3 June 2013 Duluth Metals is a research client of Edison Investment Research Limited Duluth Metals (DM) is focused on the development of the Twin Metals Minnesota (TMM) Cu-Ni-PGM project through a JV with Antofagasta, while also exploring for new discoveries in close proximity. A PFS is underway, which is expected to completely redefine the scale and economics of the project. Our NPV10 base case valuation range is C$3.00 to C$4.66 per share and we estimate that the PFS results could uplift our NPV10 valuation to between C$4.22 and C$7.11 per share depending on dilution. Year end Revenue (C$m) PBT* (C$m) EPS* (C$) DPS (c) P/E (x) Yield (%) 12/11 0.0 (18.1) (0.24) 0.0 N/A N/A 12/12 0.0 (16.1) (0.32) 0.0 N/A N/A 12/13e 0.0 (20.8) (0.32) 0.0 N/A N/A 12/14e 0.0 (17.1) (0.24) 0.0 N/A N/A Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments. Enlarged resource increases potential project scale In December 2012, Duluth announced a 60% increase in the TMM project indicated resource to 1.17bn tonnes grading 0.58% Cu and 0.19% Ni, among the world's largest Cu-Ni-PGM polymetallic sulphide deposits. The increased scale of the resource indicates potential for larger milling capacity options up to 80ktpd to be considered. A 622Mt geological sub-unit grading 0.69% Cu and 0.22% Ni should also allow mine plan optimisation to enhance the project’s NPV. Limited capital requirement From July 2012, Antofagasta is contributing 65% of the TMM JV funding and we expect the exercise of Antofagasta’s 25% option to fund Duluth’s share of the equity portion of TMM project capital expenditure. In addition, Antofagasta has committed to arranging the bank syndicate for the debt portion of the project’s capital expenditure. We estimate Duluth will need to raise only a further C$126m in total to fund its 35% share of the TMM JV development costs through BFS completion and pre-construction alongside its 100%-owned exploration programme. Sensitivities The main risks to shareholders relate to uncertainty over the TMM project economics that will be defined by the PFS, potential permitting delays, dilution from capital raising and the reliance on Antofagasta continuing to fund the TMM project. Valuation: PFS results are key Our base case valuation is US$701m or C$4.66 per share undiluted based on the now outdated January 2009 PEA, adjusted for inflation and subsequent resource upgrades. Assuming a total C$126m of equity will be issued between 2014 and 2017 at a notional C$1.50 share price, our valuation is diluted to C$3.53 per share. We consider an upside valuation based on the potential conclusion of the TMM project PFS and arrive at a valuation of US$1,071m equating to C$7.11 per share undiluted and C$5.01 per share diluted at a notional C$1.50 issue price. Duluth Metals Initiation of coverage Steadily unlocking value Price C$1.53 Market cap C$192m Net cash (C$m) December 2012 C$3.6m Shares in issue 125.8m Free float 85% Code DM Primary exchange TSX Secondary exchange N/A Share price performance % 1m 3m 12m Abs (5.0) (20.7) (23.9) Rel (local) (6.4) (19.7) (30.7) 52-week high/low C$2.63 C$1.32 Business description Duluth Metals is a TSX-listed Canadian company focused on developing the Twin Metals Minnesota copper-nickel-cobalt-platinum-palladium-gold-silver project through a JV with Antofagasta, and exploring for similar deposits in north-eastern Minnesota, US. Next events Q213 results Aug 2013 Analysts Gavin Wood +44 (0)20 3681 2503 Charles Gibson +44 (0)20 3077 5724 [email protected]Edison profile page Metals & mining
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3 June 2013
Duluth Metals is a research client of Edison Investment Research Limited
Duluth Metals (DM) is focused on the development of the Twin Metals Minnesota (TMM) Cu-Ni-PGM project through a JV with Antofagasta, while also exploring for new discoveries in close proximity. A PFS is underway, which is expected to completely redefine the scale and economics of the project. Our NPV10 base case valuation range is C$3.00 to C$4.66 per share and we estimate that the PFS results could uplift our NPV10 valuation to between C$4.22 and C$7.11 per share depending on dilution.
