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Sandfire: Risk vs Reward In Africa

Australia | Jun 27 2019

Sandfire Resources’ copper project acquisition in Botswana looks very promising to brokers but it is not without inherent risk.

-Purchasing MOD Resources equals copper project acquired in Botswana
-Transaction helps solve limited DeGrussa mine life issue
-Introduces geopolitical risk

By Greg Peel

The copper price hasn’t been doing miner Sandfire Resources ((SFR)) any favours of late but for potential investors the issue has always been the company’s flagship project – DeGrussa in Western Australia –only having four years of mine life left. Thus if one were looking to back a longer term recovery in copper prices, Sandfire was not really the stock to go to.

Reasons to back an eventual copper price rebound are myriad; lack of new global supply growth; a potential resolution to The US-China trade war; increased Chinese stimulus, on top of existing projects (eg Belt & Road); and assumed demand growth globally for electric vehicles, particularly in China, for example.

Sandfire had previously acquired the Black Butte project in Montana but was continuing to look for other opportunities, and indeed it was previously known that a particular project in Botswana had caught the company’s eye.

Sandfire has now secured the T3 copper project on the edge of the Kalahari in Botswana by fully acquiring owner MOD Resources ((MOD)) in a cash/scrip offer which will see Sandfire’s share count increase by 12%.

Sandfire’s share price fell -11% on the news.

It has since made around half of that back, following analyst assessments of the deal. Shareholders were clearly jolted at first the dilution of their holding as well as the risks involved with investing in Africa, where many a bad experience has been had in the past.

The T3 copper project is small-scale and to date unpermitted, offering an eleven-year mine life and a projection of 28kt per annum copper production at a cost of US$1.35/lb, based on a feasibility study. Construction could commence in 2020 with first copper due in 2021, or maybe a bit later if, as Macquarie suggests, Sandfire looks to refine the development metrics for the project.

While the project might be small-scale at this point, in acquiring MOD Sandfire has also acquired an 11,700 square kilometre tenement in which discoveries have previously been made, suggesting the potential for an extended mine life for T3 or perhaps another stand-alone project.

In terms of what this acquisition costs Sandfire, Morgan Stanley notes that despite effectively paying a 45% premium to MOD based on its share price at the time, the cost is still below an estimated $309m net present value for T3.

Of the five FNArena database brokers who have reported their assessments of the deal to date, all have given it the thumbs up. T3, along with Black Butte, should now counter the declining DeGrussa operation and keep Sandfire in the game. The price is fair, the prospects are promising, and extensive untapped tenement looks highly prospective.

If only it weren’t in Africa.

While all brokers acknowledge this risk, Credit Suisse goes into greater detail.

The project is not yet connected to grid power. The project is not yet permitted. The government of Botswana retains the right to acquire up to a 15% stake for 15% of the sunk capital to date ($33m), although then has the obligation to contribute 15% of development capital. Botswana is in Africa, and there has been many a foreign mining company come to grief in the past with projects in this volatile continent.

To that end, Credit Suisse has retained an Underperform rating on Sandfire. However, Macquarie and Morgan Stanley have retained (equivalent) Buy ratings, while Morgans has upgraded to Hold and Ord Minnett to Accumulate based on the sharp share price plunge on the day, which they believe is unwarranted despite the risks.

The three database brokers yet to pipe up were all on Hold previously, leaving a current spread of three Buy, four Hold and one Sell (Credit Suisse). No one who did report saw a need to alter their target prices, although Morgans took the opportunity to apply a slight currency adjustment.

Targets range from $6.15 (Credit Suisse) to $8.45 (Morgan Stanley) but as is the case with any miner, valuations are beholden to individual copper price assumptions and currency assumptions and even slight variations in longer date forecasts can produce quite a wide spread in today’s valuation.

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