- •Contents
- •Investment stance
- •Fears of an economic slowdown
- •Capital cycle favours rising returns
- •Management remains focused on value-creation
- •Comfortable balance sheets and supportive dividend potential
- •Value relative to other stocks
- •Positive earnings momentum
- •Commodity price revisions
- •Preference for base metals over steelmaking materials
- •Steel
- •Metallurgical coal
- •Iron ore
- •Manganese ore
- •Copper
- •Aluminium
- •Nickel
- •Zinc
- •Diamonds
- •Thermal coal
- •Platinum group metals (13mn oz)
- •Gold
- •Our long-term commodity prices should not incentivise over-supply
- •Earnings revisions
- •Risks and catalysts
- •Peer comp charts
- •Commodity price and exchange rate forecasts
- •Important publications
- •African Rainbow Minerals
- •Alrosa
- •Anglo American
- •Assore
- •Exxaro
- •Glencore
- •Kumba Iron Ore
- •Rio Tinto
- •Vale
- •Gold Fields
- •Harmony
- •Polymetal
- •Anglo American Platinum
- •Lonmin
- •Northam
- •Royal Bafokeng Platinum
- •Merafe Resources
- •Evraz
- •Severstal
- •Disclosures appendix
vk.com/id446425943
Metals & Mining
Slowdown could present opportunities
vk.com/id446425943
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Sector update |
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Equity Research |
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14 January 2019 |
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Metals & Mining |
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Global |
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Johann Pretorius |
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+27 (11) 750 1450 |
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Metals & Mining |
JPretorius2@rencap.com |
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+27 (11) 750 1481 |
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Steven Friedman |
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Slowdown could present opportunities SFriedman@rencap.com |
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Kabelo Moshesha |
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We have a neutral outlook on the metals & mining sector overall. |
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KMoshesha@rencap.com |
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We believe a cyclical slowdown in commodity demand could |
Siphelele Mhlongo |
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weigh on near-term prices. However, underinvestment in new |
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supply could support commodity prices over the medium term. |
SMhlongo@rencap.com |
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Most management teams remain focused on value-creation |
Derick Deale |
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through efficiency and productivity gains, rather than embarking |
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on value-destructive volume growth. We believe most commodity |
DDeale@rencap.com |
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prices are only around mid-cycle levels and company valuations |
Charles Robertson |
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are undemanding. Our revised commodity price and currency |
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+44 (207) 005 7835 |
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forecasts result in minor adjustments to our TPs for a number of |
CRobertson@rencap.com |
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miners (details in Figure 2). We downgrade our rating on Anglo |
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American to HOLD following its share-price recovery, given a |
Summary sector ratings and TPs (ranked by total |
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rising capex profile and due to our near-term commodity demand |
potential 12M return, including estimated dividends) |
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Company |
TP |
Previous Current |
Rating |
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concerns. Our top picks are the Russian steel producers, Norilsk |
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TP |
price* |
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Nickel, Polyus Gold and Exxaro. |
Evraz, GBp |
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620 |
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620 |
475 |
BUY |
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Norilsk, $ |
24.0 |
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24.0 |
20 |
BUY |
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Near-term economic growth concerns… |
Severstal, $ |
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17.1 |
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17.1 |
14 |
BUY |
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Merafe, ZAR |
1.6 |
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1.6 |
1.4 |
BUY |
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NLMK, $ |
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26.4 |
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26.4 |
23 |
BUY |
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We remain concerned about the potential negative impact of a trade war on the |
Fortescue, AUD |
5.4 |
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5.4 |
4.5 |
BUY |
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Rio Tinto, GBP |
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46.0 |
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46.0 |
38 |
BUY |
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global economy. Interest rates have been rising against the backdrop of high global |
Polyus, RUB |
6,300 |
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6,300 |
5,287 |
BUY |
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debt levels. Falling equity markets have already provided a warning of slower global |
Exxaro, ZAR |
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150 |
