Spanish potash company Highfield Resources (ASX:HFR) is the subject of an initiation research report by Canadian investment bank RBC Capital Markets placing a share price target of A$2.70 yet with an "upside scenario" target of A$5.30.
Here is a summary of the report:
We believe Highfield's potash properties located in Spain are among the best undeveloped greenfield projects globally, with near-surface mineralization, low-capex, and competitive costs. We think there is significant potential upside, balanced by greater risk normally associated with early-stage projects.
Financing: Following the release of the Muga DFS and Sierra del Perdon scoping study, we believe Highfield will focus on securing financing in 2Q-3Q/15 to build its Muga project. We expect the company is targeting a combination of equity and debt financing for the project.
Initiation: Uncovering attractive, low-capex potash potential in Spain
Our view: We believe Highfield Resources' potash properties are among the best undeveloped greenfield projects globally. Our base case analysis returns an attractive 29% IRR at the company's flagship Muga project, driven by near-surface mineralization, low-capex requirements, nearby infrastructure, very competitive delivered costs, and low geo-political risk in Spain.
Additionally, our scenario analysis indicates asymmetric upside potential based on very achievable targets.
Industry-low project capex:
We believe Highfield's industry-low capital costs are a significant benefit and critical advantage that distinguish the company from other potash developers.
For the Muga project, we estimate US$426M total capex, which compares well to other greenfield projects (US$391/tonne vs. US$1,087/tonne average).
Competitive operating costs:
We expect Highfield's all-in delivered costs to be competitive with major producers and occupy the bottom-quartile of the global cost curve (US$140/tonne vs. US$175/tonne average), mainly driven by near-surface mineralization, nearby infrastructure, favourable labour rates, near-market access, and no royalty taxes.
Expansion potential: We think expansion potential at Muga/Vipasca and Sierra del Perdon could provide substantial upside to future production and our valuation. Both projects combined account for ~20% of our NAV analysis but almost 35% when using a lower discount rate similar to our Muga project valuation.
Scenario analysis asymmetrical to the upside:
Our scenario analysis is skewed toward the upside, with +193% upside vs. -61% downside return.
We base our upside scenario on successful completion of the Muga project on time and on budget, very achievable operating parameters (slightly better grade, recovery, cost), and a higher possibility of expansion at Sierra del perdon and Muga/Vipasca.
Conversely, our downside scenario assumes significant delays in production start-date with lower operating parameters and lower possibility of future expansion, although all three projects would still return >10% IRR in this scenario.
Potential high reward, paired with high risk:
We have assigned a Speculative Risk qualifier to Highfield based on the risks normally associated with an undeveloped project. Specifically, we note significant sensitivity to potash price volatility, potential permitting and construction delays, capex overruns, and operating cost challenges.
We believe Highfield could be an attractive takeover target given its upside production potential, attractive economics, well-developed Muga project, and strategic location. Looking at the current fertilizer producers, we see Israel Chemicals, K+S, or Yara International as potential suitors.
We believe potash market supply and demand fundamentals will be relatively balanced through 2020, but we think there is a greater degree of uncertainty beyond 2020+ as new, well-funded, or lower-cost projects (i.e., Highfield) come online and add to the current market surplus.
We currently forecast a very gradual improvement in potash prices through 2018. Beyond 2018, we forecast flat pricing at $370/tonne Brazil CFR, as we think the market will remain in surplus and we do not expect significant price upside for the foreseeable future.
Target price/base case
Our $2.70 price target is based on a sum-of-the parts net asset value analysis and applies an 11% discount rate for the Muga project, 13% for Sierra del Perdon, and 15% for Muga/Vipasca Extension.
These discount rates are higher than the 9% we use to value larger, more established current producers and reflect the greater uncertainty associated with an undeveloped project. We use our long-term Brazil CFR potash price forecast of $370/tonne and we do not include the potential for salt by-product credits in our valuation.
We base our $5.30 upside scenario on a combined NAV and forward EV/EBITDA analysis. Our upside $5.26 NAV assumes that the Muga, Sierra del Perdon, and Muga/Vipasca Extension projects are successfully brought to production on time and with better operating parameters. Our upside $5.44 EV/EBITDA valuation assumes that the Muga, Muga/Vipasca Extension, and Sierra del Perdon projects are brought into production through 2021 and Highfield is valued on an 8x EV/EBITDA basis, below the 8.5x we use to value current producers, discounted back 10% annually.
Outperform, Speculative Risk, $2.70 price target:
We value Highfield based on a NAV analysis and apply an 11% discount rate for the Muga project, 13% for Sierra del Perdon, and 15% for Muga/Vipasca Extension.
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