Sid Ruttala continues his journey through the ASX20. This week his notes visit and review Newcrest Mining (NCM.ASX) and Woodside Petroleum (WPL.ASX). A must read for the Australian investor.
If you have missed them, the earlier parts to Talking Top Twenty, can be found here:
Part 1: The Banks - CBA & WBC
Part 2: The Banks - NAB & ANZ
Part 3: BHP & Fortescue
Part 4: CSL & Wesfarmers
Part 5: Woolies & Macquarie
Part 6: Telstra & Rio
Part 7: Transurban & Goodman
Newcrest Mining (NCM.ASX)
Before proceeding to the numbers for Newcrest. Let me start with the disclaimer that I personally remain bullish on the yellow metal despite recent messiness in the price action. This is due to 1) inflation expectations; 2) real yields (which are arguably already negative in the US) and 3) long-term bearishness on USD (given fiscal incentives and increased debt issuance) to which it has an inverse correlation. That said, my ‘prediction’ of $3000 USD does seem some way away. It is not unfathomable however for the shiny metal to cross the $2000 USD rubicon with short-term catalysts, including the Basel III requirements that changes the treatment of gold on the balance sheets of dealer banks (transforming it into a risk-free asset so long as physical bullion is held) and making it increasingly expensive/difficult to short the market.
With all that said, we come back to NCM. Solid results so far from Newcrest with management continuing to show balance sheet discipline as well as committing to a payout ratio of 30-60% free cash flow with a minimum set at 15c per/share. Numbers-wise, AISC (all in sustaining cost) margins came in at $842/oz, up 48%, but slightly below the $862/oz it was the last time we undertook this exercise (though this can primarily be attributed to spot prices). Production for 3Q FY21 came in at 512koz, slightly below the previous quarter but primarily due to maintenance at Cadia and Lihir which was in line with my expectations. Underlying profit came in at $553m with EPS of 67.7 cps (121% higher). FCF (Free Cash Flow) came in at $439m.
From a deleveraging perspective, net debt was reduced to $330m despite the acquisition of Red Chris. To give a little context around this, debt stood at approximately $3.7bn in 2014. Looking more in-depth, production across Cadia surprised on the upside while Lihir continued to disappoint somewhat and Red Chris, with a decline of 19% in production, is still very much a work in progress (largely driven by weather events). Management has indicated that the company continues to take advantage of a buoyant copper price however, with current revenues being 29% copper and expected to be lifted to 39% by 2030.
NCM also delivered its Initial Resource Estimate for Red Chris during the quarter, with 13 MoZ of gold and 3.7Mt of copper for open pit. We expect the coming project feasibility study (PFS) by the end of September and this is likely to be a key catalyst for the underlying share price during the year. NCM, in my view, remains undervalued in comparison to its peers with the market discounting the copper mix (i.e. in comparison to ASX100 gold producers) with approximately 0.7-0.8x NAV using a spot price of 1900USD/oz.
Red Flags & Risks: I remain of the view that NCM offers a better risk-return proposition among gold majors given the reserve life of 21 years, a number significantly higher (by about 50%) than their nearest competitors in Barrick (ABX.TSE) and Newmont (NEM.NYSE). Previous concerns included cost management and operational leverage but management has been showing decent momentum in its discipline. The biggest risk going forward is macro rather than company specific. That is, the short-term volatility in both Gold and Copper markets. Jurisdictional risks are also rising, especially in terms of the exploration projects in Chile (where the tax regime is likely to change substantively), Covid-19 also put a cap on exploration, especially in Ecuador.
My Expectations: We remain optimistic about the price of gold given the global monetary and fiscal policy environment. The key catalysts are likely to come from Havieron and newsflow around the box cut excavation in Red Chris. If the current pipeline is executed correctly, production could double across both projects in the coming decade. For me, it was not a buy at the time of my previous notes but, given the current valuation, it is now a proposition worth considering.
Dividend Yield: Assuming a share price of $27.60 AUD, then the current yield stands at about 1.45%.
Woodside Petroleum (WPL.ASX)
Again, a disclaimer before proceeding further into the results. My macro view around the energy markets, and Brent in particular, is bullish. Saying that, when I previously made my predictions on the market I was expecting a recovery to $80 USD/barrel by the end of the year, even I was not expecting the recovery to be this quick. Brent futures at the time of writing are currently tracking at $71.83 USD/barrel. Granted, it has been helped in part by recent cyber-attacks across key pipelines in the US. The fact that the price action has been bullish despite Covid-related headwinds in India, the 3rd largest consumer, is a clear indication that there is significant upside before the year is out as India comes back online. India, by the way, accounts for close to 6% of global consumption because of her reliance on diesel. What surprised me however was the production stateside, which has continued unabated in the Permian Basin. We now expect supply bottlenecks to come through later than expected (i.e. due to a lack of investor appetite for financing any further higher-cost production or new exploration).
That brings us to WPL, a company that remains at the forefront of the Federal Government’s ambitions when it comes to LNG production and domestic gas supply. Numbers wise, production came in at 23.7 mmboe (millions of barrels of oil equivalent), a 5% decline but in line with expectations nevertheless. What was disappointing however was the realised sales price with nearly half the delta coming from sales volume timing (that is the hedge book). The company has in my opinion been rather too conservative in its approach. Nevertheless, revenues were up 22% QoQ to $1.2bn USD. What has been pleasing is the LNG side. Though the company has indicated a blow-out in capex, relating to the North West Shelf JV, and low-pitched legacy contracts (pertaining to the same), they have been taking advantage of higher prices across the Asian markets. Importantly, the Pluto T2 and the works across the KGP interconnecter seem to be progressing as they should, with a final investment decision to come shortly in the 2H21.
Woodside also updated Sangomar capex which was increased to $4.6bn USD (an increase of $40m), reflecting increased costs in the current operating environment. My view was that the original guidance was on the optimistic side, especially for a company known for its conservatism. Nevertheless, this is where the next set of growth for this company is likely to come from and we still remain of the conviction that management showed some substance in its acquisition from FAR and its pushing out of Lukoil. WPL maintains a strong balance sheet with Net Debt remaining at $2.5bn, likely to decrease substantially in the event of a sell-down of Pluto over the coming 24-months (WPL’s exit of the Kitimat LNG project in Canada is also likely to add another $40-50m USD profit to the balance sheet, though they have indicated that this will be excluded that in the dividend calculation. Prudent but disappointing for the short-term investor).
Red Flags & Risks: The company remains well-capitalised. Their goal of net-zero emissions by 2050 should also see it become more palatable for the ESG focussed investor and institutional flows. The bigger risk however remains short-term volatility in the price of oil and OPEC. Broadly speaking, the vaccination uptake across the bigger consumers, such as India, will be key to the future of the spot market and WPL as a result. It is a reflation trade.
My Expectations: In my previous notes I had mentioned that I would look to accumulate at anything below $20 per share, this is now anything below $25 per share. Long-term price target, assuming an oil price of $80 USD/barrel, is $45.
Dividend Yield: The yield is a solid 5.7%, assuming a share price of $24 AUD.
On a nominal basis, this is likely to stay consistent for the next 12-24 months and there is potential for significant upside thereafter.
Disclaimer: WPL is currently held in some TAMIM individually managed account (IMA) portfolios.
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