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160 |
134 |
BUY |
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MMK, $ |
9.6 |
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9.6 |
8.4 |
BUY |
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growth expectations. We lower many of our near-term commodity price forecasts to |
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ARM, ZAR |
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150 |
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150 |
136 |
BUY |
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reflect our expectation of an economic slowdown, which reduces our earnings |
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Alrosa, RUB |
109 |
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106 |
102 |
BUY |
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forecasts for some miners and results in slightly lower TPs (Figure 2). Mining |
Impala, ZAR |
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45 |
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45 |
38 |
BUY |
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companies have significantly deleveraged their balance sheets since 2015, and we |
Vale, $ |
15.5 |
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15.5 |
14 |
BUY |
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South32, ZAR |
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37 |
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37 |
33 |
HOLD |
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believe comfortable balance sheets position them better for a cyclical downturn. Gold |
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Glencore, ZAR |
55 |
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60 |
50.7 |
HOLD |
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producers will likely outperform other miners in a global risk-off environment. Polyus |
Assore, ZAR |
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300 |
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320 |
294 |
HOLD |
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is our top pick among gold producers. |
BHP, ZAR |
300 |
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310 |
297 |
HOLD |
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AMSA, ZAR |
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4.2 |
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4.2 |
3.8 |
HOLD |
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…but underinvestment in new supply supports rising returns… |
Anglo, ZAR |
320 |
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340 |
312 |
HOLD** |
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Polymetal, GBP |
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8.6 |
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8.6 |
8.7 |
HOLD |
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Sibanye, ZAR |
11.1 |
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11.1 |
11 |
HOLD |
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We believe sector capex has been cut to a level that could result in supply deficits |
Amplats, ZAR |
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540 |
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540 |
549 |
HOLD |
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Northam, ZAR |
40 |
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40 |
43 |
SELL |
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over the medium term. Capex/depreciation, which averaged around 2x over the past |
Kumba, ZAR |
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220 |
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220 |
275 |
SELL |
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16 years, is still only at around 1x, which is not enough to replace depleting mines, in |
RBPlats, ZAR |
25 |
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28 |
SELL |
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our view. We therefore forecast mine production to decline over the next 10 years. |
Gold Fields, ZAR |
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43 |
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43 |
51 |
SELL |
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Harmony, ZAR |
21 |
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27 |
SELL |
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This could underpin rising commodity prices and sector returns over the medium |
Lonmin, ZAR |
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7.0 |
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7.0 |
9.1 |
SELL |
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term. Undemanding mining company valuations could favour sector consolidation |
AngloGold, ZAR |
110 |
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110 |
181 |
SELL |
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over investment in new supply, which could be share-price-supportive. |
*Priced at market close on 7 January 2019. |
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**Previously Buy. |
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Source: Thomson Reuters Datastream, Renaissance Capital estimates
…and management remains focused on value-creation
Management teams continue to focus on value-creation through productivity, costcontainment and capital efficiency rather than volume growth, which is often valuedestructive. Many miners are now highly FCF-generative, despite our view that commodity prices are only around mid-cycle levels and supported by industry costs. We believe a potential pullback in share prices due to a cyclical slowdown could therefore present a buying opportunity from a medium-term perspective.
Important disclosures are found at the Disclosures Appendix. Communicated by Renaissance Securities (Cyprus) Limited, regulated by the Cyprus Securities & Exchange Commission, which together with non-US affiliates operates outside of the USA under the brand name of Renaissance Capital.
