Critical Government Support Favoring Diversified Minerals Sector

I. Sector Landscape

Australia’s mining industry accounted for the most considerable Gross Value Added (GVA) contribution of 11.0%, clocking to ~$198.88 billion in 2020. The industry is upheld by increasing investments, rich natural resources, strong demand from Asian countries, and various government support programs.

Figure 1: Macro Dashboard of December 2021 Quarter

Source: Based on Australian Bureau of Statistics, Analysis by Kalkine Group

Key Drivers of Mining Activities

Improved Capital Expenditure: The total capital expenditure surged by 1.1% and clocked $33.34 billion in December 2021 quarter. Capex in mining activities advanced by 2.6% and stood at $9.44 billion. Copper production was impacted by lower processing rates and maintenance activity at several sites, but mine production grew from 878k in 2020-to 21 in 2022-23. Export earnings are likely to be supported by several projects under development. Further, the recent price support to commodity markets may uplift the mining industry.

Mineral Exploration Stats: In December 2021 quarter, the total mineral expenditure experienced a marginal dip of 1.4% and clocked $921.5 million in expenditure; however, it remained elevated with a 24.0% PcP uptick. Total meters drilled slipped by 5.4% sequentially or 181 meters to 3,154 meters, yet the figure stays elevated by 6.16% on a PcP basis.

Figure 2: Upward Trend in Mineral Exploration

Source: Based on Australian Bureau of Statistics Data, Analysis by Kalkine Group

Recent Update on Selected Minerals

Favourable Prospects for Gold: Over the year to September 2021 quarter, the jewellery demand advanced by 33% YoY and clocked 443 tonnes, led by a 32% uptick in Chinese consumption. During the September 2021 quarter, several gold mines witnessed a surge in gold output. Production levels at Newcrest’s Tefler gold mine in WA expanded by 17% YoY to 3.1 tonnes.

Substantial Price Support to Copper: Refined copper consumption is estimated to expand by 3.7% and clock over 25 million tonnes in CY21, a surge over 2020 consumption. Global consumption is estimated to clock 27 million tonnes in CY23 as manufacturers deliver a backlog of demand.

Support to Critical Minerals: Mid-stage critical minerals projects hold access to the government’s $1.3 billion Modern Manufacturing Initiative (MMI). The first round of MMI funding witnessed four critical minerals projects grant $243.6 million.

Index Performance

The ASX 300 Metals & Mining Index posted 5-year returns of +88.37% compared to the ASX 200 Index gains of +25.02%. Growing government support, prudent affordability measures, rising industrial demand, and improved capital expenditure are supportive factors driving sector gains.

Figure 3: The ASX 300 Metals and Mining Index outperformed the ASX 200 Index in the past five years by ~63.35%.

Source: REFINITIV as of 17 March 2022

Key Risks and Challenges

The continuing supply chain disruptions across the globe can hamper international trades. Amid the fourth wave of COVID-19 in China, the mineral trade links with Chinese manufacturers lingers in the uncertainty zone. The gold demand has slipped by 7.0% YoY to 831 tonnes in September 2021 quarter, led by the powerful outflow from gold-backed exchange-traded funds. There remain some downside risks to the growth of copper production as the COVID-19 wave has hit the Chinese market. The lithium export forecast is revised downwards from $3.4 billion to $3.3 billion, attributed to the timing of contract roll-over.

Figure 4: Key Drivers v/s Key Constraints

Source: Analysis by Kalkine Group

Outlook

Surged Capex Estimates for Mining Activities: The private new capital expenditure for mining activities is expected to clock $42.7 billion, 1.2% higher than the previous estimate. For FY23, the forecast is revised upwards by 5.7%.

Government Support: The Australian resources and energy exports have hit a record high of $348.9 billion and are projected to hit $379 billion in FY22. The Mid-stage critical minerals projects are facilitated with the $1.3 billion Modern Manufacturing Initiative (MMI) to scale up processes in mining activities.

Favourable Export Earnings in Gold: The Australian gold export earnings in FY23 is revised by almost $1.1 billion to $28.4 billion from the September 2021 forecast.

Improved Prospects for Copper Production: Copper mine production is estimated to clock 24 million tonnes in CY23, up from 22 million in CY21. Increased prices and expectations for future demand growth build vital initiatives for development projects.