Enlarged resource increases potential project scale In December 2012, Duluth announced a 60% increase in the TMM project indicated resource to 1.17bn tonnes grading 0.58% Cu and 0.19% Ni, among the world's largest Cu-Ni-PGM polymetallic sulphide deposits. The increased scale of the resource indicates potential for larger milling capacity options up to 80ktpd to be considered. A 622Mt geological sub-unit grading 0.69% Cu and 0.22% Ni should also allow mine plan optimisation to enhance the project’s NPV.
Limited capital requirement From July 2012, Antofagasta is contributing 65% of the TMM JV funding and we expect the exercise of Antofagasta’s 25% option to fund Duluth’s share of the equity portion of TMM project capital expenditure. In addition, Antofagasta has committed to arranging the bank syndicate for the debt portion of the project’s capital expenditure. We estimate Duluth will need to raise only a further C$126m in total to fund its 35% share of the TMM JV development costs through BFS completion and pre-construction alongside its 100%-owned exploration programme.
Sensitivities The main risks to shareholders relate to uncertainty over the TMM project economics that will be defined by the PFS, potential permitting delays, dilution from capital raising and the reliance on Antofagasta continuing to fund the TMM project.
Valuation: PFS results are key Our base case valuation is US$701m or C$4.66 per share undiluted based on the now outdated January 2009 PEA, adjusted for inflation and subsequent resource upgrades. Assuming a total C$126m of equity will be issued between 2014 and 2017 at a notional C$1.50 share price, our valuation is diluted to C$3.53 per share. We consider an upside valuation based on the potential conclusion of the TMM project PFS and arrive at a valuation of US$1,071m equating to C$7.11 per share undiluted and C$5.01 per share diluted at a notional C$1.50 issue price.
Duluth Metals Initiation of coverage
Steadily unlocking value
Price C$1.53 Market cap C$192m
Net cash (C$m) December 2012 C$3.6m
Shares in issue 125.8m
Free float 85%
Code DM
Primary exchange TSX
Secondary exchange N/A
Share price performance
% 1m 3m 12m
Abs (5.0) (20.7) (23.9)
Rel (local) (6.4) (19.7) (30.7)
52-week high/low C$2.63 C$1.32
Business description
Duluth Metals is a TSX-listed Canadian company focused on developing the Twin Metals Minnesota copper-nickel-cobalt-platinum-palladium-gold-silver project through a JV with Antofagasta, and exploring for similar deposits in north-eastern Minnesota, US.
Duluth is focused on developing the TMM Cu-Ni-PGM project through a JV with Antofagasta and exploring for new discoveries in close proximity. Following material increases in the defined resource base, a PFS is underway, which is expected to completely redefine the scale and economics of the TMM project and could provide significant uplift to our valuation. Duluth should have limited future capital requirements given Antofagasta’s funding commitments.
Substantial increase to the TMM project resource base In December 2012, Duluth announced a 60% increase in the indicated resource for the TMM project to 1.17bn tons at 0.58% Cu and 0.19% Ni. A 622Mt geological sub-unit grading 0.69% Cu and 0.22% Ni should allow mine plan optimisation to enhance the project’s NPV. An inferred resource of 1.26bn tons at 0.47% Cu and 0.16% Ni offers scope for further project expansion. Only 11% of the prospective portion of the property has been drilled to date, and beyond this, a number of exploration targets have already been identified.
TMM project PFS will redefine project economics The now outdated January 2009 PEA considered a 40ktpd operation, producing 82ktpa copper and 19ktpa nickel at a negative cash cost of US$0.72/lb Cu over 22 years with US$1.3bn initial capex. A PFS is underway, aiming to define a large-scale vertically integrated mining complex with a phased underground mine plan. The increased scale of the resource being incorporated into the PFS indicates potential for up to 80ktpd throughput, which we would expect to substantially increase production with a mine life of over 25 years.
