Turquoise Hill Resources (NYSE:TRQ) own a 66% interest in the Oyu Tolgoi mine located in the South Gobi region of Mongolia. The remaining 34% is owned by the government of Mongolia. The deposit was discovered by the famous billionaire mining entrepreneur Robert Friedland. For the full year of 2015, this one single mine produced 404.4 million pounds of copper, 653,000 ounces of gold and 1.2 million ounces of silver. In comparison, the world's largest copper mine is Escondida and it is expected to produce 1,880 million pounds of copper in 2016. The Muruntau mine is the biggest gold mine in the world and it produced 2.6 million ounces of gold in 2014. Due to its impressive gold production, the Oyu Tolgoi mine is expected to produce copper at a negative cash cost for the next 100 years. The following quote of Robert Friedland is particularly interesting.
All the drama about the Mongolian government and the investment agreement is long forgotten. This is the largest lowest cost new copper and gold mine in the world trading at a discount of the capital cost of building the plant right here on the Toronto Stock Exchange right under your nose because we have a bubble in panic. (Source)
Robert Friedland said that back in 2013 when the stock of Turquoise Hill was trading around $6.00 per share. After raising $4.4 billion to develop the underground phase of the mine, it is possible to buy a participation in the company for only $2.00 per share.
Once the underground development will be finalized, the Oyu Tolgoi mine could contribute to approximately 30% of the gross domestic product of Mongolia. Due to this factor, the geopolitical risk is pretty low at this point in my mind. This is a game-changer project for the Mongolian nation. The disputes with the government were finally resolved in May 2015. It is important to mention that the real value of the Oyu Tolgoi mine resides in its underground expansion. The current open pit operations are negligible versus the potential of the underground expansion. The Oyu Tolgoi mine is like a 100 kilograms baby. It is simply giant and outsized.
As of the third quarter of 2015, Turquoise Hill Resources had $1.31 billion in its bank account versus $530 million in total liabilities. Consequently, it is possible to calculate a net cash value of approximately $780 million. Considering this huge cash position, the recent financing agreement and the Rio Tinto support, the underground development should be fully funded.
With a market capitalization of around $4 billion, a cash balance of $1.31 billion, a debt free balance sheet and $734 million in minority interest, the enterprise value is equal to $3.42 billion. Furthermore, the company produced $643 million in EBITDA over the past twelve months. Consequently, the enterprise value to EBITDA ratio is extremely low at 5.32. In my opinion, Turquoise Hill should be trading at a premium due to the quality of its deposit.
According to CIBC World Markets, Rio Tinto will almost certainly buy out 100% of Turquoise Hill one day. This moment will be sooner rather than later based on the analysis of Tom Meyer. With the financing package, the risks associated with the project are much lower. The following quote is extremely interesting.
He expects the mining giant to pay a premium for the Turqoise Hill share it doesn't own in the next 12 to 18 months, or once the key risks from the project are removed. Those risks include financing, a cost update on Oyu Tolgoi's underground development, and next year's Mongolian election. (Source)
According to the 2014 technical report, the net present value of the Oyu Tolgoi mine is equal to $7.43 billion considering a discount rate of 8%. In the scenario, the mine life should be around 41 years. However, the mine life will probably much longer than that. As I said earlier, Robert Friedland expects that the mine will produce copper for the next 100 years. Consequently, a mine life of 41 years is probably the worst case scenario. With a market capitalization of $4 billion and a worst case net present value of $7.43 billion, it is possible to calculate a price to the net asset value of only 0.54. Moreover, the enterprise value to the net asset value ratio is equal to a mere 0.46. Without a doubt, it is dirt cheap.
In conclusion, it is possible to buy one of the largest mines in the world for a dirt-cheap price. In my mind, it is possible to explain this mispricing by the chronic situation in the mining industry. The people tend to forget that this is a highly cyclical business. What is the value of a mine that will produce copper at a negative cash cost for the next 100 years? I truly believe that it is worth more than $3.42 billion. This is why I bought Turqoise Hill Resources and its 100 kilograms baby.
I am an undergraduate student, not a professional. Please take this factor into consideration. Please do your due diligence and consult your financial advisor before taking any action. I am not a financial advisor. This article expresses my opinion only.
The opinions in this document are for informational and educational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned. The information in this document is believed to be accurate, but under no circumstances should a person act upon the information contained within. We do not recommend that anyone acts upon any investment information without first consulting an investment advisor as to the suitability of such investments for his specific situation.
Disclosure: I am/we are long TRQ.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.