Northam Platinum Holdings Ltd. (JSE:NPH, Financial) is a South African platinum group metals miner in the midst of a pivot from external value-additivity to shareholder value passthrough.
The company recently exited a tussle with fellow platinum miner, Impala Platinum (IMPUY, Financial), which saw it void its interest in a takeover of Royal Bafokeng Platinum (JSE:RBP, Financial). Subsequently, Northam announced a new shareholder compensation structure and various dispositions, lending the argument that the stock is set to present a different profile in the years ahead.
Here are a few of my latest findings pertaining to the company.
Reef exposure
Northam mines in the Bushveld Complex, which is estimated to own nearly 80% of the world's platinum group metals. The company mines the UG2 and Merensky Reefs with three primary assets under its umbrella, namely Booysendal, Zondereinde and Eland.
Source: W. Smith, et al., 2021.
Northam's participation in the northern part of the Merensky western lobe provides it with access to bulk PGMs, which translates into a leaner and more skilled labor force than your average PGM site has. As such, and according to my observations, the company's throughput and grades have been very consistent in recent years.
As shown in an example of African Rainbow Minerals' (JSE:ARI, Financial) production mix, the Merensky Reef tends to provide a higher concentration of bulk Platinum, while the UG2 Reef provides a blend of PGMs along with traces of Gold. Sure, Northam's exposure to the reefs is not identical to African Rainbow Minerals', yet the latter's case study provides a solid indication.
Source: African Rainbow Minerals
I charted Northam's full-year ores milled and head grade discovery below, which illustrates its current ores fed per reef. As shown in the diagram, Northam has higher grades stemming from Merensky; however, its feed is higher from UG2.
Source: Author's Work, Data from Northam
As illustrated later on, current ramp-ups and expansion projects mean UG2 and Merensky will probably experience increased feed throughout Northam's next business cycle. However, I expect feed from UG2 to succeed the feed from Merensky amid an aggressive sequencing process at the Eland mine, which relies on UG2 reserves.
The following chart illustrates Northam's feed along with grade by mine and reef. I will get into structural shifts later to highlight any changes in the production mix that might occur.
Source: Author's Work, Data from Northam
Current group performance and outlook
Northam's full-year financial results were publically disseminated on June 30, showing robust numbers. Despite struggles with load curtailment that led to 1,003 lost hours, the company's year-on-year volumes sold increased by 20% to reach 885,347 ounces; moreover, Northam's revenue settled 16.1% higher than its previous year, reaching 34.1 billion rands (approximately $1.82 billion).
Source: Northam
Despite headline increases, higher input costs stemming from systemic increases in electricity prices and wages resulted in Northam's trailing 12-month operating profit margin receding to 39.1% from the 43.7% achieved in June 2022.
The company's 2023 tonnes milled at its mines ticked up in general; however, lower grades were delivered.
At Zondereinde, milling increased by 7.1% to reach 2,220,059 tonnes, with most of the support deriving from increased mills at UG2 (up 9.1% year over year). However, Merensky and UG2 grades fell by 1.4% and 0.7% apiece, phasing out some of the benefits obtained from milling ramp-ups.
Furthermore, Booysendal's tonnes milled surged by 20.1% year over year to reach 6,358,905, stemming from a ramp-up at UG South that led to a 29.6% increase in tonnes milled. However, as with Zondereinde, grades settled lower, with the average basket down by 3.1% year over year, achieving an average grade figure of 2.5.
Lastly, Eland, which Northam acquired from Glencore (LSE:GLEN, Financial) in 2017, ramped up significantly in 2023, delivering an impressive 2.076 million tonnes milled, equating to a 60.5% year-over-year increase; however, note that grade quality retracted to 1.5 from a previous 2.
I charted Northam's 2023 operating profit/loss per asset; note that the results are foreign exchange-adjusted.
Source: Author's Work, Data from Northam
I think we should look at Northam's grades from a secular vantage point while thinking about tonnes milled from a hybrid secular/cyclical point of view. I say this because grades are very unpredictable; yet, Northam's exposure to Merensky and UG2 means that it has access to some of the finest grades in the world, which I think communicates long-term value additivity.
In terms of throughput, I believe Northam will scale. Yes, it is dealing with regional electricity grid issues accompanied by substantial pressure from hard-line labor unions, which causes frequent disruptions. Nevertheless, and as discussed later on, Northam is in the midst of substantial mine expansions, and I believe further sequencing might occur due to the company's recently strengthened balance sheet stemming from the disposition of financial assets and the unwinding of tied-up acquisition capital.
As things stand, although challenges such as geopolitical risk and a pending rainfall season must be considered, Northam is on a momentum trend and looks likely to deliver robust results in the coming years.
Source: Weather Spark
Failed RBPlat takeover – A blessing in disguise?
This part of the analysis is what I consider the meat and bones, as recent events suggest Northam is shifting from a growth-by-acquisition model to an internal growth model, which includes enhanced shareholder remuneration. Although somewhat forced, I think Northam is entering a new paradigm that might benefit its shareholders in the coming years.
For those unaware, Northam has been in a wrestling match with Impala Platinum during the past year as the two South African PGM miners entered a bidding war.
The target was Royal Bafokeng Platinum (or RBPlat), which is a low-cost mining house that would present most acquirers with significant cost synergies. However, Northam lost the battle against Impala Platinum, failing to gain outright ownership of RBPlat, which led to a subsequent divestment of its existing portion of RBPlat shares. Moreover, Northam held Impala Platinum shares, which it disposed of after the failed attempt to acquire RBPlat.