Limited capital requirements From July 2012, Antofagasta is contributing 65% funding for the TMM JV, thus reducing Duluth’s cash requirements. The C$30m convertible debenture issued in April 2013 brings the cash position to around C$32m, which we estimate will provide working capital until Q214. Assuming Antofagasta exercises its option to acquire a further 25% of the TMM project, we estimate that Duluth only requires a further C$126m to fund TMM through BFS and pre-construction alongside its exploration programme, which it should be able to fund through issuing equity.
Sensitivities The main risks to shareholders relate to uncertainty over the TMM project economics that will be defined by the PFS, potential permitting delays, dilution from capital raising and the reliance on Antofagasta continuing to fund the TMM project. We consider Minnesota to be a relatively low-risk mining jurisdiction with environmental permitting representing the major potential concern and Antofagasta has given no indication that it may de-prioritise its investment in the TMM project.
Valuation Our base case valuation of Duluth is US$701m or C$4.66 per share undiluted based on the now outdated January 2009 PEA, adjusted for inflation and resource upgrades. Assuming a total C$126m of equity will be issued between 2014 and 2017 at a notional C$1.50 share price, our valuation is diluted to C$3.53 per share. We also consider the potential valuation upside from the results of the TMM project PFS currently being completed and arrive at a valuation of US$1,071m equating to C$7.11 per share undiluted and C$5.01 per share diluted at a notional C$1.50 share price. No value is ascribed to Duluth Exploration, as no resource has been delineated, although positive drilling results to date indicate potential for material upside to our valuation.
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Company description: Duluth Complex development
Duluth’s strategy is to acquire, explore and develop copper, nickel and platinum group metal (PGM) deposits with the aim of developing one or more operating mines in the Duluth Complex in north-eastern Minnesota, US. It is committed to developing the proposed underground Twin Metals Minnesota (TMM) mining project through a 60:40 JV with Antofagasta. Duluth is also pursuing exploration outside the JV with 40,000 acres of mineral interests near TMM.
The TMM project, consisting of 32,000 acres of mineral interests containing the Maturi, Birch Lake and Spruce Road deposits, located in the Duluth Complex (see Exhibit 5) is among the world's largest Cu-Ni-PGM polymetallic sulphide deposits with contained metals of indicated 6.2Mt (13.6bn lbs) copper, 2.0Mt (4.4bn lbs) nickel and 21.2Moz palladium+platinum+gold (3PGE) and inferred 5.4Mt (11.9bn lbs) copper, 1.9Mt (4.1bn lbs) nickel and 12.8Moz 3PGE.
Geology of the Duluth Complex The Duluth Complex hosts one of the world's largest undeveloped repositories of copper, nickel and PGMs. In comparison to worldwide deposits, the Duluth Complex ranks as: third-largest accumulation of nickel sulphides; and second-largest accumulation of polymetallic copper and platinum group metals.
Exhibit 1: Duluth Complex regional geology
Source: Duluth Metals
The Duluth Complex hosts three distinct types of magmatic sulphide Cu-Ni mineral deposits: 1. large, low/-medium grade, disseminated Ni-Cu, some with local PGE-enriched zones; 2. localised high-grade massive Ni-Cu sulphide lenses and zones, some moderately PGE-
enriched; and 3. stratabound PGE-enriched "reefs" associated with specific types of phase-layer transitions.
At least nine deposits have been delineated in the basal 100-300m of the Partridge River and South Kawishiwi intrusions. Mineralisation consists mainly of disseminated sulphides, collectively constituting over 4.0bn tons averaging 0.66% Cu and 0.20% Ni within the Duluth Complex.
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TMM project Reserves and resources In July 2008, an NI 43-101 resource was estimated based on c 50% of the Nokomis (formerly Maturi extension) property, comprising indicated 449Mt grading 0.624% copper, 0.199% nickel and 0.600g/t 3PGE plus inferred 284Mt grading 0.627% copper, 0.194% nickel and 0.718g/t 3PGE. In October 2009, following an infill drilling programme, the NI 43-101 resource was updated to indicated 550Mt grading 0.639% copper, 0.200% nickel and 0.660g/t 3PGE plus inferred 274Mt grading 0.632% copper, 0.207% nickel and 0.685g/t 3PGE.
