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Kazakhmys' prime cut

A proposed spin-off of underperforming assets could transform Kazakhmys' production profile and boost profitability.
July 3, 2014

In the market, the jury's out where Kazakhmys (KAZ) is concerned. But while the share price continues to be weighed down by legacy issues, we believe there is too much potential upside on offer from a proposed restructuring for investors to turn their noses up at.

IC TIP: Buy at 311p
Tip style
Value
Risk rating
Medium
Timescale
Long Term
Bull points
  • Spinning off of underperforming assets
  • Improved grades and costs
  • Implied government support
  • Sound balance sheet
Bear points
  • Uncertainty over cash commitments
  • Initial reduction in production

If successful, the proposed restructuring holds the potential to streamline the production base of the Kazakh copper miner, while driving up grades. That could translate into reduced costs and enhanced profitability. But there is still uncertainty over the terms of the associated deal that is being brokered by principal shareholder and former chairman, Vladimir Kim. The proposals involve the creation of a standalone privately-owned vehicle to hold the group's mature high-cost mines, in which Kazakhmys would no longer retain a stake.

These older assets are more expensive to run as the workings are deeper and the bulk of the higher-grade ore has already been extracted. Many are already struggling to generate positive cash flow, and they'll progressively become more of a burden to Kazakhmys. However, they're also big employers locally. So Mr Kim believes that the way forward is to take them private, leaving the listed entity with its high-grade operations and major growth projects Bozshakol, Aktogay, and the recently acquired Koksay. Although short on detail, the restructuring plan played reasonably well with the market. It also received tacit support from the Kazakhstan government, as the authorities subsequently agreed to cut the mineral extraction tax on the legacy assets that Mr Kim intends to take private.

KAZAKHMYS (KAZ)
ORD PRICE:311pMARKET VALUE:£1.4bn
TOUCH:310-311p12-MONTHHIGH:325pLOW: 170p
DIVIDEND YIELD:nilPE RATIO:17
NET ASSET VALUE:944¢NET DEBT:18%

Year to 31 DecTurnover ($bn)Pre-tax profit* ($m)Earnings per share* (¢)Dividend per share (¢)
20113.61,69126328
20123.427736.411
20133.11473.9nil
2014 * 2.9659.2nil
2015 * 3.321530.5nil
% change+13+231+232-

Normal market size: 7,500

Matched bargain trading

Beta: 1.94

*Westhouse Securities forecasts, adjusted PTP and EPS figures

£1=$1.70

A lingering uncertainty surrounds what amounts to a dowry on the deal. It's expected that the precise terms of the proposals will be made public by early autumn, but Kazakhmys will be required to provide a cash element for the entity's initial operating expenses. But we believe that the implied support of Kazakh authorities should help to keep the commitment at a realistic pitch. Following the disposal of non-core assets, Kazakhmys' balance sheet is in reasonable fettle at any rate with $253m (£148m) in net cash (pro rata).

For 2014, Kazakhmys expects to produce around 290,000 tonnes of copper, in addition to 120,000 tonnes of zinc, 125,000 ounces of gold and 11m ounces of silver. The proposed spin-off of mature assets would initially reduce Kazakhmys' copper output to about 85,000 tonnes, but the retention of the growth projects - and subsequent ramp up - are expected to bring overall copper production back up to existing levels within a 2018-20 timeframe. But the main point is that cash costs and profitability stand to benefit significantly, as average grades at the legacy mines stand at 0.9 per cent against 2.5 per cent for Kazakhmys' residual assets.