Sibanye is a safe bet with high demand for its metals
Prices likely to stay elevated for palladium and rhodium, but Sibanye is also a story of successful restructuring
Over the past 18 months, the platinum group metal (PGM) sector has been by far the best-performing sector on the JSE, with the JSE platinum index up in excess of 100%. In fact, the index returned 200% in 2019 relative to the market return of 12%.
The main driver was a higher PGM rand basket price and, in particular, very strong palladium and rhodium prices. This was underpinned by favourable supply and demand drivers for both these metals.
Research by Johnson Matthey suggests there is a shortage of palladium and rhodium, with demand surpassing supply. Demand is primarily being driven by increased loadings in autocatalytic converters to meet increasing carbon emission standards globally.
Palladium and rhodium each account for about 80% of the world’s demand that goes into manufacturing autocatalytic converters. An autocatalytic converter is an exhaust emission control device found in internal combustion engine vehicles. Its main function is to convert harmful gases such as carbon monoxide and nitrogen oxides into less harmful gases such as carbon dioxide and water vapour.
After the Volkswagen emissions scandal in 2015, developed markets such as the US and those in Europe and some emerging markets such as China introduced tighter regulations around vehicle emissions. Criminal charges have been filed against executives at several vehicle makers, so there is certainly adequate incentive to comply with the revised emission regulations.
SA is the largest producer of PGMs globally, producing about 58% of the world’s primary supply, followed by Russia, Zimbabwe and North America. Given the recent structural shift in loadings, global supply has not been able to respond in time to meet the increased demand, resulting in significant supply constraints.
We believe this was largely due to the depressed PGM price cycle between 2011 and 2018 as well as ageing/depleting shafts and rising mining costs.
Producers were forced to cut back on growth capital to preserve cash for balance sheet flexibility. Research suggests that new supply will take at least two to three years to bring online. Until then, as emission standards tighten globally, the continued shortfall in palladium and rhodium should continue to support strong PGM prices.
Investors have several investment options in this sector. Our top pick for this year is the world’s second-largest producer of palladium, Sibanye-Stillwater. While we expect PGM miners to benefit from higher prices, we believe Sibanye, with its exposure to a portfolio of PGMs and gold operations, is poised for a stellar 2020, with returns projected to be ahead of its sector peers.
We like Sibanye because it is a story of balance sheet restructuring and operational restructuring. The much-anticipated balance sheet restructuring is supported by strong cash generation across its operations, which is likely to be supportive of an attractive dividend payout to shareholders.
Sibanye is coming off a challenging year characterised by a five-month strike at its gold operations, operational setbacks across some of its other operations and uncertainty around the highly publicised platinum wage negotiations, all of which put pressure on its earnings and balance sheet.
However, management has executed well on enhancing value creation via diversifying its operations through acquisitions, including of Rustenburg platinum operations, Stillwater and Lonmin, a focus on increasing productivity and capital efficiency, and containing costs.
Notwithstanding the significant gearing of Sibanye’s earnings and cash flows to higher PGM prices, management messaging around reducing debt and returning to paying dividends before any mergers & acquisitions provides further support to our investment case.
Sibanye trades on a forward price to earnings ratio of 4, a free cash flow yield in excess of 20% and a forward dividend yield of 6%. With a compelling valuation and potential for further financial deleveraging, there is significant upside in the share price.
• Mopai is an equity analyst at All Weather Capital