Antofagasta: Chilean Copper Miner Facing Domestic Headwinds

Summary

• Antofagasta is a UK-listed copper miner, producing 650kt annually.
• Chile is currently navigating a wave of political change likely to impact the world's largest copper producer.
• At 25x forward, it seems like a hefty price to take on so much concentration and country risk.

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General Overview

For any money manager interested in exposure to the king of battery minerals it is hard to go past Chile. The country is home to two of the largest copper mines in the world (Escondida and Collahuasi) and churns out almost 30% of global production.

Its 5.6Mt of annual production is a standout feature with only Peru (2.2Mt/ year) coming close to the South American copper giant’s output. World copper mine production equated to 21.8Mt annually with world copper mine capacity presently at 27Mt.

International Copper Study Group

World copper production & usage per the International Copper Study Group.

Yet a multitude of challenges exist for Chile’s largest export. Drought and declining ore grades have affected production while political wrangling over a proposed new mining royalty could drag on investment, dampening appetite for capital deployment required to boost production.

Experts are already started revising national production to the downside with Fitch recently forecasting a decline in Chilean copper production from 3.4% year-on-year to 2.8%.

According to the International Copper Study Group, Chile’s 2022 copper production was down 6% year-on-year. Antofagasta saw a 10% decline in Q4 2022 production as drought impacted Los Pelambres operations and lower ore grades crushed production at Centinela.

Other players have been squeezed too with Anglo American (OTCQX:AAUKF) and national giant, Codelco all releasing revised guidance on production forecasts.

Trading Economics

Chilean copper production has been hampered by declining ore grades and drought.

Investment in operational expansions and new project development will be required to offset a possible structural decline likely to impact volumes in the very near term. A lag in the project investment cycle and a tightening of capital deployment is likely to squeeze tight supplies and support copper prices in the mid-term.

Trading Economics

Copper prices are slowly improving following a late 2022 decline.

In the near term, the outlook is much different. Due to the importance of the battery metal in industrial output, the likelihood of a near term recession in the United States and slowing Chinese growth are likely to dent any immediate price upside.

Signs remain ominous, particularly in the United States given enduring capital market, and mixed money market/ capital market yield curve inversions, along with possible contagion in the banking sector equating to a tightening of credit. At ZMK Capital, given the above conditions and Antofagasta’s concentrated country risk, we rate a position in the Chilean copper player presently as a hold.

Company Overview

Antofagasta Plc (OTC:ANFGF) is a £15B UK listed mining firm specializing in Latin American battery mineral plays. 65% owned by Luksic Group, the Chilean business conglomerate founded by Andronico Luksic Abaroa, the company operates several mining leases including the Los Pelambres mine, the Centinela mine, the Antucoya mine and the Zaldivar mine.

The UK listed copper miner is a top 10 producer with high quality assets and significant growth potential. Annually, the company produces approximately 646Kt of copper, 176k oz of gold and 10kt of Molybdenum with a net cash cost of $1.61 per pound. The entirety of operations is in Chile and the company also operates a transport division providing rail and road cargo services in Chile’s Antofagasta region.

Project Portfolio

Antofagasta holds stakes in multiple copper producing assets. Its Los Pelambres expansion phase 1, now 93% complete, is focused on upgrading of the desalination plant and copper concentrator. Both units are planned to be operating from Q2, 2023.

At Centinela, an investment decision by the board of directors on a second concentrator is under consideration and should be finalized during the year. Capital output for the project would be around $3.7B but would boost production significantly, pushing Centinela into the 1^st quartile of net cash costs.

Exploration efforts have also helped increase mineral resources. Drilling at Cachorro has helped identify 242Mt @ 1.21% copper grade in inferred resources, an increase of 70% since 2021. At Encierro, south-east of Vallenar, Antofagasta’s vast drilling exploration program has helped identify inaugural inferred resources of 522Mt of lower grade ore (0.65% CuEq)

Antofagasta

Antofagasta has stakes in several high producing Chilean copper assets.

