Northam bets farm on the plat­inum price

There’s the present cost of BEE to Northam Plat­inum, and there is the po­ten­tially company-wreck­ing cost of things go­ing wrong in the fu­ture if the plat­inum mar­ket doesn’t per­form the way that the company hopes it will.

Finweek English Edition - - INSIDE - BY DAVID MCKAY

The up­shot of Nor t ha m Plat­inum’s R6.6bn black eco­nomic em­pow­er­ment (BEE) deal, un­veiled on 22 Oc­to­ber, is that the plat­inum group met­als (PGM) pro­ducer and its ma­jor share­hold­ers have bet the farm on the plat­inum price.

Northam is­sued 22% new shares to a BEE en­tity called the Zam­bezi Plat­inum Con­sor­tium for R4.6bn to which the Pub­lic In­vest­ment Cor­po­ra­tion (PIC) added R2bn worth of shares it al­ready held in Northam.

In or­der to pay for the new shares from Northam, and the ex­ist­ing stake the PIC is sell­ing, the con­sor­tium is to is­sue pref­er­ence shares to the tune of R6.6bn. The pref­er­ence shares will be sep­a­rately listed on the JSE and be un­der­writ­ten by Corona­tion As­set Man­age­ment and the PIC. (In fact, the PIC is swap­ping its shares in Northam for pref­er­ence shares.) This means that in­vestors will have the two en­try points into Northam: or­di­nary shares and the pref­er­ence shares that the Zam­bezi Plat­inum Con­sor­tium must re­pay in 10 years’ time, at a coupon rate of 3.5% above prime, which at the time of the deal an­nounce­ment, was a re­turn of 12.75%.

The choice, which in­vestors with an in­ter­est in the plat­inum in­dus­try will have to make, is whether to take the em­bed­ded re­turn on the pref­er­ence share or choose di­rect ex­po­sure to Northam, which as part of the BEE deal, has net­ted it­self R4bn for ex­pan­sion.

The pref­er­ence shares are largely (but not en­tirely) risk-free be­cause they embed a re­turn. It’s pos­si­ble then that Northam pref­er­ence shares may rise and fall with, say, in­ter­est rate ad­just­ments made by the South African Re­serve Bank. The yield on the pref­er­ence shares is quite high if one con­sid­ers how plat­inum shares have per­formed over, say, the last f ive years: Northam, for in­stance, is 60% down in that pe­riod.

The ben­e­fit of own­ing Northam, how­ever, is that the R4bn it re­ceives in net cash from sell­ing its 22% stake (R600m is fees and other items), will be put to­wards pro­duc­tion ex­pan­sion ei­ther in­ter­nally or by merger and ac­qui­si­tion. In fact, Northam CEO Paul Dunne said in an in­ter­view with Fin­week that the firm could prob­a­bly in­crease its fi­nan­cial fire­power to R7bn in­clud­ing bank debt.

This means that Northam Plat­inum could gen­er­ate con­sid­er­able cap­i­tal growth in its share pro­vided it spends t he cash well – on prop­erly value ac­cre­tive trans­ac­tions – and per­haps more im­por­tantly, the plat­inum price is sup­port­ive.

“We take the view that the plat­inum mar­ket is close to a cycli­cal bot­tom,” sa i d Neill Young, an an­a­lyst for Corona­tion Fund Man­agers. “We think this is a good time for Northam to act as a con­sol­ida­tor,” he added.

The ex­pec­ta­tion is that over the next ten years, t he plat­inum price will re­spond pos­i­tively to a re­cov­ery in the Euro­pean au­to­cat­a­lyst mar­ket, as well as jew­ellery mar­ket­ing ef­forts in places such as China.

Per­haps more im­por­tantly still is the view that SA’s plat­inum in­dus­try has learned from its past mis­takes, that dis­ci­pline in new growth projects is fol­lowed, and that high-cost pro­duc­tion from age­ing shafts is knocked out of the sys­tem.

“There’s quite a lot of mov­ing parts in this trans­ac­tion,” said Michael Ka­vanagh, an an­a­lyst for Noah Cap­i­tal. “What’s clear is that Northam is tak­ing a tremen­dous bet on the mar­ket. It’s also likely that now Northam is closely lever­aged to the plat­inum price such that it will re­spond sharply to changes in the dol­lar price of the metal.”

Said Dunne: “The in­dus­try is at a point of inf lexion and we would like to par­tic­i­pate in the re­struc­tur­ing of the in­dus­try. We are po­si­tion­ing our­selves to do that.”

He has sug­gested in the past that Northam could dou­ble out­put to 1m ounces, a tar­get that Young said should not be “a fix­a­tion”.

For pref­er­ence share­hold­ers, the risk is that Northam doesn’t deal well in the mar­ket, or that the plat­inum price doesn’t per­form as well as ei­ther Dunne, Corona­tion or the PIC ex­pect and it, there­fore, can­not fund the BEE con­sor­tium to re­pur­chase the pref­er­ence shares it has is­sued.

Ac­cord­ing to Ka­vanagh, this would put in­cred­i­ble pres­sure on Northam’s bal­ance sheet and may see in­stead an un­bundling of Northam shares to pref­er­ence share­hold­ers.

Said Seten Naidoo, an an­a­lyst with Stan­dard Bank Group Se­cu­ri­ties: “We be­lieve th­ese types of deals cre­ate sig­nif icant pres­sure on com­pa­nies fur­ther down the line, which the mar­ket starts pric­ing into the stock ma­te­ri­ally ahead of time when the tide t urns against pro­duc­ers.

“In our opin­ion, this would only be value ac­cre­tive should Northam per­form in line with it s goals of ex­pand­ing sig­nif­i­cantly while hav­ing com­mod­ity prices in its favour, thereby mak­ing the sig­nif­i­cant bur­den due in 10 years neg­li­gi­ble.”

Paul Dunne

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