vk.com/id446425943
Contents
Investment stance |
3 |
Fears of an economic slowdown |
6 |
Capital cycle favours rising returns |
12 |
Management remains focused on value-creation |
15 |
Comfortable balance sheets and supportive dividend potential 18
Value relative to other stocks |
20 |
Positive earnings momentum |
22 |
Commodity price revisions |
23 |
Preference for base metals over steelmaking materials |
25 |
Our long-term commodity prices should not incentivise over-
supply |
46 |
Earnings revisions |
47 |
Risks and catalysts |
49 |
Peer comp charts |
51 |
Commodity price and exchange rate forecasts |
52 |
Important publications |
54 |
Company profiles |
55 |
African Rainbow Minerals |
55 |
Alrosa |
56 |
Anglo American |
57 |
Assore |
58 |
BHP |
59 |
Exxaro |
60 |
Fortescue |
61 |
Glencore |
62 |
Kumba Iron Ore |
63 |
Norilsk Nickel |
64 |
Rio Tinto |
65 |
South32 |
66 |
Vale |
67 |
AngloGold |
68 |
Gold Fields |
69 |
Harmony |
70 |
Polymetal |
71 |
Polyus |
72 |
Anglo American Platinum |
73 |
Impala |
74 |
Lonmin |
75 |
Northam |
76 |
Royal Bafokeng Platinum |
77 |
Sibanye |
78 |
Merafe Resources |
79 |
ArcelorMittal SA |
80 |
Evraz |
81 |
MMK |
82 |
NLMK |
83 |
Severstal |
84 |
Disclosures appendix |
85 |
Renaissance Capital
14 January 2019
Metals & Mining
2
vk.com/id446425943
Investment stance
Renaissance Capital
14 January 2019
Metals & Mining
Neutral investment stance on diversified miners
We have a neutral outlook on the metals & mining sector following strong share-price recoveries since 2016’s lows. We believe a cyclical slowdown in commodity demand could weigh on near-term prices.
We believe a potential pullback in metals & mining company share prices could present a medium-term buying opportunity, given our view that sector capex has been cut to a level that could result in supply deficits over the medium term. This could support rising commodity prices and sector returns. We believe management teams continue to focus on value-creation through productivity, cost-containment and capital efficiency rather than volume growth, which is often value-destructive.
Many miners are highly FCF-generative, despite our view that commodity prices are only around mid-cycle levels and supported by industry costs. We believe most commodity prices have not yet recovered to a level that would incentivise greenfield projects.
Given that share prices are still below 2008 levels, despite strong FCF, we calculate attractive FCF yields for many miners.
Attractive FCF yields
We calculate that the sector generated higher FCF yields over the past three years than anything achieved in the previous decade. Spot FCF is still at attractive levels, in our view, compared with the previous decade.
Figure 1: Market cap-weighted FCF yield*, % per calendar year ($ terms)
Ashare-price pullback could present a medium-term buying opportunity
15% |
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13% |
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13% |
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11% |
10% |
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6% |
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7% |
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5% |
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9% |
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5% |
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7% |
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0% |
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-5% |
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-10% |
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-10% |
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-15% |
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2003 |
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2007 |
2008 |
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2015 |
2016 |
2017 |
2018E |
Spot |
Note: Priced at market close on 7 January 2019.
*FCF yield is determined using equity shareholders' cash flow.
Source: Company data, Thomson Reuters Datastream, Renaissance Capital estimates
Following several years of strong cash generation, we think most balance sheets are now comfortable. We believe the sector-wide adoption of payout-ratio-based dividend policies, rather than ‘progressive dividends’, is likely to result in better capital allocation and attractive dividend yields.
We believe continued capital discipline, deleveraging and attractive dividend-paying potential could support share prices.
Attractive dividend yields likely now that balance sheets are comfortable
3
vk.com/id446425943
Earnings momentum remains positive and we calculate further upside risk to consensus earnings forecasts if spot commodity prices prevail. The biggest risks we see are a cyclical downturn in commodity prices and poor capital allocation. The key upside risks to our cashflow forecasts and valuations are stronger-than-forecast commodity prices or weaker-than- forecast producer currencies.
Renaissance Capital
14 January 2019
Metals & Mining
Positive earnings momentum
Cautious on PGM sector following margin recovery
Earnings momentum remains positive for platinum group metals (PGM) miners as commodity prices have recovered strongly. However, we see potential downside risk, as we calculate the spot PGM basket price is trading above cost support for the first time in seven years, making it more vulnerable to escalating fears of a global slowdown. Despite the recovery in sector margins, we still struggle to calculate much value in the sector and believe poor capital allocation risk could be increasing, given improving returns, healthy balance sheets, the sector’s lack of commitment towards dividends and the industry’s historical willingness to invest at value-destructive returns in the hope that PGM prices recover strongly in the medium-to-long term.