Franconia acquisition In June 2012, following TMM's acquisition of Franconia Minerals in 2011, the NI 43-101 resource was updated to indicated 726Mt grading 0.55% copper, 0.17% nickel and 0.570g/t 3PGE plus inferred 651Mt grading 0.53% copper, 0.18% nickel and 0.521g/t 3PGE. Franconia's principal assets are a 70% interest (with the intention to increase to 82%) in the Birch Lake, Maturi and Spruce Road deposits in north-eastern Minnesota (see Exhibit 5) through the Birch Lake JV.
December 2012 resource update In December 2012, the NI 43-101 resource was updated to indicated 1.17bn tons grading 0.58% Cu and 0.19% Ni plus inferred 1.26bn tonnes grading 0.47% Cu and 0.16% Ni offering scope for further project expansion. Only 11% of the prospective portion of the property has been drilled and, beyond this, significant exploration target areas have been identified by AMEC.
A geological sub-unit of the enlarged total indicated resource has been identified, representing an indicated 622Mt at materially higher grades of 0.69% Cu and 0.22% Ni using a 0.5% Cu cut-off.
Exhibit 3: Geological sub-unit resource as at December 2012 Tons Cu Ni Pt Pd Au 3PGE Cu Ni Pt Pd Au 3PGE 0.5% Cu cut-off Mt % % g/t g/t g/t g/t Mt Mt Moz Moz Moz Moz Maturi Indicated 622 0.69 0.22 0.20 0.45 0.11 0.76 3.89 1.24 3.63 8.16 2.00 13.79 Inferred 198 0.65 0.21 0.22 0.50 0.11 0.82 1.17 0.38 1.26 2.88 0.62 4.76 Total resource 820 0.68 0.22 0.20 0.46 0.11 0.78 5.06 1.62 4.89 11.04 2.62 18.55 Source: Duluth Metals, Edison Investment Research. Note: *Short ton = 0.9072 metric tonnes.
Recent drilling results In April 2013, Duluth announced drill results for the first 20 holes in the Maturi West Exploration Target Area west and south of the Maturi deposit and up dip from the Birch Lake deposit. Assay results from relatively shallow drilling (to c 500m below surface) highlight thick mineralised sections.
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Exhibit 4: Maturi West drill results Hole Cut-off Width Grade Cu % ft Cu % Ni % Ag g/t 3PGE g/t MSW-0014 0.3% 150.0 0.81% 0.27% 2.70 1.00 Including 0.5% 110.0 0.94% 0.31% 3.10 1.17 MSW-0017 0.3% 210.5 0.64% 0.24% 2.10 0.35 Including 0.5% 120.5 0.72% 0.24% 2.60 0.44 MSW-0018 0.3% 83.0 0.60% 0.19% 2.10 0.41 Including 0.5% 50.0 0.90% 0.28% 3.70 0.51 Source: Duluth Metals
These assay results confirm the existence of mineralisation at shallow depths between the Maturi Deposit and Birch Lake Deposit and suggest there is potential to enhance the economics of the TMM project through increasing production rates in the mining plan.
Preliminary economic assessment A now outdated NI 43-101 Preliminary Economic Assessment (PEA) of the TMM project was published in January 2009, based on the July 2008 resource estimate. The PEA scoped a 40ktpd operation, mining a total 282Mt over a 22-year mine life, with average annual production of 82kt copper, 19kt nickel, 355t cobalt, 69koz platinum, 157koz palladium and 25koz gold. Initial capital cost was estimated at US$1.332bn, and as a copper producer, net cash operating costs were estimated at a negative US$0.72/lb benefiting from considerable by-product credits.
