Investment comment Falconbridge issue expected to lag

Riding on some of the healthiest commodity prices seen in recent years, Falconbridge Ltd. (TSE) went into fiscal 1988 in what can only be described as sterling financial shape.

The Toronto-based nickel producer reported a profit last year before extraordinary items of $29.7 million or 42 cents per share on $1.3 billion in revenues.

An unprecedented rise in nickel and copper prices was reflected in the company’s fourth quarter results when profits increased to $43.2 million, or 62 cents a share, from $6.1 million or 10 cents a share at the same time in 1986. (See 1988 six- month earnings in separate story).

Even a dispute (since resolved) with the government of the Dominican Republic over export duties imposed on Falconbridge’s ferronickel production in the Caribbean couldn’t detract from an impressive turnaround in the company’s financial fortunes.

As reported (N.M., Feb 8/88), last November, the Dominican government decided to place a 25% export duty on the output of Falconbridge’s ferronickel-producing subsidiary, Falconbridge Dominicana C. por A. (Falcondo).

But following a recent transaction in which Falconbridge bought a 24.7% control block of its own shares from Placer Dome Inc. (TSE) for $960 million, the picture has changed markedly for the free world’s second largest nickel producer. Placer Dome

In an extremely complicated arrangement, Falconbridge will buy the 24.7% fully diluted interest held by Placer Dome and Placer Dome’s subsidiary, McIntyre Mines (TSE). The huge nickel producer will also pay a special $4.75 cash dividend to all its shareholders and purchase Placer Dome’s holdings for $25.75 per share.

Under the agreement, McIntyre shareholders were scheduled to receive a special cash dividend of $11.96 before Falconbridge makes an offer to acquire all the common shares of McIntyre by July 15.

While the acquisition is regarded as a victory for Falconbridge’s irrepressible Chairman William James, who outmanoeuvred Noranda Inc. (TSE) to secure the control block, Falconbridge is now saddled with about $1,438,800,000 in long term debt.

James promised recently to pare down the debt to under $900 million by year-end. Pending a healthy metals market in 1989, he expects to reduce the debt still further toward $500 million next year.

But will metal prices remain at their current levels long enough for Falconbridge to achieve its goal, is the question which analysts are asking themselves in the wake of one of this year’s more notable acquisitions. Nickel price

Despite the settlements at Inco Ltd.’s (TSE) Sudbury operations and Falconbridge’s Falcondo plant, the price of nickel remains in the high $6 range ($6.60 to $6.95 on July 7) and the near term outlook appears to be good.

“The sustainability of high nickel prices is not in doubt,” said mining analyst Julian Baldry in Nesbitt Thomson Securities’ weekly metals perspective.

“Severe metal shortages will continue, driven by the biggest supply deficit within the base metals group,” he said.

Inco, the world’s largest nickel producer, agrees with that analysis. Following a settlement with its hourly-wage-employees at Port Colborne and Sudbury, Ont., Inco said it expects its average realized price for nickel to exceed $5(US) per lb for the second quarter of 1988.

But until Falconbridge can repay its debt, at least two analysts expect the issue to remain reasonably quiet. “We believe that when the Falconbridge share price goes ex-dividend, the stock will be a relatively dull performer for the next one-to-two quarters, as the investing public gauges the company’s ability to rapidly repay its newly acquired debt,” said Prudential Bache Securities analyst Alan Ferry. Short-term rating

Since the nickel producer faces difficult labor negotiations with its Sudbury employees before their present contract expires Aug 21, Prudential has lowered its short- term share rating.

“We expect that Falconbridge shares will trade around $22 to $23 when the stock goes ex-dividend, and would be good value should the share price drop below this level,” said Ferry. The Falconbridge issue was trading recently on the Toronto Stock Exchange at $26.50 in a 52-week range of $31.25 and $16.63.

As Shearson Lehman Hutton Securities mining analyst David Morgan points out, further back, many good mining companies got into trouble by borrowing heavily at the peak of the last cycle.

Falconbridge watchers will remember that the company’s 1987 first quarter losses of $15.4 million or 24 cents per share (about equal to the loss Falconbridge sustained for the whole of 1986) was due largely to lower nickel, copper and cobalt prices.

According to Morgan, the prospect of a massive dividend should help to sustain the share price in the immediate future and the next two quarters, at least should produce excellent earnings.

However, he says with prospective 1988 earnings in a range from $3.50 to $4.00, the current share price of nearly $30 looks high enough for the time being.