TEXT - Fitch may cut First Quantum Minerals ratings

Wed Dec 19, 2012 12:15pm EST
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Dec 19 - Fitch Ratings has placed Canada-based First Quantum Minerals Ltd's (FQM) Long-term Issuer Default Rating (IDR) and senior unsecured rating of 'BB' on Rating Watch Negative (RWN). The rating action follows the announcement on 16 December 2012 of FQM's CAD5.1bn (USD5.2bn) offer for fellow Canada-based copper producer Inmet Mining Corporation (Inmet). The RWN will be resolved upon completion of the bid and once the final terms and conditions are known. The RWN reflects the potential for FQM to make an increased offer for Inmet as well as uncertainty regarding some aspects of the transaction. This includes the amount and scheduling of capex for Inmet's Cobre Panama mine. FQM is offering a total CAD72.0 per share, a 33% premium to Inmet's closing share price on 23 November, after two friendly approaches of CAD62.5 on 28 October and CAD70.0 on 25 November were rejected by Inmet's Board. The current offer is split 50% cash/50% shares with a maximum aggregate cash consideration of CAD2.5bn. FQM intends to fund the latter with a combination of cash and a USD2.5bn bridge loan facility. Based on the current offer terms, Fitch estimates EBITDA net leverage in excess of 3.0x in 2013, up from its previous forecast of 1.4x for FQM. The RWN also captures uncertainties regarding the amount and timing of capex for the combined group between 2013 and 2016. With Inmet, FQM would acquire 80% of Cobre Panama, one of the world's largest undeveloped copper resources. According to FQM's management, the attractiveness of the transaction lies in its ability to bring some 266,000t of copper onstream in 2016 at a lower cost than the current USD6.2bn development budget assumed by Inmet. FQM is already involved in sizeable mining developments in Zambia. Fitch is seeking clarification on the capex profile of the combined group and specifically the scheduling of capex relative to expected group cash flows. Finally, Fitch is also seeking clarification of FQM's intentions regarding Inmet's existing bonds. From an operational standpoint, Fitch views the proposed transaction positively. Based on its project pipeline, the combined entity will rank among the world's largest copper mining producers with 1.3mt production projected by 2018 (Brook Hunt's estimate). Inmet's existing producing assets in Turkey, Finland and Spain plus the development of Cobre Panama will materially improve FQM's operational and geographic diversification and simultaneously reduce its current large exposure to Zambia. KEY DRIVERS -Significant Development Pipeline FQM is currently a mid-sized copper producer with additional producing assets in nickel. However, the group will materially increase its scale and geographic commodity diversification in coming years. Initially this will come from the full ramp-up of production at the Ravensthorpe (nickel, Australia) and Kevitsa (nickel/copper, Finland) mines. Subsequently this will come from the planned development of the Sentinel and Enterprise mines in Zambia, as well as the Kansanshi smelter. -Improving Cost Position FQM's existing operating assets have on average an upper second/lower third quartile operating cost position. This cost profile should improve through the commissioning of the planned mines and smelter in Zambia through a combination of lower transport costs, self-sufficiency in acid supplies and lower taxes (copper concentrate export levy). -Conservative Financial Profile The ratings also reflect FQM management's track record of maintaining strong liquidity and conservative debt levels whilst expanding its operational base. Current drawn debt is minimal while cash totalled USD375m as at September 2012. However, debt levels will rise over the next two years due to the company's large capex plans with free cash flow generation significantly negative in both 2012 and 2013. -Large Zambian Exposure FQM's large operational exposure to the higher risk Zambian operating environment represents a key rating constraint. In Fitch's view, the election of the Patriot Front government in November 2011 has resulted in a more unstable operating environment for mining companies. This has been visibly evident in various new mining sector proposals. However, none of these proposals have been formally proposed as government policy. From a cost perspective Fitch is concerned about the current rate of mining cost inflation in Zambia (particularly for labour). RATING SENSITIVITY ANALYSIS: Positive: Future developments that could lead to positive rating actions include: - A reduction in project development risks relating to the construction of the Sentinel mine and the Kansanshi smelter - In the longer term, increased commodity diversification stemming from the potential development of the Haquira mine (Peru) could also be a contributing factor. Negative: Future developments that could lead to negative rating action include: - Sustained (two consecutive years) funds from operations (FFO) gross leverage in excess of 2.5x as a result of the Inmet transaction indicating a move away from the company's conservative historic financial approach - Significant problems or delays at key development projects resulting in a material weakening of credit metrics - Large debt-funded acquisitions, which would again signify a change in approach from the group