Nevsun Resources (NSU-T): This Stock Is Just Too Cheap
Nevsun Resources is the operator of the Bisha mine, which is one of the highest grade open pit copper mines in the world, with copper equivalent grades higher than 4%. Just take a look at the company's financials, and it's hard not to like what you see: the company has a ton of cash, zero debt and owns a profitable mine that produces free cash flow every quarter.
Here, I will try to make the case that Nevsun presents a strong buying opportunity at current prices.
Nevsun ResourcesRecent Stock Price: $4.09
Shares Outstanding: 199.65 million
52-Week Range: $3.0 - $4.51
Average 3-Month Volume: 324,255
NSU data by YCharts
Why Invest in Nevsun?Unlike my other articles where I talk a little bit more about the background of the company, I'm going to get straight to the point here and lay out the investment thesis (main points highlighted in bold):
- Nevsun owns 60% of the Bisha copper mine in Eritrea, East Africa, and has been working in the country for 16 years. The state of Eritrea owns a 10% interest in the mine plus an additional 30% paid participating interest.
- The mine contains 7.4 million tonnes of high-grade copper at 3.57%, plus high-grade zinc at 5.54% which will be mined in a few years. In total, the resource contains 1.4 billion lbs. of copper and 3.2 billion lbs. of zinc. The company expects to produce just over 170 million copper equivalent lbs. in 2015. It was previously a gold-silver mine, until it underwent a $110 million copper expansion in 2013.
- Nevsun carries a market cap of $815 million, but has $380 million in cash or $1.90 per share, plus $75 million in accounts receivable and $73.8 million in inventory. In total, the company has $578 million in total current assets.
- Nevsun has zero long-term debt and just $59 million in total current liabilities, so it has positive working capital of more than $500 million.
- This gives Nevsun an enterprise value of roughly $368 million.
- For the three months ended September 30, 2014, Nevsun reported operating income of $78 million and net income of $44.599 million, $25.54 million of which goes to Nevsun shareholders and $19 million of which goes to non-controlling interests. This was because Nevsun produced copper at a cost of just $1.07 per lb. as prices were $2.98 per lb.
- This led to an earnings per share of $.13 for the quarter and $.36 for the first nine months of the year.
- Operating cash flow was just under $130 million over the past year.
- Based on the current figures, Nevsun currently carries an EV/EBITDA ratio of just 1.55, according to Yahoo Finance. It carries a forward P/E ratio of 9.11and a book value per share of $3.32, which isn't that much lower than its current share price.
This chart below shows how undervalued Nevsun is to its peers:
(click to enlarge) 
(Credit: Nevsun Corporate Presentation)
- Analyst EPS estimates for 2014 are $.50 per share, which gives the stock a 2014 P/E of 8.2. Analysts expect similar results next year.
- The stock yields 3.8% currently and the annualized dividend of $.14 per share is made up of approximately 29% of earnings, which means there is room for further dividend growth.
- With $380 million in cash and over $500 million working capital, Nevsun is in an enviable position as it can either buy back shares, increase its dividend, or invest in new high-grade copper or precious metals mines to increase production. Nevsun could also take on a debt facility at a low interest rate if it wishes to preserve its cash hoard.
- Analysts have a consensus price target of $5.43 per share with 8 buy recommendations, according to the company presentation.
- Insiders own roughly 18.98% of the shares outstanding, which is pretty high and shows me that they believe the company is undervalued and the stock will rise.
So What's the Catch?One point of potential concern is the fact that production is expected to drop off in the coming years and shift to high-grade zinc production beginning in 2016/17.
However, because of the high grades and projected low copper and zinc costs, and the potential for much higher zinc prices by then, the mine should still be profitable and produce ample amounts of free cash flow during these years.
 (Credit: Nevsun Corporate Presentation)
Secondly, the company's Bisha region remains underexplored and could provide more quality ounces of production in the years to come. For example, just look at recent additional positive exploration drilling results at the Harena mining license. This drilling is intended to expand the current known resource base.
The company reported some pretty incredible results, including 2.66% copper and 1.05 g/t gold over 38 metres, and 1.82% copper, 2.66% zinc and .40 g/t gold over 36.8 metres. Other previous results included 146 g/t silver over 14 meters and 8.5 g/t gold over 14 metres. Of course, none of these drills are included in the current resource, and the Harena and Bisha deposits are both still open at depth, according to the company's CEO Cliff Davis.
The company has budgeted $10 - $12 million in 2014 on exploration and I'm looking forward to seeing more positive drill results.
In addition, as I mentioned, the company has over $500 million in working capital it can use to buy another copper or precious metals mine to increase its production profile. Another option is a merger with another company. Nevsun's cash hoard is definitely attractive to other miners who might have great assets, but limited capital because of current market conditions.
Another positive is the potential for a shortage in zinc by 2016/17, when Nevsun starts producing more zinc than copper. Targeted star-up of zinc production is expected in H1 2016, at a total cost of $89.5 million, of which $31 million has already been committed (Source: MD&A).
It's a fact that the world is running low on zinc, which has caused the price to run near three-year highs, according to a Wall Street Journal report.
Currently, the price sits just above $1 per lb, but the price could head much higher as supply rapidly shrinks due to large mines shutting down or more about to close, according to this Wall Street Daily report. The report also says to expect a -178,000 metric ton zinc deficit by 2016, and says Patricia Mohr, a noted metals analyst, expects the price to climb 70% by 2016 to $1.70 per lb.
What are the Risks?Of course, Nevsun is not a risk-free investment as it comes with several potential risks.
First, commodity price risk comes to mind. The company is subject to price risk from fluctuations in the market prices of gold, copper, silver, and other metals. The company does not hedge its metals production, so a big drop in the price of metals due to a recession would greatly affect the mine's profitability. The company really will need the price of zinc to hold up in the future as it starts-up production in the first half of 2016.
Next, while the company continues to review several opportunities for growth, including potential mergers or acquisitions, there can be no guarantee it will be successful in its efforts.
The company operates in Eritrea, and while the company believes the political climate of this country and the strong government support in Eritrea provides a stable environment for its operations, there can be no guarantee that the company is safe from any potential future political or economic instability in the country.
Eritrea is actually rated as a high-risk place to operate a mine, according to the Fraser Institute's Survey of Mining Companies 2013, which gave the country a 50 rating out of 100. However, this does compare favorably with other African countries, like Niger (31.8), Tanzania (43), Liberia (38.5), South Africa (39.8) and Zimbabwe (14.6). It's also higher than several Latin American countries, like Guyana (37.8), Panama (47.6), and Colombia (31.9), among others. And as I mentioned, the government of Eritrea owns a 40% total interest in the mine and Nevsun has been operating in the country without an issue for over a decade, so I don't see this as too great of a risk.
Finally, Nevsun only operates one single mine, so its earnings will be affected if anything were to happen at the mine, including a temporary mine shutdown due to a worker's strike, an explosion or accident at the plant, a natural disaster, fires, pit collapses, equipment failure, etc. The mining business is considered to be a high-risk business for these very reasons.
The bottom line? I think the risk versus reward scenario is very favorable here, and I'm buying shares. With $500+ million in working capital, zero debt, a profitable copper mine with future zinc production, and great exploration upside in the region, Nevsun is one of the most attractive mid-cap miners I've ever seen, and I think the company remains a strong takeover target as a result. |
