Daily Equity Report
Seed Weekly - Kumba - Nerves of Steel Required
Kumba Iron Ore Ltd is the only pure play iron ore company listed on the JSE, and it operates across the entire value chain including exploration, extraction, beneficiation, marketing, sales and shipping of iron ore.
Kumba can trace its roots back to the parastatal steel company Iscor, which established the Thabazimbi mine in 1932 and the Sishen mine in 1954. The Sishen-Saldanha rail link, developed by government in 1976, enabled the easy transportation of iron ore to the Saldanha port for export.
Following Iscor’s privatisation in 1989, it was unbundled into Iscor and Kumba Resources. Kumba was listed on the JSE in November 2006 as the result of the further unbundling of Kumba Resources’ iron ore assets.
The Company operates three mines – Sishen and Kolomela in the Northern Cape, and Thabazimbi mine in the Limpopo Province.
Sishen is the flagship operation, has a 19-year life of mine and at 14km long is one of the largest open pit mines in the world. Kolomela mine, although the newest mine, is going from strength to strength in terms of production and has a 25-year life of mine.
Thabazimbi, in operation since 1932, is no longer cost-efficient, with difficult mining conditions increasing safety risks. As a result, Kumba has initiated the process of closing the mine down completely.
Latest Financial Results
Kumba recently released its results for the six months ended 30 June 2015, and it is clear that the company is under a lot of pressure due to the falling iron ore price.
Revenue fell by 23% to R 20.5bn, resulting in a drop of 53% in operating profit and a substantial 61% decrease in Headline Earnings Per Share. Volatile trading conditions and the need to maintain some financial flexibility resulted in the board not declaring an interim dividend.
On the positive side, production decreased by only 1% to 22.6Mt, export sales were up 18% to record levels, and controllable costs were brought down by 16%.
The graph below illustrates the drivers behind Kumba’s change in revenue over the reporting period:
The iron ore export price dropped dramatically, down 41% from $104/t in 1H14 to $61/t in 1H15, resulting in an R11bn decrease in revenue. Shipping revenue reduced by around R 500m to R 1.6bn.
Offsetting these negative effects were higher sales volumes, resulting in a net increase of R3.9bn, and a weaker ZAR/USD exchange rate.
Outlook and Fundamentals
The company is in the process of reconfiguring its operations in light of the very challenging market environment. It will attempt to bring down its cash breakeven price from $63/tonne to $45/tonne by reducing overhead costs, reinforcing capital discipline and maintaining its focus on product quality.
The difficult mining conditions at Thabazimbi was worsened by a recent slope failure, and as a result the mine has reached the end of its economic life and will now be closed down.
With demand from China ever slowing and competitors in Australia and Brazil increasing supply, the iron ore price is expected to remain under pressure in the foreseeable future. This leaves only one, very challenging, option – increase production while reducing marginal costs and waste volumes.
The share has collapsed from over R600 to just over R100. This has meant that despite the collapse in earnings the historical PE has declined to just over 5 times, which appears very cheap compared to the JSE’s 17.9. The dividend yield, which has peaked at over 20% early in July, has dropped to 7.4% with no interim dividend declared.
Kumba is currently held in the Seed Equity Fund, with the high Dividend Yield, Earnings Yield and Cashflow/Price ratio earning it a place in the Value portfolio.
Cor van Deventer
Seed is hiring: Click through to our LinkedIn profiles to see vacancies at Seed Investment Consultants and Seed Analytics
Tue, 28 Jul 2015- 12:04