Great Western Minerals (GWMGF.PK) has gotten a lot of discussion on the internet, but we do not think Great Western Minerals should be in investor portfolios at this time. This will not be a popular opinion, so offer us this opportunity to explain why we have this view.
1) Neo Material Technologies (NEMFF.PK) is a global competitor that has the lead in the "value added" (metals/magnets/alloys) portion of the rare earth industry.
Neo Materials has a global platform including current operations in China plus Molycorp (MCP) and Neo Materials have signed a letter of intent to work cooperatively in the "value added" portion of the rare earth industry indicating that Molycorp has chosen which of these two companies it would prefer to do business with and potentially integrate into its business.
2) The Steenkampskraal mine in South Africa is not NI 43-101 compliant and the historical resource estimate is unimpressive in our opinion.
Based on the project page on the Great Western Minerals website, the Steenkampskraal mine is not NI 43-101 complaint and thus the company is operating off a historical resource estimate. This is the mine that one well known expert has said will be first source of commercially produced Dysprosium outside China, and based on the historical resource estimate it has only 196 tones (or less than 1 years worth of Dysprosium from either Nechalacho or Strange Lake).
3) A feasibility study has not yet been completed, as such we do not have an idea as to the economics of the property.
Without a feasibility study, it is not realistic for us to project the economics of the project and this is on top of the lack of a compliant resource estimate.
4) Great Western’s claim that this mine in South Africa can supply their subsidiaries with a decade worth of supply is not really impressive.
This mine currently is estimated to have in cerium what Mountain Pass will produce in less than two years of production. Not very indicative of substantial upside from current levels.
Bottom Line: It appears Molycorp has chosen Neo Materials over Great Western based on the letter of intent. We at The Strategist do not think a 2,000 tons per annum rare earth mine is anything to be excited about at this point as there are far superior opportunities out there and in our Group 1 names we certainly prefer Neo Materials.
Valuation: Where is the Upside?
On an oxide basis, this annual production is worth only $369 million (we excluded Holmium and Erbium as we could not get spot prices). We built a DCF for just the rare earth oxides as proposed to come out of the South Africa mine project. We assumed full production in 2013 and $250 million CAPEX.
To be really generous to the Great Western bulls, we assumed the company had a cost of oxide production as low as Molycorp at Mountain Pass which is the lowest in the world.
Basically, we gave very generous assumptions and then assumed our base case pricing scenario which we applied to all our rare earth DCF’s. Here was our valuation at various discount rates:
If we assumed current spot prices for the entire 10 year mine life at Steenkampskraal then we would get a valuation of $1.29/share at a 15% discount rate. Here is a table of valuations given this best case pricing scenario:
In our worst case pricing scenario (2013:70% FOB Spot, 2014:50% FOB Spot, 2015-2022: 40% FOB Spot) we came up with the following table of valuations:
The end result of this best and worst case scenario to us is that we just do not think that this South African mine business idea to supply the Great Western Minerals value chain is a good risk/reward for investors.
We have also heard plenty of chatter about someone taking out Great Western, well let’s assume the buyer will demand a 40% IRR on their investment. In our best case, base case, and worst case scenario here is what the takeover price would be to purchase all the diluted shares and have the South Africa mine have a 40% IRR for the acquirer.
With this sobering reality, we went into the most recent financials (3Q10) available on the company website. We wanted to get a feel for this amazing "value added" infrastructure that Great Western already had in place and were floored to find that the manufacturing side of the business is barely profitable on a cash basis and is losing money on an accounting basis. As such we are not assigning value to it. We think those looking for value added exposure should take capital in Great Western Minerals and split it between Molycorp and Neo Materials Technologies (NEMFF).
GWMGF is already priced to perfection.
Disclosure: I am long MCP. The facts in this newsletter are believed by the Strategist to be accurate, but the Strategist cannot guarantee that they are. Nothing in this newsletter should be taken as a solicitation to purchase or sell securities. These are Mr. Evensen’s opinions and he may be wrong. Principals, Editors, Writers, and Associates of The Strategist may have positions in securities mentioned in this newsletter. You should take this into consideration before acting on any advice given in this newsletter. If this makes you uncomfortable, then do not listen our thoughts and opinions. The contents of this article, email, and/or newsletter issue do not take into consideration your individual investment objectives so consult with your own financial adviser before making an investment decision. Investing includes certain risks including loss of principal.