Nevsun Resources Ltd. (NYSE - Investiv Daily · • Nevsun Resources Ltd. is a Canadian based...

The Copper Goldmine 2

bull Nevsun Resources Ltd is a Canadian based mining company that operates the Volcanogenic massive sulphide (VMS) ore deposit at the Bisha mine district in Eritrea with the main mined minerals being copper and zinc with gold and silver as side products

bull The zinc and copper outlook are both uncertain in the short-term but in the medium- and long-term there is strong evidence of an impending supply gap due to consistently growing demand lower mining grades available and mine closures

bull Apart from the expected supply gaps there are several catalysts for NSU that might positively influence the stock - The publication of a new technical report for the Bisha district that should

have a positive effect on current cash flow valuations for NSU - NSU should be able to keep positive cash flows due to its low cost

production even in the current market downturn - Zinc grades are on average more than three times the copper grades thus

increased revenue can be expected on the same cost basis as NSU begins mining zinc

- With $215 of cash per share the current buyer of NSUrsquos stock is paying $035 for the complete Bisha mine operation which includes $08 of inventory ready to be sold and accounts receivable

- The market gives a negative value to all the future potential cash flows - By using a 10 discount rate and current copper prices the present value of

the Bisha mine excluding any growth and potential is $135 per share

Nevsun Resources Ltd (NYSE NSU) is a Canadian based mineral mining company that operates the Bisha mine in Eritrea The Bisha Mine Share Company (BMSC) is owned 60 by NSU and 40 by the state-owned Eritrean National Mining Corporation (ENAMCO) Currently the main mined mineral is copper with some gold and silver As the zinc expansion is expected to be completed in the first quarter of 2016 the Bisha mine should become a 40 copper 40 zinc and 20 gold and silver producer in 2017

This report will discuss the short- and long-term investing potential for NSU through an analysis of the copper and zinc markets and their relation to NSU NSUrsquos fundamentals and business and the risks related to NSU

Summary

The Copper Goldmine


Copper amp ZincThe mining sector has been a heavy under-performer in the last 5 years The figure below shows the performance of NSU (down 60) the iPath Bloomberg Copper SubTR ETN (JJC) (down 60) and the iShares MSCI Global Metals amp Mining Producers ETF (PICK) (down 71) in the period from 2011 to 2016 In the same time frame the SampP 500 index rose by 50

Figure 1 Comparison of NSU JJC and PICK for the last 5 years Source Yahoo Finance

CopperCopper is a metal used mostly in building construction electric and electronic products transportation equipment consumer and general products and industrial and machinery equipment Aside from the many uses of copper the most important thing for a miner is the copper price The price is affected by speculations in the short term and by the supply and demand for the metal in the long term

Copper was part of the commodity boom from the beginning of this decade as the 2009 financial crisis created a low investment environment that limited future supply while the Chinese exceptional growth increased demand High metal prices increased investments in the sector which increased supply in the longer term

Figure 2 10 year copper prices Source Nasdaq


Currently fears about a slowdown in China along with increased production as a result of the high investment environment from the 2011 commodities peak results in a situation with lower demand and higher supply This situation has made the price of copper decline from almost $45 per pound to the current $2 per pound China accounts for nearly half of the global copper consumption and as the panic related to China is still in full development it is difficult to predict what will happen to copper prices in the short term Positive news related to China could increase the price of copper while a continuation of the negative sentiment could bring prices lower

By removing the current noise related to the Chinese economy the following facts related to potential demand for copper emerge

bull Chinese copper demand is forecasted to grow by 45 in 2016 It could be lower or higher than that but itrsquos still growth which is very important for the long term perspective

bull China will spend $300 billion for its power grid from 2015 to 2020 As demand for the power sector accounted for nearly half of Chinese copper demand in 2015 the planned infrastructure spending gives more long term security Plus the current slowdown of the Chinese economy can be a trigger for more infrastructure investments

In addition the current low copper prices will result in shutdowns of mines that have higher production costs than the current copper price Examples of that are the Glencore Plcrsquos projected reduction in CAPEX from $5 billion to $38 and the plan to reduce mined copper production for 455000 tons by end 2017 Just Glencorersquos reduction will remove 45 of the global copper mine production Glencorersquos CEO also expects that the copper prices will adjust in the near future as there is a divergence between the negative effect of the funds that short copper based on fears about China and the physical movement seen in the amount of tons of copper that are moving around the world He also expects more cuts in the coming year as high cost producers will be forced to cut production