Glowing Trend for Battery Minerals: Global Electric Vehicles (EV) sales have surged by 18% QoQ in September 2021 quarter. Lithium hydroxide prices are estimated to increase from US$7,300/tonne in CY20 to US$18,940/tonne in CY23.

II. Investment theme and stocks under discussion (RIO, 29M, AKE)

After understanding the sector, let us now look at four companies listed on the ASX. The price potential of the companies under discussion has been analysed based on the ‘EV/Sales’ multiple method.

1. ASX: RIO (Rio Tinto Limited)

(Recommendation: Buy, Potential Upside: Low Double-Digit, Mcap: A$39.68 billion)

RIO is engaged in the mining, operations, and production of minerals and metals. Operating segments include iron ore, aluminium, copper, diamonds, and energy & minerals.

Valuation

The illustrative valuation model suggests that the stock has a potential upside of 18.70% on 17 March 2022. However, we believe that the stock might trade at some discount compared to its peers’ average EV/Sales (NTM trading multiple), given the supply chain constraints and labour shortage. For valuation, peers such as Macmahon Holdings Ltd (ASX: MAH), Regis Resources Ltd (ASX: RRL), Fortescue Metals Group Ltd (ASX: FMG), and others are considered. Given the surged iron ore demand, modest commodity prices, decent fundamentals, current trading levels, and upside indicated by valuation, we give a “Buy” recommendation on the stock at the closing market price of $108.590, up by ~1.571% on 17 March 2022. In addition, the stock has delivered an annualised dividend yield of 13.30%.

RIO Daily Technical Chart, Source: REFINITIV

2. ASX: 29M (29Metals Limited)

(Recommendation: Buy, Potential Upside: Low Double-Digit, Mcap: A$1.29 billion)

29M is engaged in is an Australian copper focused precious and base metals mining company.

Valuation

The illustrative valuation model suggests that the stock has a potential upside of 16.18% on 17 March 2022. However, we believe that the stock might trade at a slight discount compared to its peers’ average EV/Sales (NTM trading multiple) given global supply chain constraints and rising COVID-19 cases in China. For valuation, peers such as Regis Resources Ltd (ASX: RRL), Jervois Global Ltd (ASX: JRV), St Barbara Ltd (ASX: SBM), and others are considered. Given the decent fundamental support, rising bottom-line, increased copper demand, current trading levels, and upside indicated by valuation, we give a “Buy” recommendation on the stock at the closing market price of $2.760, up by ~2.602% on 17 March 2022.

29M Daily Technical Chart, Source: REFINITIV

3. ASX: AKE (Allkem Limited)

(Recommendation: Hold, Potential Upside: Low Double-Digit, Mcap: A$6.05 billion)

AKE is engaged in the speciality lithium chemicals business and borates production. Its segment portfolio includes borax and lithium brine in Argentina.

Valuation

The illustrative valuation model suggests that the stock has a potential upside of 11.31% on 17 March 2022. However, we believe that the stock might trade at some discount compared to its peers’ average EV/Sales (NTM trading multiple), given the COVID-19 uncertainties and commodity price volatilities. For valuation, peers such as Iluka Resources Ltd (ASX: ILU), Evolution Mining Ltd (ASX: EVN), Pilbara Minerals Ltd (ASX: PLS), and others are considered. Given the decent fundamental levels, favourable EV sales, the decent outlook for lithium price, current trading levels, and upside indicated by valuation, we give a “Hold” recommendation on the stock at the closing market price of $9.680, up by ~2.002% on 17 March 2022.

AKE Daily Technical Chart, Source: REFINITIV 

Note: All the recommendations and the calculations are based on the closing price of 17 March 2022. The financial information has been retrieved from the respective company’s website and REFINITIV.  

Markets are trading in a highly volatile zone currently due to certain macro-economic issues and geopolitical tensions prevailing. Therefore, it is prudent to follow a cautious approach while investing. 

Investment decisions should be made depending on the investors' appetite for upside potential, risks, holding duration, and previous holdings. Investors can consider exiting from the stock if the Target Price mentioned as per the valuation has been achieved and is subject to the factors discussed above.

Disclaimer

Kalkine New Zealand Limited is authorised to provide general advice only. The information on this website does not take into account any of your investment objectives, financial situation or needs. Before you make a decision about whether to acquire a financial product, you should obtain the Product Disclosure Statement from the product issuer. You should consider the appropriateness of advice taking into account your own objectives, financial situation and needs and seek independent financial advice before making any financial decisions.