Report: Matt, you
cover four companies in the iron space with market caps that range from Cliffs Natural Resources Inc.
(CLF:NYSE) at $4.2 billion and Labrador Iron Mines Holdings Ltd.
(LIM:TSX) to Alderon Iron
Ore Corp. (ADV:TSX; AXX:NYSE.MKT) and New Millennium Iron Corp.
(NML:TSX) with market caps around $200 million.
In Q1/12, all of them were worth double what they are trading at today. Why
should investors be interested in these companies?
Gibson: We have started to see positive trends
in the iron ore space. Chinese port inventories have started to tick down,
while capacity utilization globally and in the U.S. has started to tick up
for steel companies. Iron ore prices have rebounded from lows of $86/metric
ton (Mt) to the $118–120 Mt level.
TGR: Are larger
companies like Cliffs being punished for their acquisitions or is the
across-the-board share price decline all about low steel prices and global
MG: I think
most of it has to do with iron ore prices and sentiment regarding Chinese
have started to see positive trends in the iron ore space."
Cliffs, the slow ramp-up at its Bloom Lake mine, which has led to elevated
cash costs at the facility and lower margins, has not helped. Delays to the
planned expansion and the downward revision of the mine plan to an ultimate
capacity of 14 Mt have not helped either. Finally, higher operating costs put
pressure on the company's balance sheet.
TGR: A recent
CIBC World Markets' research report stated, "Despite elevated
inventories of steel and iron ore, Chinese steel mills continue to maintain
daily crude steel output near record levels." As you mentioned, that
seems to be changing. But is it changing quickly enough?
MG: I think
China's infrastructure announcement earlier in the fall helped draw down some
of the inventories. Certainly, the overcapacity issue in China has a lot to
do with the fragmented nature of the industry there, and that will take some
time to play out. However, the Chinese government has been putting efforts
into consolidating production into larger, more efficient operations.
Chinese bought in at much higher prices on several juniors in the iron space.
Do you think the Chinese regret that decision or was this always about the
real interest is not so much from an investment point of view as it was about
longer-term offtake, securing supply of iron ore and being able to diversify
away from reliance on the big three producers.
September, you dropped your 2012 near-term iron ore price forecast from
$143/Mt cost, insurance and freight (CIF) to $128/Mt CIF. That also caused
you to lower your target prices for the four iron companies you cover. Have
we reached a bottom to the price drop?
MG: Near term,
I believe prices found a floor in the $110–120/Mt level. That's pretty
much where most estimate the average cost of production to be in China.
said, the upside or potential price increases will be limited by growth in
China and economic growth in Western Europe.
TGR: Would you
say your view of global economic growth is reasonably bullish?
MG: There are
some positive indications and I am optimistic that 2013 will be a better year
than 2012, and that will be good for the iron ore sector.
TGR: Let's move
to your coverage, starting with Alderon Iron. Your 12-to-18 month target
price on that company is $5.20, more than double its current share price.
What about Alderon and its Kami Iron Project engenders
that kind of confidence?
management team has experience developing and building these types of assets.
Several people on the management team have a background with Consolidated
Thompson or with the Iron Ore Company of Canada, which have operated in the
Labrador Trough for a long time.
remains one of the tightest markets from the fundamental supply-and-demand
also has a strong partnership with the largest Chinese steel producer. This
is a producer that has only a small fraction of its iron ore supply captive
there are potential catalysts on the horizon, including the release of
definitive feasibility studies, rail agreements and permitting.
Natural Resources went on a spending spree a few years ago, buying Consolidated
Thompson, KWG Resources, Freewest Resources and Spider Resources, among
others. Earlier, you attributed some of that drop to issues at Bloom Lake.
But do you think Cliffs took on too much in those acquisitions?
MG: I think
Cliffs got caught in a difficult position when it bought development assets
just when prices turned. In retrospect, it looks as if the company may have
stretched or overextended itself, but if prices stay stable things will look
different a year from now.
TGR: You have a
Sector Perform rating on Cliffs and a $55 target price, not quite double its
current price. What will it take to get Cliffs from here to there?
needs to get up to full production at Bloom Lake. It has been ramping up and
doing a lot of predevelopment stripping for a number of different mining
phases. In U.S. accounting practices, all of those expenses have to be
expensed on the income statement and impact cash costs. In other
jurisdictions, those cash costs would be capitalized and amortized over a period.
the stripping is done, Cliffs has multiple phases up and running. When Bloom
Lake hits the 7 Mt annualized capacity mark, it should be able to drive its
costs down on a per tonne basis.
let's talk about Labrador Iron Ore Royalty. It started out as an income
trust—a form of company that does not exist in the U.S.—and is
now a dividend-paying corporation. Why did the company make that change and
how will it affect investors?
