Mine Expansions and Reactivations Supporting Macros of Diversified Metals and Mining Sector

I. Sector Landscape

In 2020, the mining industry delivered a dominant contribution to Australia’s Gross Value Added (GVA), 11.0% contribution. During extreme pandemic times, the Australian government made heavy investments in infrastructure and mining activities to hold the country’s GDP afloat.

Key Statistics to Consider for Mining Activities

Improved Business Turnover in Mining: As per the Australian Bureau of Statistics, the monthly business turnover rose in 12 out of 13 published industries in March 2022. The colossal uptick in business turnover was registered by mining industry with a 38.6% increase. Surged commodity prices, including coal, natural gas, and iron ore, have contributed to a higher mining industry turnover index over the last 12 months.

Private New Capital Expenditure: In December 2021 quarter, the total new capital expenditure advanced by +1.1% QoQ & +9.8% YoY and was registered at $33.34 billion, with an estimate to reach $140.8 billion for FY22 (an upward revision of 1.6%). The capex in the mining industry rose by +2.6% QoQ & +10.2% YoY and stood at $9.44 billion.

Index Performance:

The ASX 300 Metals and Mining (GIC) Index posted 5-year returns of ~+94.43% compared to ~+23.35% by the ASX 200 Index. Increasing emphasis on emission-reducing technologies, widening global nuclear installations, considerable green energy investments, and economic recovery prospects.

The ASX 300 Metals and Mining Index (GIC) outperformed the ASX 200 Index in the past five years by ~71.08%:

Source: REFINITIV as of 19 May 2022

Key Risks and Challenges

The constrained supply and global economic recovery led to iron ore prices exceeding US$230/tonne in mid-2021 but declined sharply due to disruption in Chinese steel output. China is investigating several possible iron ore mines in Africa, putting pressure on Australian mineral exports. Gold price is estimated to slide from an average price of US$1,1770/ounce in CY22 to US$1,380/ounce in CY27 in real terms due to lifting real bond yields. Official and industrial sectors observed a net outflow of 173 tonnes of gold in gold-backed Exchange Traded Funds (ETFs) in CY21. During January, the Caixin Manufacturing PMI slipped to a 23-month low of 49.1, reflecting a contraction in manufacturing activities.

Outlook

Improving Iron Ore Export Earnings: The Australian iron ore export earnings have clocked $153 billion in CY21, 32% higher than CY20. The forecasted export earnings are revised to $135 billion in FY22 cited in the Resources and Energy Quarterly Release.

Gold Production Expected to Incline: After FY22, the Australian gold mine production is estimated to increase by 6.8% annually between FY23 and FY26, clocking at the peak of 390 tonnes in FY26. Growth is attributed to mine expansions, reactivation, and incoming production from new mines.

Gold Exploration Expenditure Increased: The gold exploration expenditure entered an expansionary zone with almost +22% growth in CY21 to $1,601 million, accounting for 45% of Australia’s aggregate minerals exploration expenditure.

Copper Exports Expected to Rise: Australia’s copper exports will increase by over a million tonnes in FY27 due to high copper prices incentivising production from mine expansions and new mines.

Global Energy Transition Supporting Copper Demand: The global energy transition towards green energy technologies is expected to improve copper consumption. Copper’s conductivity, durability, and malleability make it a vital input for EVs, batteries, and renewable energy generation.

II. Investment theme and stocks under discussion (RIO, ILU, RRL)

After understanding the sector, let us now look at three 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$40.41 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 17.69% on 19 May 2022. Moreover, the stock might trade at a slight premium compared to its peers’ average EV/Sales (NTM trading multiple), given decent investment activities in mining activities and the rebound witnessed in iron ore. For valuation, peers such as BHP Group Ltd (ASX: BHP), Mineral Resources Ltd (ASX: MIN), and Iluka Resources Ltd (ASX: ILU) 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 $106.750, down by ~1.938% on 19 May 2022. In addition, the stock has delivered an annualised dividend yield of 13.07%.

RIO Daily Technical Chart (Source: REFINITIV)

2. ASX: ILU (Iluka Resources Limited)

(Recommendation: Buy, Potential Upside: Low Double-Digit, Mcap: A$4.32 billion)

ILU is a mineral sands company with segments including Sierra Rutile, Jacinth-Ambrosia/Mid-West, Cataby/Southwest, Mining Area C, and United States/Murray Basin.

Valuation

The illustrative valuation model suggests that the stock has a potential upside of 17.56% on 19 May 2022. Moreover, the stock might trade at a slight premium compared to its peers’ average EV/Sales (NTM trading multiple), given substantial free cash flows and potential commercialisation of rare earth exploration activities. For valuation, peers such as Imdex Ltd (ASX: IMD), Western Areas Ltd (ASX: WSA), Mineral Resources Ltd (ASX: MIN), and others are considered. Given the substantial increase in free cash flows, increased investment resources, progress in rare earth projects, current trading levels, and upside indicated by valuation, we give a “Buy” recommendation on the stock at the closing market price of $9.950, down by ~2.450% on 19 May 2022. In addition, the stock has delivered an annualised dividend yield of 2.35%.

ILU Daily Technical Chart (Source: REFINITIV)

3. ASX: RRL (Regis Resources Limited)

(Recommendation: Hold, Potential Upside: High Single-Digit, Mcap: A$1.41 billion)

RRL is engaged in gold production with Western Australia and New South Wales projects.

Valuation

The illustrative valuation model suggests that the stock has a potential upside of 8.15% on 19 May 2022. Moreover, the stock might trade at a slight premium compared to its peers’ average EV/Sales (NTM trading multiple), given a decent bottom line and favourable financial position. For valuation, peers such as St Barbara Ltd (ASX: SBM), Ramelius Resources Ltd (ASX: RMS), Perseus Mining Ltd (ASX: PRU), and others are considered. Considering the decent financial standing, favourable guidance, growth of Tropicana, current trading levels, and upside indicated by valuation, we give a “Hold” recommendation on the stock at the closing market price of $1.910, up by ~1.595% on 19 May 2022. In addition, the stock has delivered an annualised dividend yield of 3.72%.

RRL Daily Technical Chart (Source: REFINITIV)

Comparative Price Chart:

Source: 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.

Note: All the recommendations and the calculations are based on the closing price of 19 May 2022. The financial information has been retrieved from the respective company’s website and REFINITIV.

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

Disclaimer

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