Steve Parsons: Copper Offtake Thesis Paying Off
Source: Brian Sylvester of
The Gold Report
Wellington West Senior Analyst Steve Parsons developed an
investment thesis for large copper deposits three years ago. His
premise was that competition among Asian smelters would drive these
companies to seek guaranteed sources of metal concentrate. In fact,
several companies with large copper deposits have either received
generous offtake financings or been taken over. Steve thinks his
evolving thesis will remain valid for the foreseeable future. In
this exclusive interview with
The Gold Report,
Steve divulges the few companies he thinks remain targets.
The Gold Report:
Steve, the copper price has traditionally been considered a
bellwether of global economic health. But, more recently, it has
remained high despite worldwide economic problems. Why?
What has happened is that Chinese copper consumption has remained
strong. Earlier in the year, bullish sentiment toward copper was
only reluctantly embraced as North American and European economic
recoveries appeared tenuous. However, sentiment turned decidedly
bullish midsummer as the protracted drawdown in London Metal
Exchange (LME) inventories started to resonate with investors and
metal traders-particularly when considered with strong Chinese
consumption data from growth in the appliance market and social
housing projects and improving Institute of Supply Management (
) data out of the U.S. More recently, the expectation of more
quantitative easing (QE) policies in the U.S. and, thus a weaker
dollar, is providing another leg up to copper prices.
Have we seen the end of copper's economic bellwether status?
I don't think so, just that copper prices may have a stronger
correlation with the status of China's economy and that of emerging
markets than with the U.S.
How long do you expect copper to remain in the $3.57 range?
I think there's a good chance it'll stay there for the next few
years. In 2011, the market is likely headed toward a supply deficit
in the neighborhood of some 400,000 tons. And that's in the absence
of strong economies in the U.S. and Europe. If these economies pick
up and there is restocking by end users, I think we could see even
higher copper prices next year. The prospect of aging mines (i.e.,
declining grades, deeper and more-expensive mining) and declining
production from some of the world's biggest mines could keep
average prices at or above current levels through 2013-the point at
which some big, new mines come online.
You mentioned concentrate. When you last talked with
The Gold Report,
you said "a growing trend spurred by continued tightness in the
copper concentrate market has seen Asian smelter groups offer
guarantees of low interest offtake financing in return for equity
interest in copper concentrate-producing projects and offtake
agreements to secure supply." First, please define an offtake
agreement for our readers, and then further explain your investment
An offtake is an agreement signed between a mining company and,
typically, a smelter group, whereby the mining company will provide
a set amount of concentrate for delivery to the smelter. The
smelter charges a processing fee for that concentrate. Most of the
big, undeveloped mines are likely to produce a copper
What we like about tightness in the concentrate market, as an
investment thesis, is that there's a reasonably clear path for
investors to make money on copper development companies,
irrespective of the weekly and monthly gyrations in the copper
Large copper development assets are scarce and largely
undervalued, mostly due to project-financing concerns. When I
The Gold Report
last time, we felt that these financing concerns were overblown
because there was solid rationale as to why Asian smelters would
provide offtake financing as a means to secure concentrate for
their smelters in what remained a really tight concentrate
What's happening now is, not only are smelters trying to secure
long-term supplies of high-quality concentrate with offtake
financings; but, because smelting is such a low-margin business,
the smelters are also intensifying their efforts to become more
fully integrated from the mine to the smelter. That means they're
taking equity interests in mining projects. That's going to
continue, and development companies stand to benefit from this
Not only are smelters intensifying efforts to take equity
interests, but they're also competing with cashed-up mining
companies that are also looking for growth through equity interests
in development projects. You've got the smelters and the mining
companies competing for a scarce number of high-quality
Is that how Wellington West determines its coverage? You establish
an investment thesis, and then find companies that are best suited
to maximize that thesis?
We did in this case. About three years ago, we recognized there was
too much smelting capacity chasing too little concentrate and
smelter operating margins would get squeezed to the point where it
was not a sustainable business proposition. So, the smelter would
have to go out and become more fully integrated. As a result, we
selectively picked up coverage of companies with large development
assets with no offtake deal in place, that are strategically large
and not owned or junior ventured (JV'd) by a major.
Let's go back to what these smelters are looking for in mining
projects. What's going to put some projects closer to the top of
the list than others?
For early stage development projects, the key consideration for the
smelter, other than the strategic size of the asset, is to ensure
there's no offtake deal in place for the concentrate. Smelters may
also seek out assets where a JV interest can be earned, thereby
moving toward a more fully integrated model. Other important
considerations are capital-expenditure (capex) intensity,
permitting environment and whether or not there's a good shipping
lane to China.
Now that's the smelters. The other interested buyers of these
development stories are mining companies. They look for the same
attributes but, obviously, are less concerned with whether or not
there's an offtake deal.
In these large deposits, there are often other metals-molybdenum,
zinc or, in some cases, gold. What happens to the other metals?
Typically, you get the other metals as byproduct credits; but you
bring up an interesting point, because these copper porphyry
deposits tend to be big and strategic. Not only are these assets
coveted by smelters and base metals miners, but the porphyries that
have copper and gold are also coveted by gold companies. Gold
companies like them because these deposits can provide millions of
ounces in gold reserves-the kind of reserves you can't find these
days in gold-only assets.
Goldcorp Inc.'s (NYSE:GG; TSX:G)
New Gold Inc. (TSX:NGD; NYSE.A:NGD)
for a 70% stake in the El Morro copper-gold project in Chile is a
fairly recent example.
