains forecasts at the top end of this production guidance but calculates that mill output will have to lift 6% in the second half to achieve it. Canaccord Genuity also notes a stockpile of a 102,000t at 3.4% nickel could support higher milled tonnage in the coming quarters.

Nickel Price

CLSA finds the company's operations hard to fault but considers the upside to the nickel price is capped. The broker, not one of the eight stockbrokers monitored daily on the FNArena database, asserts the Western Areas valuation implies an unsustainable rise in the nickel price, maintaining a Sell rating and $2.60 target.

Given current sentiment is positive about nickel, and based on its price forecasts, Canaccord Genuity, also not one of the eight, does not envisage much value in the ASX nickel equity segment either, and maintains a Sell rating and $3.00 target.

Still, Western Areas remains the broker's preferred nickel play, given its leverage, and despite having a shorter mine life than Independence Group ((IGO)). The superior leverage of Western Areas, the broker believes, is achieved through higher nickel revenue exposure as well as the advanced projects in the pipeline.

Citi acknowledges the company, at the current rate, is on track to meet FY18 guidance and the Forrestania mill recovery enhancement project could increase nickel recoveries to over 90% from the current 86%. The definitive feasibility study on Odysseus, which could make Cosmos the company's second mining centre, should be presented before the June quarter report.

The company is a consistent and high-quality producer but Citi judges it too expensive. While the broker concedes some upside to its valuation if nickel prices exceed expectations, for now it retains a Sell rating and $2.50 target.

The nickel market is volatile from a pricing standpoint but Shaw and Partners believes it is skewed to the upside on fundamentals, because of a forecast shortfall in nickel production available for the electric vehicle market in the medium to longer term. Credit Suisse also believes strong interest from the battery market in the high-grade nickel concentrate should support the business.

Shaw and Partners suggests a finalised half-year nickel price could potentially be higher because the January nickel price is currently averaging more then the December price. Costs are tracking just below guidance at the mid point so, given a lower US dollar trend, the broker expects the company to deliver at the lower end of guidance on costs.

A stable operating base and a commodity price tailwind are pushing the stock to new highs, but Shaw and Partners, not one of the eight, maintains a Buy rating with a $3.75 target.

Mill Recovery Enhancement

Macquarie observes that the company has a consistent operating performance and the potential for a larger development at Odysseus presents upside risk to forecasts. The completion of the mill recovery enhancement could also deliver higher payback for high-grade product, and potentially unlock some of the lower grade resources over time.

The broker notes there are 280,000 tonnes of nickel in resource at Forrestania which are not currently incorporated into its production profile. The main negative for Macquarie was the mining of lower-average grades which resulted in total nickel in ore coming in -4% lower than expected. The broker notes there was also some variability across mines as Flying Fox reported higher tonnage and lower grade while Spotted Quoll reported lower tonnage and higher grades.

FNArena's database has one Buy (Macquarie), one Hold (Credit Suisse) and five Sell ratings. The consensus target is $2.81, suggesting -16.9% downside to the last share price.

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