grange $200 million in the bank by june... buy, page-3

Grange Resources upgrade to OUTPERFORM
Pellet premium
Event
?X GRR has agreed on a pricing mechanism with major customers.
Impact
?X Market based price mechanism. GRR had received a preliminary price
of US$150/t pellet from its major customers from April 2010. GRR's
revised agreement with customers provides for prices based on Platts
62% iron ore index (quoted in US$/dmt CFR China), adjusted for iron
content, freight cost and a pellet premium. On our numbers, we estimate
this was close to US$180/t over the preliminary price period.
?X Cash injection. GRR will receive US$70m (~9% of market cap before
tax) as a result of topping up on the preliminary prices from April 2010 to
March 2011. We had flagged this but not included this explicitly in our
cash flow forecasts, given the ongoing negotiations. We model future
prices using market based pricing similar to the pricing now agreed. GRR
indicates current pricing is US$200/t, in line with our forecast.
?X Next steps ?V difficult quarter, thereafter production back up. GRR has
recently completed a major mill shutdown for maintenance. We model 350kt
pellets shipped in the March quarter, down from previous quarters close to
600kt. Nevertheless management projects that all contractual obligations will
be met. GRR now plans to complete a main pit cutback by end-2012, with 2mt
pellets to be shipped in FY11 (in line with our forecast) and 2.5mtpa in FY12
(MGL: 2.4mtpa).
Earnings and target price revision
?X FY10 EPS adjusted to A$0.023ps from A$0.069ps, following incorporation of
Dec half actuals; FY11 EPS adjusted to A$0.120ps from A$0.136ps; FY12
EPS unchanged.
Price catalyst
?X 12-month price target: A$1.15 based on a DCF methodology.
?X Catalyst: Feasibility study for Southdown project complete
Action and recommendation
?X We rate GRR Outperform with an A$1.15 target price. We believe GRR
remains well placed to capitalise on continued tightness in the iron ore
market by virtue of its installed pellet production capacity. Pricing has now
moved from preliminary pricing to market related pellet pricing, de-risking
GRR's revenue stream and allowing GRR to receive a top-up payment of
US$70m from customers.