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Morningstar | New Hope’s Fiscal 2018 Profit Benefits From High Coal Price; Shares Overvalued

New Hope’s fiscal 2018 adjusted net profit after tax nearly doubled to AUD 253 million, in line with last week’s profit guidance and our forecast. The higher coal price was the key driver, averaging AUD 119 per tonne in fiscal 2018, up 23% from AUD 89 per tonne in fiscal 2017. Full-year coal sales volumes of 8.9 million tonnes came in just 3.8% ahead of last year, thanks to incremental improvement at Bengalla. Adjusted EBITDA rose 60% to AUD 447 million, with higher prices adding AUD 165 million and volumes AUD 27 million. Higher costs due to an increase in waste mining at Bengalla detracted from EBITDA by AUD 21 million.

Adjusted earnings per share nearly doubled AUD 0.30. We expect a further 37% rise to AUD 0.41 per share in fiscal 2019, primarily with the expected acquisition of an additional 40% of Bengalla. This drives a forecast 25% uplift in coal sales volumes to 11.0 million tonnes in fiscal 2019, with Bengalla contributing just over 6.0 million tonnes and Acland the remainder. Bengalla is a lower-cost mine. We also expect a further but moderating tailwind from the coal price, and forecast a 6% rise to USD 97 per tonne. The spot price averaged USD 117 per tonne in August. If this persists in fiscal 2019, our earnings forecast would rise 56% to AUD 0.64 per share and our fair value estimate would increase 7% to AUD 2.90, assuming no cost inflation.

We maintain our AUD 2.70 fair value estimate for no-moat-rated New Hope. With the shares trading around AUD 3.70, the firm is overvalued. The share price has risen strongly since early 2018, nearly doubling from around AUD 2.00. This is a function of the buoyant coal price, thanks to strong global economic growth and production restrictions in China, along with the agreed acquisition of a further 40% of Bengalla. The near-term earnings outlook is strong, but we think the market is overestimating New Hope’s longer-term earnings power in a normalised coal price environment.

Fiscal 2019 is likely to be the last year of full production from the Acland mine, unless management can secure approvals for the Stage 3 extension by mid-2019. After the Land Court initially recommended development approvals be denied, New Hope was successful in its appeal and a further hearing is set down for early October. A Land Court decision is expected shortly thereafter. The final decision rests with the relevant state government minister, but the Land Court’s decision will carry significant weight. A further delay in approvals beyond mid-2019 would see production ramp down in fiscal 2020 as Stage 2 reserves exhaust and with a gap in production at Acland.

We still factor in a 50% chance of Acland Stage 3 being approved. We think this captures the risk of further delays and the potential that New Hope is forced to resubmit its application for development, which we see as the probable bear-case scenario. Ultimately, we see the approvals of Acland Stage 3 as most likely just a delay issue, which would postpone future cash flows, rather than a permanent no-go. A no-go is the very worst-case scenario and one we see as an outlier risk at this stage. Given the importance of the mine to the local economy and the quality of the operation, we think it is sensible that it ultimately goes ahead. A timely approval by mid-2019, enabling continuous production at Acland, would add AUD 0.35 per share to our fair value estimate, but due to the high coal price, this would still see the shares screening as overvalued.

New Hope’s unadjusted net profit included a AUD 103 million post-tax impairment relating to the Colton exploration project. We had nothing specific for Colton in our fair value estimate, so the impairment has no direct impact. The asset was impaired due to the sharp increase in coal loading charges at the Wiggins Island Coal Terminal in Queensland, which meant development of the Colton project was unlikely to be economical.

New Hope is in a strong financial position, with net cash more than doubling to AUD 470 million in the year ended July 2018. The final dividend of AUD 0.08 per share saw the full-year payout rise 40% to AUD 0.14 per share. The payout ratio prudently declined to 46% from 65%, with the AUD 860 million payment for a further 40% of Bengalla likely in the next half. This will see New Hope take on a modest and relatively comfortable level of debt. We expect net debt/EBITDA to remain below 0.7 for the five-year forecast period, despite our expected decline in the coal price to USD 73 per tonne by 2021.

Balance sheet improvement was driven by a 47% increase in net operating cash flow to AUD 418 million, thanks to the higher coal price. With the net investing cash outflow relatively steady at AUD 82 million, free cash flow rose 64% to AUD 336 million. Cash flow also benefited from a favourable AUD 81 million increase in the near-term tax liability, but this will unwind in fiscal 2019 with payment expected in January.