Anglo American: Quellaveco Expansion Is Delivering. Buy Confirmed. (OTCMKTS:AAUKF)

Two days ago, Anglo American (OTCQX:NGLOY) (OTCQX:AAUKF) released its Q3 production report, and we have just finished reviewing the latest Woodsmith fertilizer project. Here at the Lab, we have a good grip on the mining sector; however, we still have to comment on BHP and Rio Tinto (both released their quarterly update last week). Regarding Anglo, we explained how the company is set for long-term growth thanks to an Unappreciated Product Portfolio based on Quellaveco ramping up production (Cooper). On the negative side, we emphasized how the diamond segment was valued at around 11% of the company’s total Net Present Value. In a challenging momentum, we prefer investing in a more diversified company within the sector. As a reminder, Rio Tinto and BHP Group have 3/4 of their EBITDA skewed versus a single commodity exposure: iron ore.

Looking at the Q3 production report, our estimates were accurate. To report the press release, Anglo communicated that:

Copper production increased by 42%, reflecting the progressive increase from Quellaveco in Peru… and diamond production decreased by 23%, primarily due to the planned reduction as Venetia transitions to underground operations.

Q3 Production Analysis

Starting with the downside, looking at the quarter, the Anglo American Diamond division was impacted by maintenance CAPEX; however, our negative forward-thinking view is mainly due to the latest decision of the Botswana government to increase its stake in the joint mining venture with De Beers (owned by Anglo with an 85% equity stake). Indeed, looking at the transaction, the diamond value was the limited supply and its oligopolistic nature. Though the short-term implication of this deal is minor, the medium- to longer-term effect could be more significant. In the short term, the diamond output faces headwinds such as lower consumer demand and new offerings from synthetic products (with a lower price point and a more ethical ESG approach). Therefore, these negative impacts could be more profound over time than Wall Street estimates. Looking at the Zimnisky Global Rough Diamond Price Index, we believe we are at an inflection point. Diamond prices are down 18% compared to last year; we are at minus 2.6% on a ten-year timeframe. On a positive note, we should report that diamond buyers keep lower inventories due to macroeconomic uncertainty; therefore, we might expect higher sales as soon as jewelry demand returns to growth (the Christmas period is always a good sales momentum). Post Q3 production report, we set a lower ROCE at 7% vs. the 11% achieved last year. This has a minor consequence on Anglo American’s valuation, given that the Diamond division, including the copper production buildup, represents an NPV lower than 10%.

On a positive note, copper production was 42% higher vs. last year, and this is due to Quellaveco’s mine expansion. If we exclude Peru’s new asset, copper production was down by 4% due to Chile’s lower output. This was due to an electrical substation fire at Los Bronces. Despite that, Anglo is confident it will achieve the full-year guidance. The new copper production, with an increase of 42% compared to last year, partially offset the negative results from the other commodities production results (Fig 1).

Source: Anglo Q3 Press release – Fig 1

This year, based on the current copper price, we forecast a revenue of $8.5 billion, with an uplift in 2024 to $11 billion. Copper EBIT is set to be the leading contributor to Anglo P&L, with an operating profit of $2.5 billion and $3.4 billion in 2023 and 2024, respectively. Today, post-Quellaveco ramp-up, we confirm our estimates. The copper division might be worth approximately $21 billion with a $35k/t annual capacity equal to 63% of the company’s current market capitalization.

A new Upside to consider

In early October, the company hosted a site visit for sell-side analysts and investors to its Woodsmith fertilizer project in the United Kingdom. Quellaveco ramp-up is the company’s most expensive project, with CAPEX expected at $4.8 billion. The head of the project was previously at Quellaveco, and there was no change in the project’s financial guidance with unchanged CAPEX and OPEX. The company sees polyhalite as a “future-enabling” product with the potential to change the fertilizer landscape. This is based on the product’s unique characteristics with higher nutrient content. Management believes the project’s success depends on the culture and people; however, the company conducted research with universities, institutions, and farmers, that have been very successful. In detail, the company prices polyhalite at $190 per ton based on competing products (Fig 3); however, the strategic value proposition should be sold at a premium price. On the ESG side, we believe polyhalite could support the population’s higher food demand and lower soil deterioration. Given that this new product is projected to deliver sales in 2027, we are not including the Woodsmith potential upside in our estimates. However, it might provide earning diversification and a better GEO MIX in the company’s footprint (Fig 2).

Source: Woodsmith project presentation – Fig 1

Fig 3

Conclusion and Valuation

Here at the Lab, we believe that commodity price evolution is the long-term driver of mining shares. Anglo risk/reward is well-balanced thanks to copper and PGM upside that entirely offsets pressure on diamond and met-coal. Given the latest Chinese communication, we have a favorable view of iron ore. YTD, Anglo American declined by 35%, and we believe it offers a solid entry point. The company might see an upside given the “CAPEX underinvestment and secular growth trends.” Anglo left its production guidance unchanged, so we decided to confirm our buy rating. On a twelve-month estimate, the company trades at an EV/EBITDA of 3.68x, while Rio Tinto and BHP Group are at 4.62x and 5.1x. Anglo American offers a higher FCF yield, supported by lower CAPEX investment requirements. With an unchanged multiple of 4.5x (EV/EBITDA), considering the higher company’s debt vs. its peers, and expected diamond underperformance, we confirmed our £32 per share valuation. Downside risk to our target price includes higher maintenance CAPEX requirements, lower for more extended commodity prices environment, and FX development focusing on ZAR/$, AUD$, and the Chilean peso. Given the GEO exposure, we should also mention regulatory changes and geopolitical risk. Any project delay, such as new copper production or the new Woodsmith fertilizer, might severely impact the company’s cash flow.

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