BHP Billiton (BLT) has outlined its plans for the massive Olympic Dam copper/uranium mine in South Australia at a copper and coal focussed investor update this week.
Negative commodities-driven sentiment unwisely discounts BHP's resilience
It plans to debottleneck capacity by 50,000 tonnes, or 27%, to 235,000 tonnes of copper at a capital cost of $200 million, chiefly on the smelter and refinery. This would favourably reposition Olympic Dam to the first or second cost quartile post fiscal 2018, versus a current mid-third-quartile position. Second, the company is evaluating an underground expansion that would double ore hoisting capacity and increase copper production to more than 450,000 tonnes from fiscal 2024.
Our £21.75 per share fair value estimate remains. Potential at the Olympic Dam mine and elsewhere in BHP's portfolio supports our unchanged narrow moat and medium fair value uncertainty ratings. Ongoing share price weakness places BHP at a meaningful 20% discount to fair value. Negative commodities-driven sentiment unwisely discounts BHP's resilience.
Olympic Dam's massive reserve and resource base can sustain a significantly higher level of production. Of the world's operating copper mines, Olympic Dam is outside the top 15 mines in terms of production. Top-rated Escondida's 2014 copper output of 2 million tonnes outpaced Olympic Dam's 184,000 tonnes more than tenfold. That's despite Escondida's 140 million tonnes of contained copper resource being less than double Olympic Dam's almost 80 million tonnes. Geological and mining differences aside, there is a clear mismatch.
Unlike iron ore expansions which have been incremental with relatively quick payback, the problem for copper and the Olympic Dam mine, in particular, has been the very large upfront capital expenditure required and long lead times of six years to first positive cash flow; and naturally even longer lead times to payback of capital. It's a considerable risk that boards have wisely been unwilling to bear. There is also the risk of increased supply to prices, reflecting the scale of an open pit required to make development viable, threatening the cosy returns for existing copper assets.
Mines such as Olympic Dam stand to benefit from favourable market dynamics including increasing copper consumption as a result of technological developments across the globe, such as improving battery technology in cars. Prices also stand to gain from supply-side challenges including grade decline, higher strip ratios and water shortages. BHP's other copper mines, including Escondida are sensitive to many of these challenges but equally have expansion and efficiencies potential of their own.
BHP says longer-term growth projects can sustainably support total equity copper production in excess of 2 million tons per annum at first-quartile costs. Production in 2014 was 1.7 million tonnes at high first-quartile cost.