Richard C Adkerson Freeport-McMoRanrsquos (NYSE FCX) CEO remains bullish on copper prices for the long term In his last conference call he stated that copper consumption in China continues to increase but at a slower rate and that the current market declines look more like short-term volatility issues than real market oversupply issues In his eyes the main long-term issue for copper is mine supply limitations with consistently lower grades of copper to be mined as the easiest to mine copper has already been mined He also states that in the near team the copper outlook remains uncertain

It can be easily concluded that there is no fear for the long-term health of the copper market but the near term outlook is uncertain For an investor to limit


his downside and grasp the potential upside he has to look at miners that have positive cash flows at current copper prices meaning that they are low cost producers and that have low debt which enables survival in the negative commodities cycle NSU is well positioned in that regard but wersquoll discuss that more in the fundamental analysis

Below is the long-term supply and demand outlook for copper

This deficit saw copper rise 300

We are here

Figure 3 Long term copper outlook Source Visual Capitalist

ZincSomething that is not yet recognized by the market is that NSU will soon become a Zinc producer and diversify itself from copper Wersquoll discuss the outlook for zinc in this section

Zinc is currently the fourth most widely consumed metal in the world after iron aluminium and copper It has strong anticorrosive properties and bonds well with other metals Consequently about one-half of the zinc that is produced is used in zinc galvanizing which is the process of adding thin layers of zinc to iron or steel to prevent rusting As iron prices are currently low more iron will be used for various applications and consequently more zinc will also be needed

The next leading use of zinc is as an alloy Zinc is combined with copper (to form brass) and with other metals to form materials that are used in automobiles electrical components and household fixtures A third significant use of zinc is in the production of zinc oxidemdashthe most important zinc chemical by production volumemdashwhich is used in rubber manufacturing and as a protective skin ointment

The same that is true about copper is also true about zinc A supply gap is expected in


the zinc market in the medium- and long-term Mine closures are expected to remove about 15 of global production in the next few years MMG Limitedrsquos mine Century closed in 2015 removing about 350000 tonnes of zinc from the market Glencore is also forced to reduce zinc output by 500000 tonnes by reducing its zinc operations in Australia South America and Kazakhstan Other major zinc mines that closed or are about to close are Brunswick in Canada Perseverance Century Lisheen and Skorpion In summary the Zinc outlook looks like this

Figure 4 Global zinc mine production Source Wood Mackenzie

The inevitable supply gap in zinc should bring about an increase in zinc prices The figure above shows how there were small supply gaps (blue ellipses) for zinc in 2011 and from 2001to 2005 It is important to connect this with the price of zinc in the same periods The figure to the right shows the historical zinc price movement (blue ellipses) It is easy to see the huge spikes in zinc prices after 2004 and 2010 and relate that to the small supply gaps shown in the figure above for the same period

If those small supply gaps resulted in huge zinc price increases the expected structural supply gap due to increased demand and lower global productionrelated to mine closures should be a strong catalyst for zinc prices in the medium- and long-term

Figure 5 Historical zinc prices Source Infomine


Glencore expects the inflection point in the demand and supply puzzle for zinc to happen in 2016 (figure 6) as zinc deposits are being depleted mines are being closed and there isnrsquot enough new production

Figure 6 Sensitivity of zinc metal stocks to global zinc demand Source Glencore

As developing countries continue on their inevitable path to growth demand for zinc is also going to inevitably increase China was mentioned in the copper outlook section of this report but investors must not forget that India is currently at a place where China was 10 years ago with Indiarsquos GDP per capita currently being just one fifth of that of the Chinese As currently India is the fastest growing economy in the world it is very likely that India will be the catalyst for increases in demand for commodities and cover for Chinarsquos slowdown

It is impossible to predict exactly when the turnaround in zinc prices will happen but the trend is clear and NSU is perfectly positioned to grasp that trend as its zinc production is expected to fully ramp up in 2017 NSU will start with producing zinc in 2016 and the market does not yet recognize the potential NSU has

As the future supply gaps in zinc and copper are very probable the following section of this report analyzes NSUrsquos business focusing mostly on resources and mining costs

NSU operates the Volcanic Massive Sulfide deposit in the Bisha mining district in Eritrea (figure 7) The $250 million Bisha mine was constructed on time and under budget from 2008 to 2010 Processing oxide ore the mine produced low-cost gold-silver ore until mid-2013 Through a $110 million copper expansion project also

NSUrsquos Business


delivered on time and under budget throughput expanded to 24 MTPA of supergene ore and the product switched to copper concentrate In mid-2016 the flotation capacity will be expanded again to produce zinc concentrates in addition to the copper concentrates from primary ore The budget for this project is asymp$89 million fully funded from operating cash flow

