Tharisa’s dividend looks precious

Mining and selling metals that are largely used in the manufacture of combustion-engine cars and hybrids should be a shocking bet for an investor. Surely the electric vehicle (EV) revolution would kneecap a company like this? Why go down this road when you can throw your money into EV-exposed companies?

Cash flow is why.

Platinum miner Tharisa’s (THS) prospects point to plenty of life – and dividends – in the business yet, despite massive changes taking place in the automotive supply chain that consumes much of the miner’s product.

The company’s cash flow is set to surge as a major expansion project is completed while platinum group metals (PGM) prices forecast to stay well above historic averages. The consensus forecast for free cash flow (FCF) in the recently completed financial year to the end of September 2021 is $179m (£132m). Results are due to be published in early December. That FCF figure compares with a pre-Covid-19 level of $21m. Put another way, FCF for the last financial year is expected to be around two-fifths of the company’s entire enterprise value (market cap plus debt minus cash).

And 2021 is not expected to be a one-off. Broker Peel Hunt thinks that over the next three financial years, after paying dividends, the company can produce $250m of surplus cash. 

The company’s payout policy is 15 per cent of net profit, which is also set to climb impressively for the 2021 full year. This will give a yield of 7 per cent, according to Peel Hunt forecasts. 

This impressive cash flow comes from Tharisa's mines and processing facilities in South Africa. These are not the traditional deep and difficult underground operations the country was built on, and this is reflected in Tharisa reporting zero deaths at its operations in the past five years. Compared with competitors, the miner is doing well on this front. It has the option of going underground once the open-pit resources are tapped out at its eponymous operation, but this is not on cards just yet. The company is still increasing production at surface level. 

In its production results for the 12 months to 30 September, released last month, Tharisa said it had hit output of 158,000 ounces of PGMs, including a quarterly record in the last three months of the year. It has also reached the commissioning stage for a new chrome processing plant. On top of PGMs, the miner sells chrome, an ingredient for stainless steel.

That new plant, called Vulcan, has been a drain on cash for some years, peaking in the 2021 financial year at a forecast $122m. It will increase chrome production by 20 per cent, by raising recovery rates (how much chrome comes from each tonne of ore). 

That is not the end of expansionary spending: Tharisa is moving toward a green light on a Zimbabwe platinum project, and has started construction at a new chrome project in the same country.

Chief executive Phoevos Pouroulis said the new mine could be in production within two years of the prefeasibility study being published, which he calls an “unheard of” speed of development. Often when miners are quickly pushing for a new asset to hit production they also face a slowdown at existing mines. But the Tharisa mine has more than a decade left, going by its current mineral reserves.

The bigger question for the medium- and long-term prospects of the company is around demand for platinum, palladium and rhodium (collectively known as platinum group metals) once the car industry moves on from internal combustion engines (ICE). The shift away from diesel engines has already had an impact, although tougher emissions standards and continued strength in the hybrid market have balanced out this hit for now. Diesel engines need more platinum in their catalytic converters, while petrol engines use more palladium and rhodium. 

Just add water

The automakers are in a tough spot because of a semiconductor shortage, which has come at the same time as very high demand for cars coming out of the pandemic. This is forecast to put a dent in car production until 2023, cutting PGM demand.

This could be a taste of things to come as the world moves towards electric vehicles.

Unsurprisingly, Pouroulis is bullish on ICE car production continuing, pointing at potential shortages of key battery materials such as cobalt and lithium. He is also keen to point out the possibilities of the hydrogen industry. Platinum is used in electrolysis, the energy-storage process by which water is turned into hydrogen gas. This source of demand is still some time off, however the money has started pouring in from governments and fossil fuel companies that see hydrogen as a way to clean up heavy-emitting sectors.

Catalytic convertors are not the sole driver of PGM demand, but they are the most important. The World Platinum Investment Council (WPIC) puts car industry demand for platinum (net of recycled supply) at 2.4m ounces in 2020, about 30 per cent of the total, and jewellery demand at 1.8m ounces. This jewellery figure is well down from a 2015 peak of 2.8m ounces, which is largely due to tastes and spending habits changing in China. 

