Gamble of the week: A Ukrainian iron-ore producer
Paul Hill Oct 26, 2012
Mining strikes in South Africa, a ban on iron-ore processing in Goa, India, and a newly announced $158bn wave of infrastructure projects from Beijing, have all helped drive iron ore prices up 30% to around $120 per ton from their September lows. And although Chinese steel demand has decelerated, it hasn’t yet peaked. Industry analysts predict that will happen in 2028, at volume levels 40% higher than today. This is good news for Ukrainian iron-ore producer Ferrexpo.
The firm owns the licences for one of the world’s largest deposits, containing 20 billion tons of minerals. The company extracts the metal from its Poltava site, and converts it into iron pellets. Forty per cent of the 9.5 million ton per annum output is then shipped to Asia, 7% to the Middle East and 53% to Europe.
Ferrexpo, 51% owned by the chief executive, Kostyantin Zhevago, has big expansion plans too. A total of $138m is ear-marked to extend the life of its open-cast Poltava mine to 2038. The target is to ramp up production to 12 million tons by 2014, after it opens another facility nearby in Yeristova. Three years further down the line, with a third deposit in Belanovo on stream, volumes could mushroom to 20 million tons.
One side-effect of softer iron ore prices and the industry’s escalating costs is that 2012 revenues and earnings per share are predicted to decline to $1.4bn and 48 cents respectively. That said, Ferrexpo, which is in the lowest quartile when it comes to global pellet costs (at $59 per ton), should be able to stay profitable regardless of these headwinds.
Ferrexpo (LSE: FXPO)
As for the investment potential, the shares are very cheap on a forward price/earnings ratio of 6.6. I rate the group on a six times EBITDA (earnings before interest, tax, depreciation and amortisation) multiple. After adjusting for $342m of net debt, that generates an intrinsic worth of 310p a share.
Of course, no company is risk free. Ferrexpo is presently involved in a legal wrangle over legacy ownership rights of its 97%-owned Poltava site. The case revolves around former shareholder, Russian MP Alexander Babakov, who is claiming a 40% stake in the project. He alleges his original sale to the firm’s controlling shareholder Kostyantin Zhevago, back in 2002, should be rescinded since it violated Ukrainian law.
Clearly, this dispute has unsettled sentiment. But even in the worst case, I suspect Zhevago (rather than the company) would be on the hook to compensate Babakov. If I am right, then any adverse court judgment should simply translate into a change to the company’s share register, rather than an issue of fresh equity.
The company is also exposed to tighter regulation, commodity price fluctuations, foreign-exchange movements and geopolitical risks.
Rating: SPECULATIVE BUY at 205p
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