Figure 7 Bisha VMS district Source NSU


The Bisha VMS is currently mined only at the Bisha Main The current stage of mining is in the transition phase of going into the primary layer with high grades of zinc and copper (figure 8)


NSU is investing heavily into new exploration which has resulted in constant new high grade mineralization findings at Harena during the last two years The last available information about Harena is shown in the figure below

Figure 9 Harena long section Source NSU

The high grades of copper zinc and gold found at Harena are a great sign for NSU as they expand NSUrsquos mine life and increase NSUrsquos reserves

It is important to notice how the potential resources have expanded since 2013 Aside from Harena new massive sulphide discoveries have been made the most recent of which was in July 2015 at Asheli adding to the already existing discoveries at Aderat Hammock and Takewuda

A very important catalyst for NSU should be the announced publication of a new technical report on the Bisha district The last one was released in 2013 Such a technical report is very important because it shows what the real mine reserves are

The difference between mineral reserves and mineral resources is that a Mineral Resource is a concentration or occurrence of natural solid inorganic or fossilized organic material in or on the Earthrsquos crust in such form and quantity and of such a grade or quality that it has reasonable prospects for economic extraction The location quantity grade geological characteristics and continuity of a Mineral Resource are known estimated or interpreted from specific geological evidence and knowledge

A Mineral Reserve is the economically mineable part of a Measured or Indicated Mineral Resource demonstrated by at least a Preliminary Feasibility Study This study



must include adequate information on mining processing metallurgical economic and other relevant factors that demonstrate at the time of reporting that economic extraction can be justified A Mineral Reserve includes diluting materials and allowances for losses that may occur when the material is mined

NSU is not allowed by Canadian law to publish and consider reserves as resources until an independent entity has proved the economic viability of the mines The result of the 2013 technical report is presented just above

As this is from December 2013 and in the last two years NSU has had major exploration success the new technical report should show the larger potential NSU has expand its mine life and increase future cash flow in valuations

An estimation of NSUrsquos management is the following statement from an NSU report

This could result in a technical report that will show a doubling in copper and zinc resources and tripling of gold and silver resources With this the life of the mine should be extended by more than 50 and positively change the current cash flow valuations for NSU

The most important mining aspect to withstand a weak price commodity cycle is to have low production costs that enable positive cash flows even with low commodity prices NSUrsquos average production costs fall into the $120 to $140 per pound range


for copper With the price of copper still around $2 there is still some space for NSU to use the available cash for further exploration The figure below shows how NSU is below 50 of producers regarding mining costs Lots of producers will be forced out of the market before NSU will be severely affected by the low commodity prices

Figure 11 Global copper costs per produced pound (NSU red ellipse) Source miningcom

Nevsunrsquos zinc production has not yet started so there are no precise costs related to it As the zinc grades in the Bisha mine are usually three times higher than the copper grades the mining costs should be similar to the copper mining costs and as zinc prices are a third of copper prices no negative effect on the cash flow should be expected A good example where zinc grades are even higher than three times copper is the Asheli deposit


NSU is a miner with lower production costs than most miners Its exploration project keeps adding interesting mining prospects and increasing reserves where the technical report due in the first quarter of 2016 should increase resources and expected mine life As the business side is stable the important thing to look at in order to see if NSU can weather lower commodity prices is NSUrsquos fundamentals

Currently the primary issue in mining isnrsquot so much the commodities prices as much as the individual minerrsquos debt where the lower cash flow from operations makes debt repayment difficult

Heavily leveraged minersmdashlike Glencore (GLNCY) with 70 of its assets financed with liabilities Rio Tinto (RIO) with 59 and BHP Billiton Ltd (BHP) with 48mdashmake investors worry when it comes to survival in a commodities downturn On the other hand NSU has no long-term debt and the short-term debt is covered by the short-term receivables A look at the balance sheet from the last available financial report is a good way to see how well positioned NSU is to weather the headwinds in the commodities sector and as a result investors take little long-term risk when investing in NSU

NSUrsquos Fundamentals

Figure 13 NSU balance sheet Source NSU

The $434 million in cash safety net shouldnrsquot allow NSUrsquos stock price to go much lower The current stock price is $250 and the cash per share on North American bank accounts in US dollars not related to the Bisha Mine Share Company (BMSC)


in Eritrea is $215 In other words the total value of 60 of all the Bisha operations is $035 per share according to the market The book value of NSU stock is $338 A good look at NSUrsquos financial statements shows no red flags and all the accounts look legit and are easily connectable to prior statements

NSU has 900 thousand tons of primary ore stockpiled and ready to be processed as soon as the new zinc plant is up and running and 440 thousand tons of pyrite sand materials estimated to contain 70 thousand ounces of gold with significant silver content Of those 440 tons 60 tons are expected to be monetized in 2016 which should bring $0126 per share There is no precise estimation for the remaining 380 tons so it can be viewed as another safety margin

