By Seeking Alpha,
IN SEVERAL earlier articles, I expressed my praise for Nevsun Resources (NYSEMKT:NSU) an unloved copper producer in Eritrea. A lot of investors are a bit wary of investing in Eritrea as the country [allegedly] doesn’t really embrace ethical values. However, I have always said that the downside risk is very limited due to Nevsun’s high cash balance.
Summary:
- Nevsun produces 38 million pounds of copper at a cash cost below $1.25/lbs.
- That’s better than expected, considering the temporary mill shutdown in March.
- Nevsun remains my favorite copper pick, and I’m looking forward to see some M&A activity this year, as the CEO is clearly on the hunt for new assets.
The first quarter was once again as good as it gets
Nevsun’s Bisha project produced approximately 38 million pounds of copper at a cash cost of $1.23 per payable pound of copper it sold. That’s actually pretty good considering there was an unexpected shutdown in March, and if the mill would have continued to operate, Nevsun would most definitely have produced in excess of 40 million pounds and probably close to 45 million pounds of copper.
The shutdown could have been a blessing in disguise as the copper price is now trading approximately $0.25/lbs higher than in March, resulting in an additional impact of $0.5 – 1.5M.
Financial Review
| Q1 2015 | Q1 2014 | |||
| Revenue (millions) | $ | 117.2 | $ | 99.2 |
| Operating income (millions) | 42.6 | 52.0 | ||
| Net income (millions) | 23.0 | 28.2 | ||
| Net income attributable to Nevsun shareholders (millions) | 12.6 | 15.4 | ||
| Basic earnings per share attributable to Nevsun shareholders | 0.06 | 0.08 | ||
| Working capital (millions) | 517.0 | 462.2 | ||
| Copper price realized, per payable pound sold | 2.49 | 3.01 | ||
| C1 cash cost per payable pound sold(1) | $ | 1.23 | $ | 0.98 |
(1) C1 cash cost per payable pound sold is a non-GAAP measure – see page 12 of the Q1 2015 MD&A for a discussion of non-GAAP measure.
The total revenue was $117M for the quarter resulting in an operating income of $42.6M and a net income attributable to Nevsun’s shareholders of in excess of $12M. The operating cash flow before taking changes in working capital into account was $38.3M of which $21M was spent on the Bisha mine where Nevsun is currently adding a zinc recovery circuit to the plant in order to be able to start up the zinc production sometime next year.
With a working capital position of in excess of half a billion ($517M to be exact), 60% of Nevsun’s market capitalization is backed by its working capital position, giving it all the financial flexibility it wants to either pursue an acquisition or to treat its shareholders by giving an extraordinary dividend and/or initiating a share buyback. The working capital position is exactly the reason why I think the downside risk of an investment in Nevsun Resources is quite limited.
What’s next for Nevsun?
Zinc prices are on the rise and haven’t traded below $1/lbs for a while now, so Nevsun’s zinc expansion plan might be coming right on time. According to the most recent update from CEO Cliff Davis, the construction activities at the zinc plant are ahead of schedule. No off-take agreement for the zinc concentrate has been signed just yet, and this puts Nevsun in a strong negotiation position if the zinc market will indeed contract as much as expected.
In my previous articles I have also emphasized I’d like to see Nevsun putting its cash pile to work as there are only a few things in the world I hate more than cash gathering dust on a balance sheet. CEO Davis said Nevsun was working on ‘a few targets’, and knowing he has high standards, I’m pretty sure the company won’t spend its money on an asset that would not be able to generate shareholder value. The jury’s obviously still out until an acquisition has been announced, but this might be the right time to pursue an acquisition considering this is a buyer’s market.
The free cash flow will improve from here on as the peak spending on the zinc expansion is now behind us, and on top of that, Nevsun is finally able to benefit from the lower fuel prices as it had to work through an earlier inventory. This should translate in further cost savings and an increased cash flow profile.
Investment Thesis
Taking all (extraordinary) circumstances into consideration, the first quarter was actually a pretty good one for Nevsun and its free cash flow profile should improve from this quarter on. It should be pretty easy to continue to pay its generous 4% dividend yield and once the construction of the zinc recovery plant will have been completed, Nevsun’s free cash flow yield will approach the double digit figures once again.
I’m still holding my position as the potential rewards here still outweigh the risks. Nevsun could benefit from doing an acquisition outside of Eritrea as that would reduce the risk profile of the company as a consolidated entity.