Positive earnings momentum could wane in a global economic slowdown
Preference for high-margin, capital-efficient gold miners
We maintain our preference for the Russian gold miners over their SA peers as we believe they are better positioned to create long-term value, with a track record of valueaccretive growth through prudent capital allocation and a commitment to returning cash flows to shareholders. SA gold miners, in our view, are hampered by their uncompetitive costs and capital inefficiency, which result in lower returns and increase the risk of valuedestruction if they try to maintain or grow production volumes. However, over the near term, we believe increasing geopolitical uncertainty and escalating fears of a global slowdown could continue to increase investment demand for gold as a safe-haven asset, providing some support for the price. In a rising gold price environment, we believe the more operationally and financially geared SA-listed gold miners could outperform on positive earnings momentum.
Russian gold miners better positioned to create long-term growth relative to their South African peers
Steel companies offer attractive FCF yields
Our steel price forecasts are derived from input costs plus normalised margins, which results in what we view as attractive operating profits for the Russian steel companies under our coverage. We believe depressed capex levels – below historical averages – aid near-term cash generation. We calculate FY18-21E FCF yields of 9%, on average, for the steel producers. We believe the steel companies’ balance sheets are comfortable, with average FY19E net debt/EBITDA of 0.6x. We think the combination of supportive FCF generation and comfortable balance sheets could translate into supportive near-term dividends in FY19-21E; we forecast average dividend yields of 10%.
Key downside risks to our investment stance are: 1) US sanctions against Russian steel makers or the impact of sanctions on the Russian economy; 2) steel import duties and tariffs in export markets against Russian steel makers; 3) reduced cash generation, weighed down by company project investment activities and by potential governmentimposed investment projects; and 4) earnings momentum has turned negative for the steel producers we cover, which we believe could weigh on share-price performance. We calculate 28% downside to consensus 12M forward earnings using spot commodity prices and currencies.
We forecast average dividend yields of 10%
4
vk.com/id446425943
Renaissance Capital
14 January 2019
Metals & Mining
Revisions to our forecasts, TPs and ratings
Our commodity price and currency revisions, as detailed on pages 24-25, resulted in earnings revisions, as detailed on pages 49-50.
We reduce our TP for Anglo American by 6% to ZAR320 as we incorporate lower base metal price forecasts and increase our capex forecasts closer to management’s guidance during the December 2018 investor day. We downgrade our rating on Anglo American to HOLD (from Buy) following its share-price recovery, given a rising capex profile and due to our near-term commodity demand concerns.
We downgrade Anglo American to HOLD
We reduce our TP for Glencore by 8% to ZAR55 due to lower base metals price forecasts |
Glencore TP reduces 8% |
and as we increase our equity risk premium from 6% to 6.4% to reflect: 1) the riskier |
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countries in which Glencore operates; and 2) uncertainties around a potential corruption |
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and/or money-laundering investigation by the US Department of Justice. |
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We reduce our TP for Exxaro by 6% to ZAR150 as we reduce our long-term coal margin |
Exxaro TP reduces 6% |
forecasts somewhat. |
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We reduce our TPs for Assore (by 6% to ZAR300) and BHP (by 3% to ZAR300) as we |
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incorporate lower price forecasts for steelmaking materials. |
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We increase our TP for Alrosa by 3% to RUB109 as we incorporate slightly weaker rouble |
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forecasts. |
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Companies ranked by total potential one-year return
Figure 2 shows the companies under our coverage ranked by potential 12-month returns, based on our TPs.
