Rio Tinto likely to buy out Turquoise Hill
The relationship between Rio Tinto Ltd. and Turquoise Hill Resources Ltd. is complicated, to say the least. Turquoise Hill controls the giant Oyu Tolgoi coppergold project in Mongolia, and Rio Tinto controls more than half of Turquoise Hill’s shares. Rio wants to own more of Oyu Tolgoi, and it will almost certainly buy 100 per cent of Turquoise Hill one day. The question is: when?
CIBC World Markets analyst Tom Meyer thinks it will be sooner rather than later. He expects the mining giant to pay a premium for the Turquoise Hill shares it doesn’t own in the next 12 to 18 months, or once the key risks from the project are removed. Those risks include financing, a cost update on Oyu Tolgoi’s underground development, and next year’s Mongolian election.
Rio Tinto has done a good job of operating Oyu Tolgoi, but Meyer does not necessarily think Turquoise Hill’s minority shareholders should view it as an ally. He noted that Rio has every incentive to maximize operating performance, but no incentive to “promote” the true value of the asset. The lower the stock price for Vancouver-based Turquoise Hill, the less Rio has to pay to buy it out.
“It is worth remembering that Rio Tinto is driving the bus,” Meyer said in a note.
“Minority (Turquoise Hill) shareholders can ride the coattails and benefit too, but maybe not as much had there been no other competing investment agendas.”
Meyer visited Oyu Tolgoi last week and came away impressed with the project. Given the importance of the mine to Mongolia, he said he no longer views the political risk, one of his long-standing concerns, as above average.
However, he maintained a sector underperformer rating on the stock and a price target of $4 a share. This is a relative valuation call. He thinks the shares are a bargain in the long term, but that higher-cost, higher-leveraged copper plays such asFirstQuantumMineralsLtd.and HudBay Minerals Inc. offer more upside if commodity prices go up in the short term.
“Some companies do better than others depending on the commodity price path,” Meyer said. “Year to date, (Turquoise Hill) has been a winner in a relative sense as so much of its value is truly long-dated and in theory, not subject to current price volatility.”
Meyer’s price target is the lowest among sell-side analysts, with all the others covering Turquoise Hill rating the stock as either a buy or a hold.
Credit Suisse analyst Ralph Profiti was also on last week’s Oyu Tolgoi tour, and he too came away very impressed. He sees good catalysts for Turquoise Hill’s stock in the year ahead, including the expected signing of financing for Oyu Tolgoi’s underground development, and formal approval of that project. He expects Turquoise Hill to generate US$300 million of free cash flow in the second half of 2015 at spot metal prices.
He has a hold rating on the stock and a price target of $5.50, which is based on a multiple of one times his estimate of cash-adjusted net asset value per share.