re: go zfx! From Macbank pick of the day.Zinifex CEO, Greg...

re: go zfx! From Macbank pick of the day.

Zinifex CEO, Greg Gailey, presented at the Macquarie Securities Conference in Sydney this morning, and highlighted that the key issue for the company remains its strong leverage to the zinc price. Given MRE’s expectation that zinc will be in deficit for a number of years to come, and anticipating that the zinc price will spike above US$1.50/lb later this year, MRE expect that the Zinifex share price should remain strong throughout the year. ZFX shares have gained almost 300% in the past 12 months due to the extremely large increase in the zinc metal prices.

Zinc outlook robust
ZFX painted a positive outlook for zinc markets, highlighting falling zinc stocks, and the difficulties that producers face in growing supply. Furthermore, in light of appreciating operating and capital costs, ZFX indicated that the long term zinc price may need to rise beyond US$1300/t (~58c/lb) to provide sufficient incentive for new supply.

Cost pressure to continue
Cost pressure will continue. ZFX provided recent guidance that y-o-y operating costs would increase by ~10%.

Looking for growth
As is well known in the market, one of ZFX's key strategic goals is to renew and grow the mining base. Today's presentation included a strong focus on explaining the company's efforts to add to it's resource/reserve base. Following on from consistent strong drill results at Rosebery, a Rosebery extension was discretely identified as a separate project, adding ~2mt of resources (with drilling ongoing). The comment was made that the development of the Rosebery expansion and of the Dugald River project (expected commissioning by 2010 if approved) would add at least five years to ZFX's mine production (ie to beyond 2020). In MRE’s view, approval of such extensions is likely to add significantly to NPV.

Dividends
Commenting on dividends, against the backdrop of the significant cash flow the company is forecast to generate, Greg Gailey again reiterated the policy that the company will return to shareholders cash that is excess to the company's requirements. In the absence of any corporate activity, or other significant new capital expenditure, MRE expect ZFX to generate ~A70-80cps of free cash flow in JuneH06.

Action and recommendation
Zinifex remains supremely leveraged to one of MRE’s favoured commodities in zinc. Thus far over it's two year life, the stock has traded largely in line with the A$ denominated zinc price and MRE expect this relationship to continue. Given MRE’s expectation that zinc will be in deficit for a number of years to come, MRE anticipate the zinc price will spike above US$1.50/lb later this year, and accordingly expect that Zinifex may trade above MRE’s 12 month price target of A$11.00ps.

Given the ~460% increase in the stock price over the past two years, the relatively higher cost base of some of the company's assets, and the significant single asset risk to earnings, MRE believe the risk/reward trade off for this stock justifies a neutral recommendation (despite MRE’s view that the stock could trade higher in the short term). With this in mind, any significant change to MRE’s outlook for the zinc price could have significant implications for MRE’s view on the trading range of ZFX.