ANALYSIS: Several factors are combining to reshape the future options for titanium minerals and zircon miner Iluka Resources.
ANALYSIS: Several factors are combining to reshape the future options for titanium minerals and zircon miner Iluka Resources.
No big mining company based in Perth employs fewer people, operates fewer mines and has suffered a more prolonged share-price slump than Iluka Resources.
However, it can also be said that no big mining company faces a more interesting future.
Not a widely researched business, nor one with a spot in most investment portfolios, Iluka is on the cusp of a period of significant change, with Africa looming large on its horizon, iron ore in Western Australia of growing importance, and globally relevant technology getting ready to hit the market.
Management changes are also playing a role in reshaping Iluka, with the overall picture one of a company preparing for a higher profile after years of deliberately cultivating a low profile, despite its $3.2 billion stock market value and a ranking as 92nd biggest ASX-listed company, slightly bigger than better-known Seven Group Holdings.
Newly appointed chief executive Tom O’Leary spelled out the problems he inherited when joining the company last year. Apart from declining profits, there was the critical issue of Iluka not replacing the ore it mined – an essential measure for all mining companies if they want to survive.
Failure to make commercial mineral discoveries pushed Iluka into seeking takeovers. The first attempt – a bid for Mozambique-focused (but Irish-based) Kenmare Resources – failed. The second succeeded – the $393 million acquisition of Sierra Rutile, a business with its best assets in another African country, Sierra Leone.
When the Sierra Rutile deal was finalised in December last year, Mr O’Leary said the acquisition would extend Iluka’s resource base.
“Iluka believes that the combination of the experience and capabilities of Sierra Rutile personnel and Iluka’s mineral sands operational and technical experience, gained across multiple ore bodies and processing facilities over many years, will enhance the performance of Sierra Rutile,” he said.
Mr O’Leary could have added that, without the Sierra Rutile deal, Iluka would be under pressure because of its declining ore reserves, a point he did make two months later in the company’s review of its 2016 financial year, which ended on December 31.
“Prior to the acquisition of Sierra Rutile in December, Iluka’s reserve base had not been replenished despite a consistent exploration effort,” Mr O’Leary said.
Tough times in Iluka’s business of producing titanium minerals and zircon, the stuff once known as beach sands, or mineral sands, has ground the company down to the point where it has closed most mines and has been living off stockpiles that grew during the boom.
Always low profile and never media friendly, perhaps because of controversies dating back to the 1960s and 1970s when mining beaches in pristine locations came under environmental and political attack, Iluka is a cautious company.
Unkind mining rivals half-jokingly reckon that Iluka isn’t even in the business of mining, with its basic approach of stripping back ancient sand dunes to extract heavy minerals deposited by wind or water action described as ‘gardening’.
Comments like that go too far because Iluka is very much a miner, just one that works in a specialised industry, producing a unique mix of minerals sold to a small group of industrial customers, which, in turn, manufacture the most commonplace products imaginable.
Titanium dioxide, the top Iluka product, is mainly consumed in the paint on your wall. Zircon, the other leading product, is used to make the glaze on ceramics in your bathroom fittings such as baths, basins and lavatories.
A problem for investors in understanding Iluka, and in valuing it, lies in the way titanium dioxide and zircon are traded – via direct sales to customers and not with the aid of a terminal market such as the London Metal Exchange, which provides a clear view of the prices of metals such as copper, nickel and zinc.
Oversupply, a problem that dogs all resource companies exposed to commodity price cycles, started hammering Iluka from late 2011, until first signs of a recovery were noted late last year.
The share price reflects the problem. Having traded as high as $18.90 in July 2011, Iluka sank to as low as $5.17 in late 2015, a fall of 72 per cent. Even at its most recent price of $7.63, Iluka is down 59 per cent on its 2011 high.
Three other numbers demonstrate the unhealthy financial status of Iluka. The first is last year’s loss of $224 million, the result of a combination of low prices for its minerals and a big write-down in asset values.
The other two numbers are the average prices received for its primary titanium dioxide product (rutile) and zircon. Last year, rutile averaged $US716 a tonne, down 71 per cent on the average of $US2,464/t received in 2012, and $US773/t for zircon, down 63 per cent on the 2012 average of $US2,080/t.
For Mr O’Leary, the job of repairing Iluka and preparing it for the future started in the traditional way of all new chief executives – slash costs that haven’t already been slashed and consolidate central office services, while also noting that some of that should have been done earlier.
“With idling (mothballing) of the Jacinth-Ambrosia mine (in South Australia) last year, the production base has been constrained in the light of market conditions, and non-production cash costs have not been similarly constrained,” Mr O’Leary wrote in his annual review.
So, if the past five years have been so tough, why is there a growing sense of confidence that the future looks better?
The answer to that question has four parts.
• Prices for titanium minerals and zircon are trending up, not rapidly, but up is better than a continuation of five years of falling prices. Exact prices being received by Iluka are not revealed, which is one reason why the stock remains a bit of a mystery to investors and investment bank analysts.
• Sierra Rutile represents a major growth opportunity for the company as it moves to replace declining reserves in its traditional mining locations of WA, SA and Victoria.
• An investment in a promising British mineral processing business called Metalysis, which has developed a unique way of producing powdered metal in a one-stage process that could play a key role in the evolution of three-dimensional (3D) printing of metal components.
• A potential big payday if BHP Billiton proceeds with the development of its giant South Flank iron ore project and it agrees that an existing royalty paid to Iluka from the Mining Area C (MAC) mine is applicable to South Flank.
In its forward looking comments for 2017, Iluka said the mineral sands market was improving, though ‘operational settings’ continued to be aligned with market conditions, which is code for a continued drawdown in the boom-time stockpiles rather than reopening mines now on care and maintenance.
Supply and demand for its key products are said to be broadly balanced, with customers accepting a $US50/t increase in the price paid for zircon from February 15. Titanium dioxide prices were expected to rise by 4 per cent in the first half of 2017.
Sierra Rutile is maintaining production at pre-takeover levels as Iluka management addresses safety issues and repositions the product mix to maximise sales value.
Metalysis is the first of the wildcards in Iluka’s pack, because it could become a big profit generator through the licensing of its technology, or it could generate a big, one-off win by being listed on the London Stock Exchange, or by being sold to a technology-focused investor.
South Flank is the second wild card, but could be a decade away from generating meaningful levels of cash if the MAC royalty of 1.232 per cent on the value of ore sold by BHP Billiton flows over to the new mine, which is expected to be in production sometime in the next five to 10 years.
Because South Flank will be much bigger the existing MAC operation, the value of Iluka’s royalty could soar from last year’s $47.1 million to as much as $200 million a year, depending on rate of production and the price of iron ore.
If sold, the royalty could fetch as much as $1.9 billion, according to the private research firm Sandon Capital.
Some investment bank analysts like the outlook for Iluka; others do not. Ord Minnett and Deutsche Bank are telling clients to sell Iluka. Citi, UBS and Morgan Stanley say ‘buy’, while Macquarie and Credit Suisse sit on the fence with a neutral (‘hold’) view.
UBS is the most optimistic, saying Iluka could rise as high as $9.20 over the next 12 months, up 20.5 per cent on its most recent sales at $7.63. Ord Minnett is gloomiest with a 12-month price forecast of $6.40, down 16 per cent.
Mixed, trending up, is the best description of those share-price forecasts, and that’s probably as good as it gets for a company that has been a big disappointment for five years, but which appears to be getting close to a sustainable recovery.