So, copper-gold porphyry deposits are in demand because, not only
are copper companies getting involved, but the large gold companies
that often have the most cash flow are also looking at the high
gold reserves. Are there some junior miners developing copper-gold
porphyry deposits that are on the radar screens of the gold majors
or even the diversified metals miners like
Rio Tinto Ltd. (LSE:RIO; NYSE:TP; ASX:RIO)
BHP Billiton Ltd. (NYSE:BHP; OTCPK:BHPLF)
Yes, we believe there are still quite a few. One that's early stage
but looks like it could be large is owned by
Intrepid Mines Ltd. (TSX:IAU; AIX:IAU)
. It has an 80% interest in a project called Tujuh Bukit on the
island of Java in Indonesia.
Tujuh Bukit is shaping up to be very compelling copper-gold
porphyry. There's still some work that needs to be done to
understand the quality of the copper concentrate. But it's very
close to tidewater with a good shipping lane to China. Intrepid is
coming out with the inaugural resource on Tujuh Bukit at the end of
That could be a catalyst for the share price.
I would call it a first-pass resource update because there is a
good chance it is going to get bigger.
What are some copper projects that you believe Chinese companies
are eyeing to feed their smelters?
Antares Minerals Inc. (TSX.V:ANM)
is another likely target. It's only at the scoping study stage;
however, this is one of the biggest undeveloped copper porphyries
not owned or JV'd by a major and where the offtake is free and
clear to do a deal. Antares has 13 billion pounds (Blbs.) of copper
equivalent. It is big and in Peru-a country where the Chinese like
to do business.
What's the next catalyst for Antares?
Well, they're doing a 40,000-meter drill program. They will
continue to drill and release results probably through the first
quarter of 2011. The catalysts will likely be drilling related. The
stock should also benefit from more mergers and acquisitions
(M&A) in the space, as there are few remaining strategically
large deposits available for purchase.
You have a $4.60 target price on Antares, and it's trading in that
range. What copper price are you using in your model?
It's based on $2 long-term copper, which is what we use for 2014
and beyond. Clearly, there is plenty of upside to our valuation at
current prices. Moreover, what I like about the story is that these
projects are rarely in the hands of junior companies. Antares is
and will continue to benefit from this.
What about some others?
Augusta Resource Corporation
is a good example of a stock we like, where the valuation is
compelling but the theme has already partially played out. Augusta
owns the Rosemont Copper project in Arizona. The company announced
two deals in two weeks. The first was a strategic placement by
Hudbay Minerals Inc. (TSX:HBM)
for $30 million, and the second was a deal with Korea Resources
Corporation and LG International Corp. that saw the consortium take
a 20% project interest for $176 million and agree to an offtake
deal with respect to 30% of the copper concentrate.
When will Rosemont enter production?
It is contingent on permitting. If the company receives permits in
the second half of next year, we're assuming an estimated start
date in the second half of 2013.
What's your target price on Augusta?
We just raised it to $4.90. There is good upside there. The reality
is, if they do make good headway on the permitting and visibility
on the permitting improves there, this stock could rerate to my
target in an accelerated timeframe.
Do you have one more?
The last one that I'll throw at you, which is a little bit
contentious right now, is
Taseko Mines Ltd.'s (TSX:TKO, NYSE.A:TGB)
Prosperity copper-gold project in British Columbia. It is going
through the permitting process. If it gets permitted, then it could
also be a project the Chinese will be looking at to provide offtake
financing for a strategic supply of concentrate.
So, the biggest hurdle there is the permitting. We've seen a few
other projects in B.C. that didn't get beyond those hurdles. When
do you expect permitting news?
The expectation is that the federal government will make a decision
by late September or early October.
If permitting is approved, could we see a real boost in Taseko's
It's an absolute game changer for Taseko. It would provide a
+30-year mine life on Prosperity with very low cash costs.
If that project gets permitted, some other companies may take a run
It would put Taseko on the radar screens of those companies looking
for low-cost production growth.
Any other copper companies you're following that we have not talked
Copper Mountain Mining Corp. (TSX:CUM)
. It has made the transition to a development company by securing
an offtake deal. Now, Copper Mountain is one of the few projects we
know of that is going into production next year. While it's not
going to benefit from the offtake thesis, the valuation is still
compelling and the company could very well be in the sights of one
of the many cashed-up miners looking for production growth. This is
the nearest-term production growth that is available.
Do you have a target price on Copper Mountain?
Our target on Copper Mountain is $4. A potential game changer for
the company is that it is drilling a geophysical anomaly below the
pit. The company plans to drill four holes into it this year.
Success would catapult Copper Mountain from a small- to mid-sized
copper producer to, potentially, a larger copper producer that
would fit into the wheelhouse of many more companies. Stay tuned.
We should hear about that one in about a month or so.
Do you have some parting thoughts on the copper market?
I would say this "offtake thesis" has been a low-risk, high-reward
strategy for the past couple years. It's worked out extremely well,
and we expect this thesis to persist for the foreseeable
Steve Parsons, P.Eng., a member of Wellington West Capital
Markets' equity research team since April 2008, is a senior
research analyst focused on the mining sector. Wellington West is
an institutional equities firm that specializes primarily in the
mining, energy and technology sectors. After earning his
bachelors of engineering degree in mining at Queen's University,
Steve worked as a metallurgical engineer for Placer Dome, and
then moved on to a metallurgical consulting firm. Shifting to the
investment side of the business after that, he signed up as a
research associate with GMP Securities, concentrating on base
metals initially and later joined MGI Securities as a research
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1) Brian Sylvester of
The Gold Report
conducted this interview. He personally and/or his family own
shares of the following companies mentioned in this interview:
2) The following companies mentioned in the interview are sponsors
The Gold Report:
Goldcorp, Augusta and Copper Mountain.
3) Steve Parsons: I personally and/or my family own shares of the
following companies mentioned in this interview: Copper Mountain. I
personally and/or my family am paid by the following companies
mentioned in this interview: None.
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