Let's look at a few numbers.
Northam held a 35% share in RBPlat before Impala Platinum succeeded with its mandatory takeover bid. However, as part of the transition in ownership, the company disposed of its position, leading to a cash injection of 9 billion rands and a debt reduction of 6.6 billion rands. Moreover, Northam disposed of more than 90% of its Impala Platinum shares, providing it with 2.4 billion rands in liquidity.
Note that Northam will incur a 4.1 billion rand loss on its Impala Platinum disposition, which, according to IFRS accounting standards, will be a realized loss on the income statement. Although this presents a dent to interim earnings, it does not have to be settled with liquidity received, meaning the cash injection from Northam's divestments is already netted out and ready to use.
The data points show that Northam's income statement and business strategy suffered from the event. However, its balance sheet has plenty of additional dry powder to work with; let's run through a few possibilities.
Growth strategy
Northam's strategic plan will likely be altered after its failed RBPlat takeover. In my view, Northam will not be looking to acquire external targets, but instead focus on developing internally while distributing earnings to its shareholders.
Internal growth accompanied by individual asset acquisitions can be highly lucrative. In fact, takeovers are often completed at significant premiums, whereas premiums on individual asset acquisitions are less noticeable. Moreover, Northam has a significant project pipeline to work with.
Here are a few pipeline projects that it's busy spending on.
Zondereinde Shaft 3
Northam's Zondereinde Shaft 3 is in the midst of an expansion, with the project at 56% completion. The Shaft 3 expansion is set to be completed by year-end 2024 with the goal of adding to the company's Merensky production to reach a target steady-state production of 120,000 ounces per year.
The capital expenditure program is due to settle at roughly 6 billion rand. Based on trailing earnings and assumed ramp-ups, I think the payback period would be just under two years.
Source: Northam
Eland construction
The Eland Mine is a brownfield restart. As mentioned before, the asset was acquired from Glencore in 2017 and is about 30% through its estimated $450 million capital expenditure cycle.
I am quite excited about the Eland project, as the talk of the town is that Northam is banking on Eland and believes that it is overlooked by many larger PGM players. The mine incurred an operating loss of approximately $79 million in 2023. However, Northam's recent cash injection might fast-track sequencing and might soon send the asset into profitable territory.
Source: Northam
Northam's dividend declaration
After backing out of the RBPlat deal, Northam decided to declare a dividend policy spanning 25% of its headline earnings. In addition, the company committed to a 1 billion rand stock buyback program. To my knowledge, the stock buybacks will pertain to its Johannesburg Stock Exchange-listed shares; however, its dividends apply to all registered direct and indirect shareholders.
In many instances, a divestment would lead to a special dividend. However, Northam's hard-line policy and share buyback plan implies the company has officially committed to returning value to its shareholders. I see this as highly encouraging as internal growth coupled with quality shareholder compensation might satisfy the market more than a takeover spree.
As far as I know, the company's ex-dividend date is Sept. 13 and, according to my calculations, Northam's fictional trailing 12-month dividend yield is at around 1.23%. It might seem low; however, consider that it is a maiden dividend.
Source: Author's Work, Data from Yahoo Finance
Relative valuation
A relative valuation suggests that Northam is substantially undervalued from a market-based perspective.
Mining investors often emphasize the price-book ratio. Northam's price-book of merely 0.02 sends a bullish signal, while its price-earnings ratio of 0.07 adds additional substance.
Source: Author's Work, Data from Yahoo Finance
Let's shed some more light on Northam's price multiples.
Positives
In my view, a potential PGM supply deficit coupled with a 4.4% compound annual growth estimate for the PGM market suggests Northam's top line might benefit in the coming years, especially as it operates in a high-barriers-to-entry business. As such, its price-earnings ratio is probably justified from that standpoint. Reports and inflation data suggest South Africa is set for an interest rate pivot. Lower inflation coupled with receding interest rates might compress Northam's cost base and bring down its discounted cash flow model's discount rate, which is used to value mines. As such, impairment risk is likely to abate, leading to a robust book value.
The not-so-good factors
To my knowledge, Northam's U.S.-listed instruments are thinly traded, which means they are unlikely to reflect the company's fundamental aspects as comprehensively as its primary listings.The ultra-deep discount on Northam's price multiples suggest the stock might follow a random walk distribution, whereby mean-reversion becomes irrelevant.
Additional risks
A chart conveying country risk premiums is in the following diagram, and South Africa's risk premium of 4.57% is relatively high in my view. Much of the premium is due to geopolitical issues such as the government's poor management, electricity grid issues, a pending property expropriation without compensation bill and other related factors.
Source: Pearl Gray Equity and Research, Initial Data from Aswath Damodaran
In my opinion, South Africa's risk premium overshadows much of the idiosyncratic stamina shown by Northam. Additional geopolitical issues might send the premium even higher, concurrently adjusting its fair value downward.
Another risk to consider is the economic cycle. Sure, lower inflation might lead to interest rate cuts and subsequent economic growth. However, the issue remains that most basic material companies and their stocks alike tend to perform poorly in late-stage inflationary, disinflationary and deflationary environments. Thus, inflation will likely pose ongoing risks for now.
Final word
Comprehensive fundamental analysis shows that Northam might be set for a change in its corporate strategy amid a failed RBPlat takeover coupled with a liquidity injection. In my view, the company's fundamental strength, paired with a shareholder-driven business model, will benefit investors.
As mentioned in the introduction, Northam is a long-term play faced with various risks. However, long-term investors will likely realize excess returns and diversification benefits from the stock.
