Sounth32: Sensitive to market's view on growth

About the author:

Adrian Prendergast
Author name:
By Adrian Prendergast
Job title:
Senior Analyst
Date posted:
17 January 2020, 4:54 PM
Sectors Covered:
Mining, Energy

Overall Q2 performance

A solid first half result from South32 operationally, supporting the company’s FY20 production guidance.

Cannington in particular delivered a strong result with silver output of 3.2koz (vs Morgans 2.8koz), zinc production of 18kt (vs Morgans 11kt), and lead volumes of 29kt (vs Morgans 22kt) with the additional metal volumes supported by the rundown of stockpiles and a jump in zinc grades.

Manganese ore volumes (actual 1.4mt vs Morgans 1.3mt) declined on prior period but held up better than we expected, driven by a good quarter from GEMCO (Australian manganese), while South32’s Colombian nickel mine Cerro Matoso also beat our forecast at 10kt (vs Morgans 9kt).

Off to a good start

South32 did not make any changes to FY20 production guidance, outside of lowering the volume estimate for its South African Energy Coal (SAEC) operations, on weakening local market conditions and wet weather.

Cannington was the standout, while a good performance from South32’s ali division and manganese operations also helped.

With realised prices across the business having mostly declined over the last 12 months, a solid volume performance provides a helpful partial offset.

SAEC sale expected to be finalised in December half

South32 is progressing the binding but highly conditional sale agreement of its troubled SAEC business, and is expected to be finalised in the December half 2020.

Amongst the deal conditions (risks) are the need to secure approval from the South African government and local utility Eskom (key SAEC customer).

While the SAEC divestment does not drive our investment thesis on South32, we would view it as a material positive catalyst if secured, given it would:

  1. Reduce South32’s global workforce by approximately a third 
  2. Boost group EBITDA margin
  3. Free up management time/focus
  4. Improve South32’s risk profile 
  5. Substantially boost South32’s ESG profile by almost completely exiting thermal coal

Leveraged for recovery rally

Depressed forward consensus earnings expectations have weighed heavily on investor sentiment on South32, while we see the prospect of a partial recovery (or at least moderate improvement) in key markets such as aluminium/alumina and coal as offering upside risk that is not currently priced in by the market.

We have only made small adjustments for the Q2 result with our target price revised (Morgans clients can login to view detailed reports and price targets).

As a result we maintain our Add rating with the key risk global macro growth drivers.

More information

Morgans clients can login to view our detailed report for South32 (S32). Alternatively, please contact your Morgans adviser or nearest Morgans office for access.

Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.

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