Zinc

[Lone Clone]

Kagara Zinc – A Window of Opportunity?

http://metalsplace.com/news/?a=13197

Kagara Zinc (KZL) suffered a 6% fall on Wednesday after downgrading FY07 profit guidance, and announcing a move to owner-operator status at its Queensland operations. The company, despite a 12% fall in recent weeks, still remains Macquarie Research Equities (MRE)’s top pick in the small cap copper/zinc sector, and MRE maintain their $8 price target. The stock has recovered 5% yesterday, yet still remains almost 25% below MRE’s target. With the outlook for copper and zinc still remaining bullish, MRE view this as an excellent trading opportunity.
Trailing earnings downgrade.

FY07 profit before tax guidance was revised down to $130m (from $175m). This was partially anticipated following recently announced wet weather issues and June quarter average metal/A$ prices. The downgrade was attributed as follows: lower than budgeted zinc ($10m) and copper ($20m) production, higher A$ ($5m) and lower copper/zinc prices ($10m). The previously undisclosed factor also driving lower production was delays in accessing high-grade ore from the Balcooma pits.
Owner-operator status.

The delay in accessing high-grade Balcooma ore was caused by poor material movement rates. Given the stated contractor underperformance, KZL has moved to assume responsibility for open pit mining activities at both Balcooma and Mt Garnet. Employees of the local private contractor have transferred to KZL and mining equipment leases have also been assumed (except at Balcooma where equipment is now being supplied on a dry hire basis by EMECO). The total cost of this restructuring should be around $5m, including the assumption of equipment lease liabilities. MRE would highlight that the previous operating model sat somewhere between pure contracting and owner-operator.
Strong outlook.

A full contribution from Thalanga and the development of the Mungana project should deliver strong production growth over the next three years. MRE highlight that their forecasts remain slightly behind KZL’s operational guidance. The key risk to this profile remains the timing of the Mungana project, which is predominantly related to EPA approval. A requirement for a full Environmental Impact Statement (EIS) would likely push back first production around six months to mid-2009.
Reinforcing the view.

Recent drilling results at Red Dome affirm our longstanding belief that KZL will continue to progressively add significant value through targeted and development-oriented drilling programs.
Action and recommendation

The downgrade is disappointing and highlights the need for a renewed operational focus (which does appear to be occurring). However, in MRE’s view it fails to materially dent the bigger KZL picture. The stock is MRE’s preferred small copper/zinc play (Oxiana is at the big end) given the quality exposure offered to polymetallic assets (operating and development). Pricey short-term multiples must be weighed against a strong organic growth pipeline, and significant further development potential and exploration prospectivity. Maintain Outperform rating and $8.00 price target.

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