Editorial Contributor
However, over the medium term clear supply demand imbalance is emerging and that should push it steadily higher.
There are in fact three mines within Rio Tinto. Initially, operations will only be on mine one where we have a new NI 43-101 study as of 18th February, prepared by consultants Behre Dolbear. On the other two prospects, EMED has data, but since there is no independent study on it, it cannot be released. But the indications are that it will show enough copper in the ground to both increase production rates after a couple of years and also to extend the life of the mine from 14 years up to 20 or more. But those assumptions are not part of the maths at this stage — they must just be regarded as potential upside, albeit very significant potential upside. The most recent 43-101 indicated that operating costs would be some 15% higher than originally anticipated. That has caused a few folks to worry about the project which in turn, to me, creates a buying opportunity. The maths are actually pretty robust. My calculations are predicated on mine construction starting pre Christmas and production starting half way through 2014. As with any mine there is clear operational gearing — that is to say costs are largely fixed so the profit made is heavily dependent on the price of the commodity sold. As I write, the copper price is $3.64lb and I would not expect it to move sharply higher this year.
48 | www.financial-spread-betting.com | March 2013
The Behre Dolbear report actually uses two copper prices: $2.50 lb which gives a Net Present Value using a 10% discount rate of $171 million, or if we use a price level of $3.50 lb and again a 10% discount rate, this gives an NPV of $427 million — in both cases after tax. At 12p EMED is capitalised at £130 million ($205 million). Thus using a copper price lower than the current copper price and an aggressive discount rate for a fully funded project and assuming nothing for mines two and three the shares should be more than 50% undervalued. Of course at $2.50 lb then the shares are modestly overpriced, but of course the discount rate could be argued is too high. Let’s put it another way — using the same $3.50 copper price and given that mine one has just over 500,000 tonnes of recoverable copper (although this could almost certainly be expanded by further drilling), this project would throw off $130 million a year in free cashflow for 14 years — actually it would almost certainly be up to 50% higher as output increases from year three. But that on its own would see EMED’s debts cleared within 18 months and it then generating two thirds of its current market cap in free cashflow each and every year. I would argue that such an enterprise should be valued at, at least five times base cashflow (given the potential to extend the Life of Mine and add to output). That gives a $650 million value. Knock off the debt and you are still at $460 million — more than twice the current market value.