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Morningstar | Strong Result for Regis Resources but Fiscal 2019 Guidance Disappoints; AUD 2.90 FVE Maintained

Regis Resources' fiscal 2018 net profit after tax of AUD 174 million was strong, up 26% versus last year. The result was better than expected thanks to a robust fourth quarter and higher-than-expected revenue. We had forecast a meaningful proportion of gold sales to be delivered into lower priced hedges in fiscal 2018, however, the hedge book is essentially unchanged from a year ago. The company had 389,000 ounces of gold hedges at the end of fiscal 2018, equal to just over a year’s mine production. The average hedge price of AUD 1,556 per ounce is about 6% below the current gold price of AUD 1,650 per ounce and 14% below our average AUD 1,800 per ounce forecast for the next five years. We assume Regis delivers its hedges over the next five years. This reduces our revenue and earnings forecasts by about 3% and 7% per year, respectively.

Fiscal 2019 guidance is weaker than we expected, mainly around costs, and we’ve lowered our earnings forecast to AUD 0.29 from AUD 0.33 per share previously. We maintain our AUD 2.90 per share fair value estimate. Lower near- and medium-term earnings due to higher costs are offset by recent reserve replacement in Western Australia, which has largely offset a year’s worth of depletion. We also fully incorporate the McPhillamys project into our forecast.

Returns on invested capital are expected to average an impressive 18.5% for the five-year forecast period. This reflects the relatively low capital intensity and competitive operating costs at Regis Resources’ mines. However, our no-moat rating remains due to relatively short reserve life of less than six years at the operating Duketon mines. Our fair value estimate acknowledges Regis’ exploration success and track record in replacing reserves. We forecast the firm to ultimately mine 60% more than reserves at Duketon. However, the market is either baking in considerably more exploration success or a lower cost of capital than our 7.5% assumption, and shares remain overvalued.

Guidance for fiscal 2019 is to produce 340,000 to 370,000 ounces of gold at a cash cost of AUD 880 to AUD 950 per ounce, including royalties. The main change is higher unit costs from fiscal 2018 actual production of 361,000 ounces at a cash cost of AUD 794 per ounce. We have factored higher costs into our future earnings forecasts as a result.

Regis is in strong financial shape with net cash of AUD 180 million, up 54% on a year ago. Operating cash flow in fiscal 2018 was 26% higher at AUD 260 million and free cash flow up 40% to AUD 142 million. The better performance was a function of 14% higher gold sales volumes and 8% lower total cash costs in fiscal 2018.

Net cash and forecast cash flow should comfortably finance development of the McPhillamys deposit. The pre-feasibility study estimated a capital cost of AUD 215 million, but we expect some inflation in the final feasibility capital cost estimate, which is due to be released in late 2018. Inflationary capital cost pressure reflects the uplift in steel, energy, labour and contractor costs. Despite this, Regis should be able to finance development of McPhillamys without taking on meaningful debt. McPhillamys will extend average mine life, but reserves are still not enough for more than 10 years production at planned rates. Hence, we don’t see any change to our no-moat rating with its approval.

Dividends totaled AUD 0.16 per share fully franked in fiscal 2018, up just 7% from AUD 0.15 a year ago. This is against a 26% rise in earnings to AUD 0.34 per share. The payout ratio declined slightly from 55% to 47%, which we think reflects a touch of financial conservatism given the impending spend for McPhillamys. The payout ratio should increase once the mine starts as we expect Regis to emerge with no net debt on its completion.