Nornickel - Lagging the Green Metals Rally

Nornickel's share price recently returned to its pre-fuel spill levels and has generated a total return of 31% since the company's capital markets day on December 1, at which it presented a comprehensive ESG strategy and sought to reassure investors of its strong commitment to improve. The recent rally in metals prices, boosted by hopes for stronger metal demand (nickel, copper and platinum) from the green economy and the massive economic stimulus measures, has not been fully reflected in the share price, in our view, as the stock is still trading at a low 2021E EV/EBITDA of 4.7. We remain bullish on commodity prices and upgrade our target price to $48.00 per share and reiterate our BUY recommendation.> We have upgraded our earnings forecasts to incorporate the higher prices for the metals that the company produces, and we have also incorporated an inventory release (15 kt of nickel, 192 koz of palladium) that it is planning this year. This raises our 2021 EBITDA projection to $13 bln, 20% above the consensus. Assuming the company pays $2 bln in environmental fines and modeling capex at the low end of the guided range (as Nornickel again spent below guidance in 2020), we model FCF of $5 bln this year. > Since the December investor day, at which the company outlined a clear ESG strategy, the stock has returned 31%. Nevertheless, it has underperformed its basket of commodities, with its EV/EBITDA staying at an undemanding level below 5.0. To a certain extent, this could be explained by the time that investors need to judge whether this commodity rally is sustainable (we think it is; see the summary of our commodity views below), but it is also attributable to company-specific factors. > One key factor is clarity over the core shareholders' relationship, as the current shareholder agreement is set to expire on January 1, 2023. In a recent report, we argued that there is a low chance of the corporate conflict resuming, and we expect the parties to sign a new agreement, which could improve the dividend visibility and reduce the uncertainty over capital allocation for minority investors. Second, despite the positive market reaction to the ESG strategy, the bulk of the re-rating should come from executing the ESG program and reporting consistent progress with the construction of a sulfur capturing plant and waste collection efforts, which the company has set as its ESG priorities. At our target 2021E EV/EBITDA of 6.5 (in line with the historical average), we assign Nornickel an equity value of $76 bln, which implies a target price of $48.00 per GDR and 35% upside from the current price and total return of 45% including dividends to be paid this year (final for 2020 and interim for 2021). We expect the dividend to be paid over the next 12 months to yield around 10%. Starting from 2022 (when the dividends are no longer governed by the current shareholder agreement), we model dividends in line with the company's FCF, or roughly 40-50% of EBITDA, for a yield of 9-10%. We reiterate our BUY recommendation and keep our BUY trade idea open, which has so far yielded a total return of around 30%Appendix: Commodity market viewsWe have upgraded our base metals and PGM price forecasts, setting our copper and platinum prices for 2021 above spot. We expect copper to continue benefiting from the vaccine-driven global economic recovery and accelerating decarbonization trends. In addition, copper exchange inventories are at a 12-year low (at just four days of global consumption) and there are supply risks related to scheduled labor contract renegotiations in Chile this year. As for platinum, we expect the physical market to produce an annual surplus of more than 0.5 moz in the coming years, though investment demand and strategic restocking may wipe out this surplus, turning it into a deficit. Johnson Matthey registered net investment demand of around 1 moz in both 2019 and 2020, and we expect it to continue holding up well as a bet on the long-term development of the hydrogen economy, where platinum plays an essential role in green hydrogen production and fuel cells.Our nickel and palladium forecasts are close to spot levels for 2021, but over the longer term we expect nickel prices to continue rising and palladium prices to start falling, reflecting rising BEV penetration and a decline in the share of cars with ICEs. In addition, the palladium market could move into a significant surplus in the mid-2020s, when Nornickel launches and ramps up its South Cluster project, producing around 0.6-0.7 moz of palladium (equal to 6% of this year's estimated global supply).