Pre-feasibility study A pre-feasibility study (PFS) is being prepared on the TMM project by Bechtel Engineering, aiming to define a large-scale vertically integrated mining complex with a phased underground mine plan. Different scenarios are being evaluated in terms of on-site and off-site surface facility alternatives and conventional and hydrometallurgical processing options. The December 2012 resource will be incorporated into the PFS and the increased scale indicates potential for larger milling capacity options up to 80ktpd to be considered. The higher-grade geological sub-unit should allow mine plan optimisation to enhance the project’s NPV.
Antofagasta agreement In July 2010, Duluth entered into a JV agreement with Antofagasta to develop the TMM project. Duluth contributed the TMM project for a 60% interest, with Antofagasta acquiring a 40% interest. The agreement provides for US$130m expenditure by Antofagasta over three years to advance the project towards a bankable feasibility study. Antofagasta then receives the right to acquire an additional 25% interest in the JV from Duluth at an exercise price based on the net present value (NPV) of the TMM project as determined by the bankable feasibility study (BFS). The funding and financing commitments under the agreement are as follows: Antofagasta subscribed to 6m Duluth common shares for C$12m in January 2010. As at 30 June 2012, Antofagasta had funded its US$130m initial contribution for its 40% interest. In July 2012, Phase III of the project commenced, whereby Antofagasta will fund 65% of the JV
expenditures and Duluth will fund 35%. Antofagasta will provide up to US$30m additional funding to cover Duluth’s share of subsequent JV expenditures, US$20m equity and US$10m bridge loan, repayable in cash, Duluth shares or offset against the 25% option exercise price.
In connection with the March 2011 Franconia acquisition, Antofagasta subscribed for 7.6m Duluth common shares for C$20m. This was credited to the US$30m additional JV funding.
In September 2012, US$28.6m additional JV funding was made, comprised of US$10m from Duluth (funded by Antofagasta bridge loan) together with US$18.6m directly from Antofagasta.
Antofagasta agreed to provide Duluth with an unlimited capital cost loan to cover its proportionate share of long-lead order items and capital costs incurred before permitting.
If Duluth is unable to fund its share of future JV expenditures, its interest will be diluted.
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Duluth exploration Duluth had intended to spin out its exploration assets in 2013. However, in view of equity market conditions, the board decided not to proceed with an IPO. All special warrants distributed in 2011 expire in July 2013 and all management/director options in the exploration company are cancelled.
Drilling continues to target the Nickel Lake Macrodike (NLM) and PGM mineralisation on the eastern margin of the South Kawishiwi Intrusion (SKI) (see Exhibits 1 & 5). Phase 1 exploration, consisting of geologic mapping, geochemistry, geophysics and initial drill testing of targets, is currently being completed. Phase 2 will compile and interpret geological data and define future drill targets for the balance of 2013. Drilling will also target deeper portions of the NLM.
Exhibit 5: Areas of mineralisation within TMM and Duluth Metals’ land
Source: Duluth Metals
Four new areas of mineralisation have been discovered since October 2012, as part of a long-term multi-phase drilling programme over approximately 8,850 acres adjacent to the TMM project.
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Area 1 – PGE mineralisation along the eastern side of the SKI and within the adjacent anorthositic rocks on the East Shore Property (see Exhibit 5), suggests potential for high-grade structure-hosted PGE mineralisation, not previously recognised in the Duluth Complex.
Area 2 – Within the NLM, significant thickness of disseminated Cu-Ni-PGE bearing sulphide with an elevated 5:1 Cu:Ni ratio suggesting sulphide fractionation took place within the NLM, indicating that the system may contain zones of concentrated Ni-rich sulphide minerals in the feeder conduit.
Area 3 – In the north-east portion of the NLM, drilling has found copper-nickel-PGE mineralisation along the northern wall of the Macrodike.
Area 4 – Along the eastern edge of the SKI, drilling has identified a planar structure with predominant copper mineralisation in the Bogberry Lake area (see Exhibit 5).
Risks and sensitivities
In addition to typical mining project development and operating risks, the primary risks to shareholders relate to uncertainty over the PFS outcome, unexpected permitting delays and reliance on Antofagasta’s continuing commitment. We consider Minnesota to be a relatively low-risk mining jurisdiction with environmental permitting representing the major issue to be addressed.