MG: As an
income trust, Labrador Iron Ore Royalty was basically a flow-through vehicle
for the royalty income and dividend stream coming out of the Iron Ore Company
of Canada. It was organized that way for tax efficiency purposes. The
Canadian government changed its stance on how those types of vehicles are
taxed and most of the income trusts converted back into dividend-paying
the near term, small-cap producers offer some attractive valuations and a
lower risk way to play copper compared to development companies."
do not think anything has changed in how Labrador Iron Ore Royalty will
operate. The company also is expanding annual capacity from 17 Mt to 23.3 Mt
on an asset at Iron Ore Company of Canada that is run by Rio Tinto Plc (RIO:NYSE; RIO:ASX; RIO:LSE; RTPPF:OTCPK). Increased sales volume
from that should contribute to higher royalty income and likely a large
special dividend from Iron Ore Company of Canada in the latter half of 2013.
shareholders be pleased with this change in structure?
MG: The real
impact for an individual investor is the change from getting part of the
distributions in the form of interest payment, to getting it all as a
dividend. For individual investors in Canada, it is more advantageous to
receive everything as a dividend; I'm not sure about the tax implications for
actually represents one of the lower-risk plays in iron ore if you want
exposure to iron ore while getting paid to hold the stock. Over the last 12
months, Labrador Iron Ore Royalty has distributed $1.50/share to shareholders,
which represents about a 5% yield on the current stock price. The
distribution could increase to $2.30/share in 2013.
TGR: Is your
target price on Labrador Iron Ore still $40?
MG: Yes, it
TGR: The fourth
company you cover is New Millennium Iron Ore. It is developing the Direct
Ship Ore (DSO) project in Northern Québec. Tata Steel Ltd. (TTST:LSE; TATLY:OTC) has already agreed to take 100% of the
ore produced, correct?
MG: Yes. The
DSO Project is under construction. In 2012, it produced around 300,000 tons
of sellable product, and will probably do about
2–2.5 Mt in 2013.
TGR: The total
resource at DSO is 125 Mt. How does that compare to other companies of
similar size in this space?
MG: The DSO
resource base is similar to Labrador Iron Mines Holdings Ltd.'s (LIM:TSX) resource located nearby. Labrador Iron is more of a
seasonal operator and delivers its product through Iron Ore Company of
Millennium will operate year round in an enclosed structure and sell its
product initially through port facilities owned by a local aluminum plant in
Sept-Îles and later through the multiuser port that the Port of
Sept-Îles is now building. That facility should be completed at the end
of 2013 or early 2014.
TGR: Do you
consider it an advantage that 100% of the offtake at DSO has been secured by
MG: I suppose
one could see that as a potential risk. But at the end of the day, Tata is
the lead operator of the DSO project and New Millennium has a free carry into
production. Unless Tata's view of the Corus steel manufacturing facility in
the U.K. changes, this offtake should be fairly secure and on typical
commercial terms priced on international benchmarks.
TGR: Do you
think New Millennium is secure enough in exchange for that 100% offtake
offtake agreement gets New Millennium to the point of generating cash flow;
making that transaction positive for any junior.
is a fair deal or not, getting DSO up and running was really just an entry
point for Tata Steel into the Labrador Trough. The strategic value of that
will really be reflected when New Millennium starts developing and getting
the larger taconite projects into production. That will require further
investment decisions by Tata. The cash-flow implications for New Millennium
from getting the larger, taconite projects up and running could be a real
TGR: What is
is a colloquial term used to describe banded iron formations.
investment decision required for the larger taconite project will be
predicated on the definitive feasibility study that should be published in
the next few months. We expect the investment decision in mid-2013.
TGR: How big an
issue is transportation for New Millennium at both DSO and the taconite
projects? Does it need a rail agreement to induce Tata to sign on to those
taconite project requires a slurry pipeline from the processing facility in
the north down to a pelletizing facility in Sept-Îles.
potential for New Millennium to sign an agreement with a consortium of the
Canadian National Railway and the Caisse de Dépôt that is
contemplating building a new rail line to where this project is going to be
located. Canadian National Rail will head up construction and the Caisse de
Dépôt will provide financial backing.
a rail agreement for DSO with Québec North Shore and Labrador Railway
in January 2012.
TGR: What is
your target price on New Millennium?
MG: It is
$4.30, almost triple where it is right now, based on a discounted cash flow
the Labrador Trough, a lot of players have been painted with the same brush
as Cliffs and Labrador Iron Mines, and similar discounts have been applied
across the board. But I think New Millennium is operating differently from
TGR: Is that
due to its management team?
