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Gemfields' colourful prospects

Gemfields goes from strength to strength in an increasingly challenging commodities market.
September 3, 2015

Midway through last year we exited a speculative buy recommendation for Gemfields (GEM) after its share price had doubled to 52p. At the time we thought that the miner's premium to the sector was likely to narrow. A year on and the rating is down but the long-term investment case for the coloured gemstone producer is stronger than ever. A succession of positive auction performances, coupled with a maiden resource estimate for the highly promising Montepuez ruby mine in Mozambique, convinces us that Gemfields is well on the way to fulfilling its early promise - and then some.

IC TIP: Buy at 61p
Tip style
Growth
Risk rating
Medium
Timescale
Medium Term
Bull points
  • Positive auction performance
  • Maiden resource estimate at Montepuez
  • Ethically-sourced product
  • Consumer shift towards coloured gemstones
Bear points
  • Frontier political risk
  • Lumpy revenue and cash flow

Gemfields - majority-owned by Johannesburg-listed Pallinghurst Resources - owns 75 per cent of Kagem, an emerald mine in northern Zambia, and the Montepuez ruby deposit in Mozambique. The miner now accounts for around a fifth of the world's emerald supply. It also holds a 50 per cent stake in the Kariba amethyst mine, also located in Zambia. In 2013, in a deal designed to optimise returns on its premium quality stones, Gemfields acquired the iconic Fabergé brand.

 

 

Against a backdrop of faltering commodity markets, Gemfields' business model seems to be defying gravity. Sales growth shows no signs of letting-up, as consumers are increasingly shifting their attentions towards high-quality coloured gemstones. Buyers of high-end jewellery are not only becoming more discerning in terms of sourcing unique and idiosyncratic items, but they're also far more inclined to insist that the stones they're purchasing have been ethically sourced, which is a key feature of Gemfields' offering.

The recent resource estimate at Montepuez has certainly firmed-up the economics of the project. The mine has enough reserves for more than 20 years of mining, according an independent assessment by consultant SRK. The mine has a JORC-compliant indicated and inferred resource of 467m carats of ruby and corundum at an average grade of 62.3 carats per tonne (ct/t). Probable reserves, which imply a higher degree of certainty, are 432 carats at a grade of 15.7 ct/t. After prolonged trial production, the mine is now expected to rise to 5.6m tonnes annually by mid-2017. The costs to bring Montepuez fully on line would be $64m in the first two years and $305m over the mine life, but that would generate cash of $2.8bn. It's worth mentioning that another independent assessment is expected to confirm that Kagem is viable through open-cast methods for upwards of 20 years.

As with any frontier mining projects there are inherent execution and security risks. But the miner's chief executive, Ian Harebottle, has always stressed the importance of embedding operations in the local community to forestall any potential problems on the ground.

Although Gemfields has always had a solid production base, it is scaling-up and diversifying its business. Therefore it will incur substantial development costs from time to time, as it has with the Fabergé brand and the Montepuez ruby deposit. And due to the irregular timing of its auctions, revenue and cash-flow tend to be uneven - investors need to take a wide-angled view.

GEMFIELDS (GEM)
ORD PRICE:61pMARKET VALUE:£330m
TOUCH:60-62p12-MONTH HIGH:69pLOW: 44p
DIVIDEND YIELD:nilPE RATIO:14
NET ASSET VALUE:47¢ *NET CASH:$19.4m

Year to 30 JunTurnover ($m)Pre-tax profit ($m)**Earnings per share (¢)**Dividend per share (¢)
201291.747.7-0.8nil
201348.4-19.5-4.0nil
201416036.11.9nil
2015**17327.51.1nil
2016**23971.26.8nil
% change+38+159+518-

Normal market size: 7,500

Matched bargain trading

Beta: -0.07

*Includes intangible assets of $45.7m, or 8¢ a share

**Investec forecasts, adjusted EPS and PTP figures

£1=$1.55