Uncertainty over PFS outcome The TMM project has potentially significantly changed in scale since the now outdated January 2009 PEA due to the Maturi indicated resource increase from 449Mt grading 0.62% Cu and 0.20% Ni to 1,065Mt grading 0.59% Cu and 0.19% Ni. With potential milling capacity options up to 80ktpd, it is hard to predict the scale of the project that the PFS will define. Capital and operating costs are likely to have changed materially since the PEA due to significant cost inflation across the mining industry, as well as the upscaling of the TMM project.
Reliance on Antofagasta While Antofagasta’s endorsement of the TMM project through its participation in the TMM JV is a clear positive, the development of the project is reliant on Antofagasta’s continued funding. If the TMM project became a lower strategic priority for Antofagasta, this could lead to a delay in the development of the project. If Antofagasta decided to withdraw from the JV, considerable uncertainty would be created while a new partner was sought.
Environmental permitting There has been press speculation that environmental permitting at the TMM project could take much longer than the two-year timeframe anticipated by management. Comparison has been drawn to the ongoing eight-year environmental review process undergone by PolyMet Mining for its copper-nickel-PGM project in the Mesabi Iron Range in north-eastern Minnesota. However, PolyMet’s experience does not represent the standard procedure for completing the EIS process. PolyMet is understood to have made significant engineering design changes, leading to two significant restarts of the permitting process, and was required to evaluate remediation of an existing tailings and milling site not originally incorporated into the design.
Duluth’s management confirms numerous discussions over environmental permitting with the Minnesota Department of Natural Resources (DNR), the lead agency for mine permitting. The DNR has confirmed that an EIS can be delivered in two years with sufficient preparation and no major revisions of the construction plan during the permitting process. Our forecasts assume three years for completion of the BFS, during which time the EIS needs to be delivered.
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Valuation
We value Duluth using DCF valuations for the TMM project and corporate overheads, adjusting for cash, option exercise and debenture conversion. No value is ascribed to Duluth Exploration as no resource has been delineated, although this offers potentially material upside. Our base case valuation is US$701m or C$4.66 per share undiluted based on the now outdated January 2009 PEA adjusted for inflation and resource upgrades. Assuming C$126m of equity is issued between 2014 and 2017, our valuation dilutes to C$3.53 at a notional C$1.50 issue price. Our upside valuation, based on the potential conclusion of the TMM project PFS, is US$1,071m equating to C$7.11 per share undiluted and C$5.01 diluted at a notional issue price of C$1.50.
Base case valuation Our DCF valuation of the TMM project is based on a 10% discount rate, long-term copper and nickel prices of US$2.96/lb and US$10.14/lb respectively and a US$0.99/C$ exchange rate.
Exhibit 6: Base case sum-of-the-parts valuation analysis Total NPV, US$ Per share, C$ % of total NPV Projects attributable NPV Twin Metals Minnesota - 35% stake 458 3.04 65% TMM - Antofagasta 25% option 262 1.74 37% Total projects NPV 720 4.78 103% Corporate overheads NPV (73) (0.49) (10%) Base EV 646 4.29 92% (Net debt)/cash 4 0.02 1% Stock option exercise 21 0.14 3% Convertible debenture conversion 30 0.20 4% Total attributable NPV 701 4.66 100%
Shares in issue 125.765 Convertible debenture dilution 13.274 Stock options in issue 12.972 Diluted shares in issue 152.012 Source: Edison Investment Research
To account for the substantial resource increase and the significant cost inflation experienced by the global mining industry, we adjust the January 2009 PEA assumptions as follows: Capital cost estimate inflated 25% to US$1,665m. Cash cost estimate increased 20% to US$27.20/t. Plant throughput unchanged at 40ktpd. Mined resource grade revised to 0.69% Cu and 0.22% Ni compared to 0.68% Cu and 0.21% Ni
to reflect the Maturi indicated 622Mt higher-grade sub-unit. Mine life extended from 22 to 27 years (maintaining a 70% resource extraction factor). Mineable resource increased to 435Mt (70% of Maturi higher grade sub-unit) from 282Mt.