Figure 2: Summary sector ratings and TPs (ranked by total potential 12M return, including estimated dividends)
Company |
Unit |
12M TP |
Previous |
Current |
12M target |
12M fwd |
Total 12M |
12M forward |
Rating |
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12M TP |
price* |
capital return |
dividend yield |
return |
rolling P/E |
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Evraz |
GBp |
620.0 |
620.0 |
475.4 |
30.4% |
15.0% |
45.4% |
5.9x |
BUY |
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Norilsk |
$ |
24.0 |
24.0 |
19.5 |
23.1% |
10.9% |
33.9% |
9.3x |
BUY |
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Severstal |
$ |
17.1 |
17.1 |
14.3 |
19.6% |
11.8% |
31.4% |
8.1x |
BUY |
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Merafe |
ZAR |
1.6 |
1.6 |
1.4 |
14.3% |
14.0% |
28.3% |
6.2x |
BUY |
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NLMK |
$ |
26.4 |
26.4 |
22.9 |
15.5% |
12.3% |
27.9% |
8.8x |
BUY |
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Fortescue |
AUD |
5.4 |
5.4 |
4.5 |
19.2% |
7.0% |
26.2% |
9.2x |
BUY |
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Rio Tinto |
GBP |
46.0 |
46.0 |
38.3 |
20.1% |
5.6% |
25.7% |
10.7x |
BUY |
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Polyus |
RUB |
6,300.0 |
6,300.0 |
5,286.5 |
19.2% |
6.4% |
25.5% |
6.5x |
BUY |
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Exxaro |
ZAR |
150.0 |
160.0 |
133.9 |
12.1% |
10.0% |
22.0% |
6.0x |
BUY |
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MMK |
$ |
9.6 |
9.6 |
8.4 |
14.7% |
7.2% |
21.9% |
11.2x |
BUY |
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ARM |
ZAR |
150.0 |
150.0 |
135.8 |
10.4% |
10.1% |
20.5% |
6.0x |
BUY |
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Alrosa |
RUB |
109.0 |
106.0 |
101.6 |
7.3% |
12.8% |
20.1% |
6.7x |
BUY |
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Impala Platinum |
ZAR |
45.0 |
45.0 |
37.5 |
19.9% |
0.0% |
19.9% |
7.9x |
BUY |
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Vale |
$ |
15.5 |
15.5 |
13.8 |
12.1% |
7.5% |
19.5% |
9.4x |
BUY |
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South32 |
ZAR |
37.0 |
37.0 |
33.2 |
11.5% |
6.9% |
18.4% |
11.1x |
HOLD |
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Glencore |
ZAR |
55.0 |
60.0 |
50.7 |
8.4% |
8.5% |
16.9% |
9.4x |
HOLD |
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Assore |
ZAR |
300.0 |
320.0 |
294.3 |
1.9% |
8.4% |
10.3% |
6.8x |
HOLD |
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BHP |
ZAR |
300.0 |
310.0 |
297.0 |
1.0% |
8.8% |
9.8% |
12.9x |
HOLD |
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ArcelorMittal SA |
ZAR |
4.2 |
4.2 |
3.8 |
9.4% |
0.0% |
9.4% |
24.9x |
HOLD |
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Anglo American |
ZAR |
320.0 |
340.0 |
311.6 |
2.7% |
5.9% |
8.6% |
8.7x |
HOLD |
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Polymetal |
GBP |
8.6 |
8.6 |
8.7 |
-0.7% |
6.7% |
5.9% |
7.4x |
HOLD |
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Sibanye-Stillwater |
ZAR |
11.1 |
11.1 |
10.6 |
4.9% |
0.1% |
5.0% |
5.3x |
HOLD |
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Anglo American Platinum |
ZAR |
540.0 |
540.0 |
549.3 |
-1.7% |
2.2% |
0.5% |
13.6x |
HOLD |
|
Northam |
ZAR |
40.0 |
40.0 |
42.6 |
-6.1% |
0.0% |
-6.1% |
11.9x |
SELL |
|
Kumba Iron Ore |
ZAR |
220.0 |
220.0 |
274.5 |
-19.9% |
9.0% |
-10.9% |
11.2x |
SELL |
|
RBPlats |
ZAR |
25.0 |
25.0 |
28.2 |
-11.3% |
0.0% |
-11.3% |
8.0x |
SELL |
|
Gold Fields |
ZAR |
43.0 |
43.0 |
50.7 |
-15.1% |
3.5% |
-11.6% |
8.9x |
SELL |
|
Harmony |
ZAR |
21.0 |
21.0 |
27.1 |
-22.4% |
3.5% |
-18.9% |
4.2x |
SELL |
|
Lonmin |
ZAR |
7.0 |
7.0 |
9.1 |
-23.3% |
0.0% |
-23.3% |
1.6x |
SELL |
|
AngloGold |
ZAR |
110.0 |
110.0 |
181.0 |
-39.2% |
1.2% |
-38.0% |
8.1x |
SELL |
Note: Priced at market close on 7 January 2019.
Source: Thomson Reuters Datastream, Renaissance Capital estimates
5