-Current 3-year target of A$12.37 ps -Raised average Resource grade by 25% to 600ppm -Lowered our LT U3O8 price 8% to US$55/lb -Raised operating costs by 11% as a result of increased stripping ratios -Additional US$25m in capex for pre-strip -50% increase in production would result in a 3-year target of A$17.73 ps
As mentioned in the recent EXT quarterly, approximately 72km of both RC and diamond drilling went towards infill, extensional and sterilisation of Zones 1 & 2. There are now 19 drill rigs on site and we applaud management for its diligence in converting much of its Indicated to Inferred and Measured categories for the Definitive Feasibility Study (DFS), currently scheduled for completion in the 4Q10. However, it has become apparent that, as a result of recent diamond drilling, an over-reliance on the cheaper RC technique under-estimated the insitu grade by at least 23%. RC drilling, by its very nature, breaks up the rock into small rock fragments and dust, which is not considered a statistical issue when drilling a heavy element such as gold. But in an alaskite (the host rock), composed primarily of quartz (20 to 60% by volume), with the difference composed of alkali-feldspar, primary uranium mineralisation as uraninite appears to be highly susceptible to aerosol loss. If confirmed officially, it will be interesting to see how the company will accommodate this issue in future resource calculations.
We also updated our assumptions. For instance, the arbitrage between the spot price and the long-term U3O8 price has increased by 7% over the past seven months to 42%. Even taking into account the relative liquidity of the market, it is too high given both carrying costs and commodity price spreads. We therefore hypothesise that the long-term price will decline from current levels (US$58/lb), lowering our LT price assumption to US$55/lb U3O8. As flagged in our previous note, we fully incorporated additional costs from the previously announced higher stripping ratios, coupled with slightly higher capex. Although our cost per tonne is no-longer within company guidance (~+11%) as released with the pre-feasibility study (~A$23.9/t), we await the DFS release, due in 4Q10, before we will review our figures.
We understand that the company is evaluating the option of building a 6km conveyor belt from Zone 2 to the existing Rossing mill, coupled with the development of their own processing plant. We believe that a toll-treatment option is clearly a sub-optimal outcome for all EXT�s shareholders, with the exception of Rio Tinto, especially when compared with the opportunity of increasing capacity throughput to capture additional economies of scale and possibility of bringing additional cashflows earlier. For example, assuming a 50% increase in capacity, additional capex of US$200m coupled with scalar increases in opex and repayments, etc., the three year price target would increase to A$17.73 per share. If we increased productive capacity by 100%, additional capex of US$350m, the three year target would increase to A$23.25 per share. Although there is a risk that the project could inundate the primary market with supply, it is clear evidence that management should retain full control of this project.
Despite our three year target declining by 11%, we believe that investors have yet to appreciate the significance of the Rossing South Discovery and the ability of it to add to shareholders wealth. Our financial model is currently constrained by pre-feasibility output guidance. However, we believe that future optimisation studies will recommend greater production levels than currently anticipated, coupled with the prospect of mining higher-grade portions of the ore-body to facilitate faster payback. We think this company to be very good value for a risk tolerant investor with a 5-year time frame.
Full Report http://www.capmarkets.com/ViewFile.asp?ID1=138173&ID2=420391633&ssid=1&directory=12494&bm=0&filename=EXT_WHI_070610.pdf
EXT Price at posting:
$7.00 Sentiment: LT Buy Disclosure: Held
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