Current Political & Fiscal Situation in Chile

Chile’s political panorama has most recently been in a state of flux – in September 2022 and proposed new Constitution was rejected during a national referendum. Congress consequently adopted a new plan for redrafting the Constitution with a new elected Council and Committee of Experts. Progress is now being made with law makers expecting the New Constitution to help find solutions to appease conflict between indigenous activists, landowners, forestry groups and local stakeholders.

In January 2023, a bill was approved by the Chilean Senate Mining and Energy Committee targeting increases in taxes and royalties from national copper production. The current bill includes ad valorum and increased operating profit royalties likely to weigh on copper producer balance sheets. The Senate Treasury Committee is currently debating with new mining royalty which will then be passed to the lower house for consideration.

Financial Review

Antofagasta is widely followed by the analyst community with most posting a hold recommendation. Of the 16 analysts covering the equity, 11 presently rate the company as a hold with 2 rating it as a “sell” and another 2 rating it as a “strong sell”. Interestingly, only 1 analyst presently rates the Chilean miner as a buy.

The company’s full year 2022 revenues came in at $5.86B, significantly lower than the $7.4B posted in 2021. A moderation of prices and dampened volumes were the key drivers dragging on sales. EBITDA margins were compressed (FY 2022 ~47%) following a bumper 2021 which saw not only a top-line explosion but also increased margins (FY 2021 EBITDA ~59%).

The company’s $1.5B in net income was embellished by a one-off $945M exceptional item suggesting that the company’s recent posted earnings are perhaps built on shaky foundations.

Antofagasta

Total Group Production - Antofagasta

The copper miner has halved its annual dividend as high input costs, reduced grades and one of the driest years of the current 12-year drought impacted output at Los Pelambres mine. In 2022, the company produced 646kt of copper with Los Pelambres (275kt) almost accounting for half of it.

Gold production amounted to 176k oz, most of which was produced at Centinela (133k oz) Antofagasta expects a slight increase in 2023 copper production (670kt – 710kt) with a target price of $3.84/ lb. Gold production is expected to increase too with between 220k – 240k oz forecast. Lofty gold prices are also expected to positively impact the Chilean miners 2023 results.

Antofagasta

Antofagasta FY 2022 sales were dented by copper price movements and sales volumes.

Centinela has seen a significant 30% increase in unit cash costs squeezing the company’s bottom line. Across the board, the company has been impacted by a 33% increase in net unit cash costs dragging on margins. Total group mineral resources, including ore reserves top out at 20.69Mt. The company is currently sitting on $2.7B in long term debt (total debt to equity of 28%), translating into an interest expense of $78M in FY 2022. Net interest expense is $38.5M and the firm presently holds about $2.4B in cash and short-term equivalents.

Antofagasta generated $1.8B in cash flow from operations FY 2022, a sizable decrease from one year earlier ($3.6B FY 2021). The company continues to roll over its debt while retaining sufficient liquidity to make a 3.94% annual dividend payment on a payout ratio of 82%. The currently trades at a forward P/E multiple of 25x – on the lofty side compared to peers such as Southern Copper (SCCO) at 20x, Freeport-McMoRan (FCX) at 20x, Anglo American (OTCQX:AAUKF, OTCQX:NGLOY) at 7x or First Quantum Minerals (OTCPK:FQVLF, FM:CA) at 18x.

Key Takeaways

There is likely to be significant long-term upside for copper. The battery mineral is central to global decarbonization and the era of electric vehicles. Fuelling that is Chile’s sprawling copper belt producing 30% of global production. It makes for a degree of upside for any long-term holder.

But it is important to understand the risks – a slowing global economy, domestic political wrangling, declining ore grades, inclement weather and spiralling operating costs and a lofty relative valuation are enough to keep us presently on the side lines.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. 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.