MG: Yes, it is
due to a solid management team. This team understands how the business
operates and the pitfalls of not owning your own infrastructure.
TGR: I would
like to move on to copper. Copper traded down in October but looked to be
rebounding at the end of November. What is your near-term outlook for copper?
MG: We see
some marginal upside to copper prices in 2013, although not materially higher
than today's $3.60/pound (lb). We are forecasting $3.75/lb for 2013; overall,
some strength, but limited downside from current price levels.
TGR: What is
your central thesis for the primary copper plays you cover?
remains one of the tightest markets from the fundamental supply-and-demand
the junior producers are heavily discounted compared to the more senior
players. A lot of the juniors have no value reflected in the market for some
of their growth projects.
development or preproduction plays offer the opportunity to gain a lot of
torque to the copper prices albeit with higher risk. They also offer
investors the opportunity to participate in derisking projects, growing
resources and the potential to rerate when a play moves from development into
companies do you cover in the copper space?
at the top of the alphabet, Augusta Resource Corp. (AZC:TSX; AZC:NYSE.MKT; A5R:FSE) is really
a permitting story at this point. We expect it to obtain its record of
decision early in 2013. This is a very robust project from a capital
intensive point of view.
of upcoming catalysts, Rio Alto
Mining Ltd. (RIO:TSX.V; RIO:BVL) should
come out with some 2013 guidance in January, along with a new reserve
calculation and mine plan. We expect its life-of-mine rates to increase
substantially on the back of recent grade reconciliations from production and
a previous resource model, as well as exploration results from work done this
is also starting a regional exploration program on its land package; we
expect those results to boost the stock.
TGR: How did
Rio Alto perform against guidance in 2012?
company revised guidance upward twice in 2012. The original estimate of
100,000 ounces (100 Koz) was revised at midyear to 160 Koz and again to 200
Koz toward the end of the year. We believe Rio Alto will reach 200 Koz,
mostly due to positive grade reconciliations.
TGR: Rio Alto's
La Arena is a massive open-pit mine in Peru. What is its expected mine life?
MG: Right now
the oxide has an expected mine life of about six to seven years for the
material close to surface. The sulfide deposit will have a much longer life.
lives are based on what the company has drilled off to NI 43-101 standards to
date. It has a large land package, so I would expect the mine life to be
extended on the gold side through exploration.
TGR: What are
your targets on Augusta and Rio Alto?
MG: My target
on Augusta is $5/share and Rio Alto is $8/share.
what is up with Western Copper and Gold Corp. (WRN:TSX; WRN:NYSE.MKT) and its
massive Proven and Probable reserve?
project has the potential to move the needle for a major copper producer. We
expect the results of a definitive feasibility study in the near term to
provide some clarity around power options for the project. The investment
community and potential joint venture partners have both focused on that
issue. Clarifying the power issue should pave the way for the company to find
a joint venture agreement with a major copper producer or lead to an outright
sale of the company.
TGR: But the
big copper producers do not like to share. Which company could swallow
something this large?
MG: It would
have to be a company the size of a Teck Resources Ltd. (TCK:NYSE;
TCK.A:TSX), Rio Tinto, BHP Billiton Ltd. (BHP:NYSE; BHPLF:OTCPK) or
Antofagasta Plc (ANTO:LSE).
TGR: Do you
have any parting thoughts on the infrastructure material space for our
MG: In the
near term, small-cap producers offer some attractive valuations and a lower
risk way to play copper compared to development companies.
look for companies with strong balance sheets, capable management teams and
good projected growth over the next five to seven years for near-term
TGR: And would
you include the iron companies in that?
absolutely. The criteria are very similar.
TGR: Matt, thanks for your time and your
Gibson joined CIBC's Equity Research
Department in February 2009. He covers the junior base metal, rare
earth, uranium and iron ore spaces. His more macro
focus and financial acumen have helped to support commodity-related calls and
augment the wealth of technical expertise on the mining research team. Gibson
holds a Master of Business Administration from McMaster University, where he
focused on financial markets and business valuation, and a bachelor's degree
(Honors) in economics from McMaster University.
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1) Brian Sylvester of The Gold Report conducted this interview. He
personally and/or his family own shares of the following companies mentioned
in this interview: None.
2) The following companies mentioned in the interview are sponsors of The
Gold Report: Alderon Iron Ore Corp. and New Millennium Iron Corp.
Streetwise Reports does not accept stock in exchange
for services. Interviews are edited for clarity.
3) Matt Gibson: I personally and/or my family own shares of the following
companies mentioned in this interview: None. I personally and/or my family am paid by the following companies mentioned in this
interview: None. I was not paid by Streetwise Reports for participating in this