We value Duluth’s 60% stake in TMM as the 35% retained stake plus Antofagasta’s 25% option exercise price. The option exercise price is based on the BFS determined NPV at a 10% discount rate. We conservatively assume the BFS NPV is at a 20% discount to our DCF valuation.
This analysis assumes that Duluth will not raise equity to fund its 35% share of the estimated C$550m equity component of the TMM project capital expenditure, based on TMM itself funding the C$1,665m capital expenditure 2:1 debt to equity. We also assume that Antofagasta will arrange the debt project financing. We estimate the exercise price of Antofagasta’s 25% option at C$262m will cover Duluth’s C$195m share of the above capital expenditure and provide a C$67m surplus.
Dilution analysis We estimate that Duluth will need to raise a total of C$126m in equity between 2014 and 2017 to fund its 35% share of TMM project development through BFS completion and pre-construction, while continuing exploration at its 100%-owned Duluth Exploration project. We anticipate C$60m
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could be raised following PFS completion and include this in our FY14 forecasts, assuming an issue price of C$1.50. The dilutive impact on our valuation of C$126m being raised in equity is dependent on the assumed issue price.
Exhibit 7: Base case dilution analysis Shares in issue m 152.0 152.0 152.0 152.0 152.0 152.0 152.0 152.0 Notional issue price C$ 1.00 1.50 2.00 2.50 3.00 3.50 4.00 4.50 Pre-funding valuation C$m 707.7 707.7 707.7 707.7 707.7 707.7 707.7 707.7 Assumed gross funding requirement C$m 126.3 126.3 126.3 126.3 126.3 126.3 126.3 126.3 Shares to be issued m 126.3 84.2 63.2 50.5 42.1 36.1 31.6 28.1 Shares in issue post funding m 278.3 236.2 215.2 202.5 194.1 188.1 183.6 180.1 Post-funding valuation C$m 834.0 834.0 834.0 834.0 834.0 834.0 834.0 834.0 Diluted valuation per share C$ 3.00 3.53 3.88 4.12 4.30 4.43 4.54 4.63 Source: Edison Investment Research
Discount rate sensitivity We consider the sensitivity of our base case valuation to the discount rate applied in our DCF. Based on the current share price, the market implied discount rate is around 15%.
Exhibit 8: Base case diluted valuation per share discount rate sensitivity analysis Notional issue price, C$ Discount rate
Upside case valuation The potential increase in the scale of the project under consideration by the PFS should directly translate into a materially increased project valuation. In addition, the higher-grade geological sub-unit should allow mine plan optimisation, further enhancing the project’s NPV.
We consider a valuation upside case with the following revisions to our base case assumptions: Mineable resource increased to 745Mt (70% of the current Maturi indicated resource). Mined resource grade revised to reflect the current Maturi indicated resource. 622Mt higher-grade sub-unit mined and processed in the early years of the project. Plant throughput increased to 80ktpd. Capex estimate increased 80% to US$3,000m; no change to opex estimate. Corporate overheads increased by 50% due to the increased scale of the operations.
Exhibit 9: Upside case sum-of-the-parts valuation analysis Total NPV, US$m Per share, C$ % of total NPV Projects attributable NPV Twin Metals Minnesota - 35% stake 713 4.73 67% TMM - Antofagasta 25% option 407 2.71 38% Total projects NPV 1,120 7.44 105% Corporate overheads NPV (110) (0.73) (10%) Base EV 1,010 6.71 94% (Net debt)/cash 10 0.07 1% Stock option exercise 21 0.14 2% Convertible debenture conversion 30 0.20 3% Total attributable NPV 1,071 7.11 100%
Shares in issue 125.765 Convertible debenture dilution 13.274 Stock options in issue 12.972 Diluted shares in issue 152.012 Source: Edison Investment Research
The estimated C$407m exercise price of Antofagasta’s 25% option still covers Duluth’s C$346m equity share of the TMM project capital expenditure and provides a similar C$61m surplus.
