Australia | Nov 01 2018
Western Areas performed to expectations over the September quarter and the outlook now centres on the development plans for the Odysseus mine.
-Reserve depletion has exceeded production at Spotted Quoll, Flying Fox
-Main risk to earnings is a decline in nickel prices
-Odysseus expected to underpin the company's nickel production for the next decade
By Eva Brocklehurst
Western Areas ((WSA)) performed consistently over the September quarter as its major mines at Spotted Quoll and Flying Fox move into steady-state production in their remaining years. Therefore, the commitment to developing the Odysseus mine has come in a timely fashion, brokers suggest.
The main negative observed from the September quarter report is that reserve depletion has exceeded production at both Spotted Quoll and also at the Flying Fox. Credit Suisse suggests the pursuit of low-grade strategies, while commendable and possibly adding value, indicate management envisages limited potential for high-grade extensions at Flying Fox.
Without exploration success at Flying Fox, the $10m in capital spent during FY19 is expected to be the final major outlay for that operation. Macquarie, too, expects both Flying Fox and Spotted Quoll have entered steady-state production and no surprises are likely going forward.
Credit Suisse observes cost escalation is highly visible in the September report, when looking at prior periods of near-identical production and this reflects a cost deferral strategy that is unsustainable. UBS, too, assesses Western Areas as the most leveraged of its ASX nickel coverage because of the cost position. Therefore, a decline in spot nickel prices, amid concerns about global growth, is a risk to earnings and cash flow.
UBS expects the nickel price will appreciate strongly towards US$8/lb in 2021 because of the take up of electric vehicles. If this does occur, the broker believes the company can comfortably fund the Odysseus mine from cash and free cash flow. If prices lean more towards the spot price, currently US$5.30/lb, UBS suspects the funding position will be tight and, if nickel declines even further, assumes additional funds will be required.
Shaw and Partners considers the miner the cheapest in its coverage but acknowledges upside requires a tailwind for revenue, most likely via the nickel price, and the trajectory is as yet unclear.
On Ord Minnett's analysis, the Odysseus project will be commissioning in a much tighter commodity market, as refined nickel supply will be falling at a time when electric vehicle consumption is becoming a material driver of demand. The broker's Speculative Buy rating is predicated on higher medium-term nickel prices, as the market is expected to require more high-grade sulphide supply over the next decade, when Odysseus will be coming online.
Western Areas has committed to the development of Odysseus following a definitive feasibility study which delivered a larger project, increasing life of mine concentrate output by 49% and reducing cash costs by -17%. The increased output will require extra capital, the company has indicated and the total estimate now sits at $299m.
The bulk of expenditure is weighted to the latter stages of development. This means Western Areas can progress the project at a relatively low cost for a couple of years. Shaw and Partners likes the growth initiative as it delivers cash flow out to the 2030s. The broker assesses the situation with Odysseus as similar to the predicament OZ Minerals ((OZL)) faced in recent years with Carrapateena.
Shaw and Partners, not one of the eight monitored daily on the FNArena database, suspects those who are negative about the prospect will have to eventually concede the value uplift and the longevity it brings to cash flow. The broker has a Buy rating and $3.40 target.
Macquarie considers the economics of the Odysseus project robust, which should underpin the company's nickel production for the next decade. The production profile is now stable, the broker calculates, until FY23 at the 20-25,000tpa mark.
Macquarie had anticipated Odysseus would operate at full steam for the last two years of production at Flying Fox and Spotted Quoll. However, first concentrate is now later than expected, and production is not expected to hit a peak of 30,000 tpa over FY22-23.
If nickel prices do not conform to assumptions, Credit Suisse points out management can still revert to a care and maintenance regime in 18 months time. A nickel price that would challenge returns and funding capability can be addressed by deferring higher-capital development and preserving the orebody for a potentially higher future price.
Meanwhile, scoping studies continue at New Morning. Credit Suisse considers the project a low-risk opportunity to prove up and optimise heap leaching and MREP technology. A feasibility study is targeted for the end of the year.
FNArena's database shows five Buy ratings, one Hold (UBS) and one Sell (Morgan Stanley, yet to comment on the quarterly). The consensus target is $3.09, suggesting 38.4% upside to the last share price.
See also, Western Areas Gives Green Light To Odysseus on October 24, 2018.
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