Being a South African platinum miner is a pretty miserable existence right now. The contract price of platinum has fallen more than 12% over the four months and seems stuck in a trading range of $1,400 to $1,700 an ounce. At the same time, once-great mines are starting to show their age and labor unrest is becoming a serious issue. Add in the risk of expropriation in Zimbabwe, and it's not exactly surprising that Impala Platinum (OTC:IMPUY) (aka “Implats”) shares are at their lowest point in roughly eight years.
The good news is that Impala still has some of the highest-quality assets and reserves in the market, as well as a balance sheet and cost structure that stands out in the field. Were the company to get a little more aggressive in M&A and/or see a recovery in platinum prices, the shares could recover from these lows.
Challenging Production And Rising Costs
Like other large South African platinum producers including Anglo American Platinum (OTC:AGPPY) and Lonmin (OTC:LNMIY), Implats is suffering from the one-two punch that miners hate – declining production and rising costs.
While gross production rose 48% in the third quarter, this was boosted in large part by wildcat strikes in the year-ago period that hurt production. On a sequential basis, production declined 17% as the company is increasingly dealing with lower ore grades and less productive mining. At the same time, unit costs rose 23% to roughly $1,600 per ounce – above the current spot price of platinum.
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Can Implants Cut Costs Effectively?
With the rising costs and declining prices, Implats management has said that several mines are increasingly nonviable. Industry production is already at the lowest levels since 2000, and it is estimated that about two-thirds of the platinum mines in the world are operating at a loss.
Management has already mothballed two mines in its Rustenberg complex, cut 6,000 jobs, and discussed capacity cuts of 350,000 ounces over a three to five year period (against expected fiscal 2013 production of about 700K oz and “normalized” capacity of about 1M oz).
It may be hard to do more. Amplats, the world's largest platinum miner, recently had to back down and compromise with the South African government. Amplats will still be closing about one-third of its production capacity, but retaining more than half of the workforce – turning a one-time cost-saving move into an ongoing drain. Still, the companies don't have a lot of choice – the industry lost billions in wildcat strikes in 2012 and unions are still pushing for wage hikes on the order of 20%. Labor costs are more than half of the operating cost of South African platinum mines, and the government is loath to let these jobs go away.
It's not just labor that challenges Implats. The company's Rustenberg complex in South Africa has historically produced very good resource grades and allowed to Implats to operate with an attractive cost basis. But this is starting to change – the mining geology is getting more challenging, costs are rising, and the company needs to put significant capital into deep, high-cost, 4th-gen shafts just to maintain production.
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Can Zimbabwe Be Trusted?
It may get even worse for Implats before it gets better. Implats has a significant stake in Zimplats, a Zimbabwe-based platinum mining business. Impala was once the majority owner, but the government of Zimbabwe has compelled the company to surrender more than half of the company. While the government had said it was going to pay for the stake it was acquiring (almost 40%), Zimbabwe's president Robert Mugabe has recently said that there was a “misunderstanding” and that Implats may well get nothing for it.
Unfortunately, Zimplats is a significant portion of Implats' production and the cost basis is relatively attractive, even with a 15% free carry going straight to the government. What's more, I don't think anybody can look at Mugabe's history of extortion and government-sanctioned theft and rest easy that there will ever be an end to the risk or turmoil here. As unpleasant as this may sound, the good news may be that Mugabe is 89 years old and can't go on forever.
Time To Use The Balance Sheet?
While Implats is in a net debt position, the company's balance sheet is relatively solid and a recent $500 million convertible issue gives the company more liquidity and flexibility. I do wonder if it's time to make even more use of its capital, though, and consider acquisitions.
Buying Aquarius (OTC:AQPTY), Northam Platinum (OTC:NMPNF), or Royal Bafokeng would add attractive reserves and offer operating leverage opportunities, particularly as Royal Bafokeng has large, shallow, high-grade reserves near Implats's existing South Africa assets. While Aquarius would offer some of the lowest-cost mines in the world, it too is tied into Zimbabwe.
Perhaps the better option would be to go for Stillwater (NYSE:SWC). Not only does Stillwater have a solid reserve base (over 40 million ounces proved and probable), but its assets are located in Montana and Canada – veritable mining paradises compared to South Africa and Zimbabwe.
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The Bottom Line
Assuming that Implats isn't outright robbed in Zimbabwe, the company has over 25 years of proven platinum reserves and potential reserves that go out more than 100 years. The real question, then, is whether prices and costs will move in more favorable directions. On that score, there's significant debate. The spread between the high and low EBITDA estimates over the next 12 months is 70%, and that reflects the huge uncertainties here.
Taking the average estimates (and an average historical multiple), Implats shares appear to be worth about $10.50 – not a huge premium to the going price of about $9.70. Taking the high range of estimates, the fair value increases to around $12, while the low end of estimates leads to an $8 target. That's not the most compelling risk/reward balance, but investors looking to play a high-quality beaten-down platinum player may want to explore Impala further.
At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.