Western Potash passes another milestone

Western Potash (WPX-T) has put a spotlight on its Milestone potash project in Saskatchewan with a positive prefeasibility study (PFS) estimating annual production at 2.8 million tonnes for at least 40 years. This has some analysts speculating that if the company continues to de-risk the project, it may attract the eye of a major fertilizer producer or miner looking for exposure to potash.

“The company’s management team has done a great job in advancing Milestone and taking it to this point,” analyst Siddharth Rajeev of Fundamental Research wrote in an email to The Northern Miner. “Even though we believe the PFS gives a good understanding on the economics and risks associated with the project, potential bidders might want to see a feasibility study completed before they make a move.”

That being said, he adds that the valuation of company with a PFS is lower than that of company with a feasibility study in hand, providing an incentive to acquire Western Potash at its $228-million market cap.

Given that the company is one of the few juniors left in the Saskatchewan potash sector, Rajeev cautions, “potential bidders need to move fast to beat competition.”

Western Potash is one of Fundamental Research’s top three picks, Rajeev says, adding that he is updating his $2.75 valuation.

Also bullish on Western Potash is Mackie Research Capital’s analyst Jaret Anderson, who kept his speculative buy on the stock but boosted his target price to $3 from $2.75 following the PFS.

He says the modest increase in valuation resulted from the capital expenditure (capex) per tonne and operating expenditures (opex) per tonne in the study.

“Typically, a project such as this would see both of these figures move higher as we transition from a scoping study to a PFS,” he explained in a Nov. 1 note.

Compared with last September’s scoping study, the capex per tonne fell slightly to $985 from $1,004 per tonne, while opex per tonne dropped 55¢ to $62.35.

However, the initial capex for the plant increased from $2.51 billion to $2.76 billion. The new figure includes $300 million to build port facilities, which were excluded from the scoping study. The company points out if that allowance is removed, capex drops by 2% compared to last year’s estimate.

Asked how the junior could finance a $2.76-billion project, Anderson said in an email that Western Potash could take two routes: secure an offshore partner or sell to a well-funded company.

“State-owned enterprises in China and India have looked at a number of projects similar to Milestone, and have both the financial capability and the desire to reduce their respective country’s dependence on foreign-owned sources of potash. Another option, and the option that all Saskatchewan-based juniors to date have taken, is to develop or de-risk the project and sell to a better-capitalized company with an interest in developing a potash capability in Saskatchewan.”

That trend has been apparent with BHP Billiton (BHP-N, BLT-L) acquiring Anglo Potash in 2008 for $284 million and Athabasca Potash in 2010 for $341 million in cash. Late last year, German fertilizer giant K+S inked a deal to scoop up Potash One for $434 million in cash.

Given that Milestone now resembles Potash One’s former Legacy project, it may have some wondering what price Western Potash could fetch for it.

“. . . One can make a strong argument that a buyer may be willing to pay a higher price for the asset due to the stronger fundamentals in fertilizer markets,” Anderson commented in a Nov. 3 note. Benchmark potash prices have risen 34% since the Potash One transaction was announced.

K+S paid that $434 million for Legacy based on an October 2010 feasibility study that it could generate 2.86 million tonnes of potash a year for at least 47 years. Building costs were anticipated at US$2.5 billion and total start-up costs at US$2.78 billion. Legacy is slated to begin in 2015.

In comparison, Milestone could churn out 2.8 million tonnes a year, up from the 2.5 million tonnes estimated in the scoping study, for at least 40 years. Milestone would cost $2.76 billion to build and is anticipated to come online in 2016.

The study pegs Milestone’s after-tax internal rate of return at 22.7%. While a little lower than the scoping study’s 27.3% estimate, it remains “attractive” and comparable to other Saskatchewan-based solution mining projects, analyst Ben Isaacson of Scotia Capital said in a recent note.

At a 10% discount, the after-tax net present value comes to $4.14 billion using a long-term potash price of $511 per tonne. Payback is estimated within five years.

Isaacson also points out that several emerging economies – including Brazil, China and India – are seeking potash independence, and says he won’t be surprised if a state-owned enterprise takes a go at Western Potash in the near-term.

But for now, the junior will start working on a bankable feasibility study, which should be completed before late 2012 with construction set for 2013. Western Potash predicts it will take six years to achieve the full production rate of 2.8 million tonnes a year.

On the improved economics, Isaacson has raised his target price from $1.80 to $2.20.

Some analysts with more conservative valuations include Max Vichniakov of Octagon Capital and Robert Winslow of National Bank Financial.

Vichniakov says the impact of the PFS falls between positive to neutral, adding he will update his model once the junior files a National Instrument 43-101 technical report. Regarding potential bidders, Vichniakov narrows it down to a fertilizer company in India or China, naming India’s Tata Chemicals as a possible suitor.

“India is one hundred percent reliant on potash imports, so a company like that acquiring Western Potash will be a more likely scenario,” he says, explaining that majors such as BHP, Vale (VALE-N) and Rio Tinto (RIO-N, RIO-L) are busy working on their own potash projects. Vichniakov maintains a buy on the stock with a $1.85 target.

The least bullish on the company is Winslow, with a revised $1 target. Although he is up from 85¢, he reiterates his underperform rating.

“In the absence of a deep-pocketed partner and with Saskatchewan’s potash region becoming increasingly crowded with both greenfield and brownfield expansion projects, we believe management’s largest hurdle remains finance risk . . . and this drives our cautious view,” he penned in a Nov. 1 note.

Asked if shareholders should be concerned about Western Potash’s lack of a partner, Anderson of Mackie Research says Western Potash shares have gained 66% over October, which he attributes to investors’ general appetite for risk and expectations that the PFS would further de-risk the Milestone project.

“The goal is not to do a deal quickly, but to do the right deal at the right time in order to maximize shareholder value,” he concludes.

On Oct. 31, the day the PFS was released, Western Potash closed up 6¢ at $1.37.

At presstime its shares traded at $1.42 within a 52-week range of 70¢ on Oct. 4, 2011, to $1.80 on Feb. 14, 2011.