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Dilution analysis The estimated gross equity funding requirement between 2014 and 2017 increases to C$137m, resulting in a slightly greater dilutive impact on our upside case valuation.
Exhibit 10: Upside case dilution analysis Shares in issue m 152.0 152.0 152.0 152.0 152.0 152.0 152.0 152.0 Notional share price C$ 1.00 1.50 2.00 2.50 3.00 3.50 4.00 4.50 Pre-funding valuation C$m 1081.2 1081.2 1081.2 1081.2 1081.2 1081.2 1081.2 1081.2 Assumed gross funding requirement C$m 136.5 136.5 136.5 136.5 136.5 136.5 136.5 136.5 Shares to be issued m 136.5 91.0 68.3 54.6 45.5 39.0 34.1 30.3 Shares in issue post funding m 288.5 243.0 220.3 206.6 197.5 191.0 186.1 182.4 Post-funding valuation C$m 1217.7 1217.7 1217.7 1217.7 1217.7 1217.7 1217.7 1217.7 Valuation per share C$ 4.22 5.01 5.53 5.89 6.17 6.38 6.54 6.68 Source: Edison Investment Research
Discount rate sensitivity We consider the sensitivity of our upside case valuation to the discount rate applied in our DCF. Based on the current share price, the market implied discount rate is around 17%.
Exhibit 11: Upside case diluted valuation per share discount rate sensitivity analysis Notional share price, C$ Discount rate
Our FY13 and FY14 earnings forecasts reflect exploration and development spending on both the 60%-owned TMM project and the 100%-owned Duluth Exploration project. In July 2012, the TMM JV entered Phase III of development, during which Antofagasta contributes 65% of the funding. Consequently, Duluth’s cash requirements have reduced as it is funding only 35% of the TMM project expenditure while retaining 60% ownership.
We forecast that Duluth’s 35% payable share of the estimated C$56m pa TMM expenses will run at C$20m pa, based on the Q412 and Q113 average run-rate. We forecast that Duluth’s corporate overheads, interest charges and exploration expenditure will run at C$17m pa (of which C$5m pa non-cash), based on the Q113 run-rate adjusted for a normalised level of exploration expenditure.
Cash flow We forecast that Duluth will burn cash at C$8m per quarter through FY13 and FY14 with C$5m per quarter for Duluth’s 35% share of the estimated C$14m per quarter TMM JV funding and C$3m per quarter required to fund corporate overheads, interest charges and exploration expenditure on the Duluth Exploration project.
At 3 May 2013 Duluth had cash of C$32m following a US$3.955m funding contribution to TMM in January 2013 and the April 2013 C$30m convertible debenture issue and we forecast that this provides working capital through to Q214. In Q213, we include US$5.4m additional funding for TMM to be contributed by 28 May (in addition to US$10.1m from Antofagasta) in our forecasts.
As stated earlier, we anticipate C$60m could be raised following TMM PFS completion and we include this in our FY14 forecasts with the expectation that the raising will be completed in H114.
Management team Chairman & CEO: Christopher Dundas President: Vern Baker Mr Dundas was instrumental in the start-up, organisation, development and financing of Duluth Metals. In the mining industry, he was a director of Wallbridge Mining Company from 2003 to 2009.
Mr Baker is a highly experienced mining executive with a focus on underground operations. Most recently, he was VP operations at FNX Mining in Sudbury.
COO: Kelly Osborne Mr Osborne has over 28 years’ mining industry experience in the US and Indonesia. Before Duluth Metals, he was senior vice-president, underground operations (Indonesia) with Freeport-McMoRan Copper & Gold.
Principal shareholders (%) Antofagasta 11.26 Wallbridge Mining 8.83 Capital Group 6.21 Oppenheimer Funds 6.21 Columbia Wanger 5.96 JP Morgan 4.53 Christopher Dundas 2.38
Companies named in this report Antofagasta (ANTO ); PolyMet Mining (POM)