HSBC has forecast a swing from a 669,000-ounce market deficit in 2020 to a 724,000-ounce surplus this year for platinum, although sees a deficit again by 2023. Supply bounced back this year from a Covid-19-hit 2020, at the same time auto demand fell off. HSBC analyst James Steel sees palladium remaining in deficit, with this growing from 464,000 ounces this year to 769,000 ounces in 2023. 

Palladium and rhodium are two key PGMs, and they have driven the sector's heavy sales increases in recent years. Platinum itself has fallen out of favour for catalytic converters in favour of palladium, driving up the demand and price of palladium. Net catalytic converter demand for palladium dwarfs platinum at 5.9m ounces. Rhodium is also used in cars. 

Given PGMs that are separated further down the supply chain and mined together, producers sell a ‘basket’ of these metals, and prices vary depending on the composition.

The price of Tharisa’s basket went up 80 per cent in the 12 months to 30 September, to $3,074 an ounce, following a 58 per cent jump the year before. Big price rises are obviously not uncommon in the commodities sector – as illustrated by everything from oil to zinc in the last two years – but PGMs have the added bonus of having a largely positive medium-term forecast as well, even after a fall in palladium and rhodium prices in recent weeks.

Liberum’s analysts see palladium dropping off slightly next year ($2,400 an ounce compared with $2,472 an ounce this year) but have platinum making up plenty of ground and rhodium getting back above $20,000 an ounce following a recent sharp sell off. Liberum also picks platinum as the only major metal that doesn’t “carry downside risk” over the next five years. This is partly down to its weaker performance in recent years and attractiveness as a cheaper palladium alternative, but that is a strong endorsement for a platinum-exposed miner. 

HSBC is also bullish on platinum in the coming years, given increasing substitution for palladium due to the wide gap in their prices, and its greater applications in the hydrogen industry. The broker puts hydrogen-linked demand at “several hundreds of thousands of ounces a year” from 2023 onwards, sharing Tharisa management’s bullish view. 

A growing company

Miners must keep looking for new resources to replace those they dig up. Tharisa is doing this both at its existing operations in South Africa and in Zimbabwe. The company has set a medium-term goal of hitting 200,000 ounces a year of PGM output – a significant uptick on the current level. The path there includes 2022 guidance of 180,000 ounces and another increase the year after. This increase provides some cover in case PGM prices drop off as well.

From there, the company also has the Karo expansion option in Zimbabwe. Peel Hunt forecasts the cost of this new mine at $350m, calling this “eminently affordable” given Tharisa’s current cash flow.

The broker is also forecasting an increase in the company’s net cash position out to 2023, from $46m at the end of September to $185m. There should be more detail on Karo by the end of the year alongside the year-end numbers, as Tharisa finishes the prefeasibility study on the project. It currently owns just over a quarter of the project but has operational control.

This long-term decision-making is where the picture gets foggier, however. How long will the auto industry support PGM prices? When will the hydrogen industry pick up some of this demand? There is massive ambition and even more hyperbole about hydrogen. The forecast of a few hundred thousand ounces a year of platinum demand from HSBC could be well under the reality if even a proportion of the projects in the pipeline get picked up. On top of electrolysis, platinum is used in fuel cells that could power heavy transport and other hard-to-electrify technologies. 

Macquarie Bank’s commodities analysts share the view that it’s not an easy market to predict: “In the case of palladium, liquidity and the structural narrative remain challenging, while for platinum the hydrogen economy presents a potentially rosier outlook but still sits beyond most investment horizons and fails to meaningfully impact our balance over the next five years,” the bank said in September.

My precious (metal)

London investors don’t have a huge amount of choice when it comes to PGM miners, compared with gold, as an example. But the sector has a lot of gems, largely thanks to the recent PGM price movements.

Many of the big players are listed in South Africa, where Tharisa also has its primary listing. Tharisa is a top mining company in terms of dividend yield offering a payout on a similar level to the iron ore-powered majors Rio Tinto (RIO) and BHP (BHP).

For now, this is a short- to medium-term income play. While the company has the balance sheet to withstand tougher market conditions, part of the appeal is that PGM prices should stay fairly high for another two to three years at least. The rebound in auto demand and then possibly the emergence of hydrogen-linked buying should help, allowing the handsome cash generation and dividend payouts to continue.