As NSUrsquos trailing free cash flow is $116 million or $058 per share and was $162 million in 2014 or $081 per share including $55 million of capital spending in 2014 and $83 million in 2015 for the new zinc processing plant there is plenty of cash to keep the $004 quarterly dividend per share This dividend translates into a 64 yield NSU paid its first dividend in 2011 and since then the dividend has been consistently growing ($008 in 2011 $010 in 2012 $014 in 2013 $015 in 2014 and $016 in 2015) The 64 yield is a nice consolation price and reinvestment opportunity while waiting for the supply gap catalyst in the copper market and especially in the zinc market

If nothing changes in the commodities markets in the long term and the price of copper stays around $2 per pound andzinc around $07 per pound by replicating NSUrsquos last quarterrsquos earnings into the future with the average mining costs of $12 per equal copper pound the discounted cash flow valuation to the right arises

The above valuation shows how undervalued NSU is as the present value of $152 is given no value from the market as NSUrsquos stock price is completely covered by current assets

In relation to the $434 million in cash on NSUrsquos balance sheet the managementsrsquo intention is to make an earnings accretive acquisition that would diversify NSUrsquos country risk as cash flow streams The current commodities downturn might give NSUrsquos management opportunities that will be accretive to NSU shareholders in the long term NSUrsquos management timing has been perfect as gold production started in 2011 when gold prices were peaking in 2013 they transformed NSU into a copper producer and now at the verge of a zinc supply gap NSU is becoming a zinc producer If they continue on the same path shareholders can be assured that any acquisition will be very accretive to NSU earnings

Estimated Earnings Per Quarter $005Yearly Earnings $020Expected Mine Life 15 YrsDiscount Rate 10Present Value $152


ConclusionNSU is a small cap with limited downside risks as its stock price is almost its cash per share and there is a 64 dividend yield

The expected supply gaps in copper and zinc put NSU in a great position to grasp future zinc and copper price increases But even without future zinc and copper price increases NSU is already profitable and should be in the long term

NSUrsquos managementrsquos track record gives confidence in its competence and assures that an acquisition will be accretive to earnings NSU is a great play in the mining world as it has no debt low production costs and positive future prospects in the Bisha mining district

Investors can expect a fixed dividend yield of 67 for the next 15 years plus the payout of the $215 of cash per share If copper and zinc prices increase and copper increases to $300 per pound and zinc to $09 per pound NSUrsquos earnings per share from the Bisha mine would be around $05 per share as they were in 2014 The $05 EPS with a PE ratio of 10 would give a valuation of $5 for NSUrsquos share without calculating the cash per share By adding the cash NSU has dollar a price of $715 which is not to be excluded as soon as there is normalization in copper and zinc prices The downside is very limited and the upside is more than 200 in the next few years

Investors can take a position in NSU with up to 6 of their total portfolio assets The maximum buy up to price is $450 per share Because Nevsun Resources is a small cap company with potentially higher volatility we recommend you use a 50 trailing stop from your purchase price and continue to adjust your stop higher as Nevsun makes new highs

Disclosure One or more of the Principals of Investiv and the analysts who compiled the research for this report are long shares of Nevsun Resources

copy 2016 Investiv LLC All rights reserved


Copper amp ZincThe mining sector has been a heavy under-performer in the last 5 years The figure below shows the performance of NSU (down 60) the iPath Bloomberg Copper SubTR ETN (JJC) (down 60) and the iShares MSCI Global Metals amp Mining Producers ETF (PICK) (down 71) in the period from 2011 to 2016 In the same time frame the SampP 500 index rose by 50

Figure 1 Comparison of NSU JJC and PICK for the last 5 years Source Yahoo Finance

CopperCopper is a metal used mostly in building construction electric and electronic products transportation equipment consumer and general products and industrial and machinery equipment Aside from the many uses of copper the most important thing for a miner is the copper price The price is affected by speculations in the short term and by the supply and demand for the metal in the long term

Copper was part of the commodity boom from the beginning of this decade as the 2009 financial crisis created a low investment environment that limited future supply while the Chinese exceptional growth increased demand High metal prices increased investments in the sector which increased supply in the longer term

Figure 2 10 year copper prices Source Nasdaq













We are here



















NSUrsquos Business





























































We are here



















NSUrsquos Business






























































NSUrsquos Business

















































Nevsun Resources Ltd. (NYSE - Investiv Daily · • Nevsun Resources Ltd. is a Canadian based...

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