Hillgrove Resources Ltd Light at the End of the Tunnel 1 March 2012 $0.25 BUY James Brennan-Chong 03 9640 3893 james.brennan-chong@wilsonhtm.com.au Cameron Judd 03 9640 3864 cameron.judd@wilsonhtm.com.au Price Performance $0.30 Feb 11 Jun 11 Oct 11 Security/Capital Details Feb 12 ASX Code HGO Market Cap $204 M Issued Shares (dil) 833.0 M Avg Mth T over 61.91 M 12 Mth High Low $0.36 - $0.18 Key Data/Ratios FY 2012 EBITDA / Sales -318.2 EBIT / Sales -342.6 Debt / Equity 20.9 Interest Cover -5.2 x ROE -2.0 EPS Growth 71.3 DCF $0.48 12 Mth Price Target $0.56 Important Disclosure Wilson HTM Corporate Finance Ltd acted as Joint Lead Manager and Underwriter for the placement announced by Hillgrove Resources Limited in October 2010 and earned fees for acting in this capacity. RN Recommendation HGO s Kanmantoo copper project in South Australia continues to ramp-up and we expect it to be at full capacity by the end of May. In addition, we expect the operation to be cash flow positive by the end of March and are increasingly comfortable with the financial outlook of the company. The outstanding risk remains the bank completion test expected mid-year at the latest. Exploration activities continue to excite, with a resource upgrade at Kanmantoo and first drilling of the Birdshead project in Indonesia both expected by the end of March. HGO EV/resource multiple of $409/t is in-line with the sector average however we note the potential for resource upgrades. We rate HGO a BUY with a price target of $0.56/sh. Key Points Ramp up phase continues: Key points from the quarterly result include: Whilst mined grades have been lower than expected, the total ore tonnages have been higher. This has potential to extend mine life but at a higher unit cash cost. Further sampling of the ore grades within the core of the mineralised zone indicate they are in-line with expectations; Annualised mill throughput for the month of January was 1.7mtpa, compared to the nameplate capacity of 2.4mtpa. HGO expects nameplate capacity to be achieved by May, a slight delay from an earlier expectation of March. In our view, there is potential to improve on this estimate as we understand the mill throughput in the month of February was close to 100; The processing circuit appears to operating well with copper metal recovery in the month of January achieving 84, in-line with initial expectations. Bank completion test next hurdle: Cash proceeds from concentrate sales are restricted to the asset level until the mine demonstrates 90 days of production at a 90 rate. Securing the bank competition test will alleviate the last of the cash concerns that have weighed on the share price, in our view. We expect completion of the test to be achieved mid-year at the latest. Cash flow positive in the coming quarter: As production rates continue to improve and residual part payments are received from sold concentrate, we expect HGO to be cash flow positive by the end of March. Cash at 31 January 2012 was $22.5m, of which $5m is ring fenced to the Kanmantoo asset level. The majority of the $17.5m of available cash is available at the parent level and provides funding for exploration, corporate office and interest costs. Potential to Extend Kanmantoo Mine Life: Recent drilling results indicate significant copper mineralisation at shallow depths outside the current optimised pit design. We highlight the potential to extend mine life beyond the current 6.5 years based on current reserves. Kanmantoo Resource update expected at the end of March: An updated resource statement is excepted by the end of March. An updated reserve statement is likely to follow later in the year. Birdshead, free porphyry option play: Drilling at Bridshead is expected to commence in late March, with first drill results likely by the end of June. Bridshead recently gained permitting to drill in the area and is targeting bulk tonnage porphyry copper/gold mineralisation. Birdshead sits on the same geological trend as world class deposits such as Grasberg and Wafi. Year to Jan NPAT (Rep) $M NPAT (PSig) $M EPS (PSig) c EPS Growth PER x CFPS c P/CF x DPS c Div Yld Franking 2011a -13.4-13.4-1.6 16.7-15.3-4.9-5.1 0.0 0.0 0 2012e -3.8-3.8-0.5 71.3-53.3 0.5 54.4 0.0 0.0 0 2013e 16.1 16.1 1.9 519.6 12.7 5.5 4.5 0.0 0.0 0 2014e 51.3 51.3 6.2 219.2 4.0 11.3 2.2 0.0 0.0 0 Equities Research Hillgrove Resources Ltd 1 Issued by Wilson HTM Ltd ABN 68 010 529 665 - Australian Financial Services Licence No 238375, a participant of ASX Group and should be read in conjunction with the disclosures and disclaimer in this report. Important disclosures regarding companies that are subject of this report and an explanation of recommendations can be found at the end of this document.
Kanmantoo performance ending 31 January 2012 NOV DEC JAN MoM January - Q4 Annualised Tonnes mined kt 1,053 991 1,112 12 3156 1,2624 Ore to long term stock piles kt 160 147 75-49 382 1,528 Ore to ROM kt 49 95 144 52 288 ROM grade Cu 0.68 0.58 0.72 24 0.67 Ore Milled kt 36.3 154.3 140.4-9 331 1,324 Milled grade Copper 0.46 0.63 0.60-5 0.60 Gold g/t 0.09 0.12 0.12 0 0.12 Silver g/t 2.16 2.16 2.35 9 2.24 Recovery Copper 55.5 69.1 84.2 22 74.0 Gold 74.7 62.7 65.0 4 65.0 Silver 37.4 52.1 50.3-3 49.7 Concentrate grade 329 2,143 2,302 7 1,591 Copper 28.2 31.4 31.1-1 31.0 Gold g/t 7.7 5.5 4.8-13 5.3 Silver g/t 80.9 84.2 74.8-11 79.4 Contained metal Copper t 93 673 715 6 1,481 5,924 Gold oz 81 378 357-6 816 3,264 Silver oz 856 5,802 5,536-5 12,194 48,776 Total concentrate sold Copper t 1,249 n/a 1,249 4,996 Gold oz 637 n/a 637 2,548 Silver oz 9118 n/a 9,118 36,472 Source: HGO Equities Research Hillgrove Resources Ltd 2
January Quarter report Key points Ramp up of operations at Kanmantoo are ongoing. Crushing performance in the month of January was adversely affected due to higher than expected maintenance. Crushing capacity when operational has achieved rates of 550tph, above the designed rate of 410tph. Oversized material remanent from blasting restricted crushing performance in January. Improvements to blasting over the coming months are expected to reduce this oversized blocky ore from limiting crushing performance going forward. Bottlenecks led to milling rates declining 9 in the month of January compared to December. We view this minor set back as a not uncommon part of the ramp up phase for any new operation. Importantly, annualised milling rates for January imply a throughput rate of 1.7mtpa. Milling rates in the month of February have improved further, implying an annualised rate of 2.4mtpa. The mill has previously operated at 2.7mtpa. Copper grades during January were 0.60 and compares to the reserve grade of 0.85. Milling of lower grade stockpiled oxide ore (0.35 Cu) is understood to have in part driven this lower than expected copper head grade. ROM copper graded 0.72 in January, up from 0.58 in December. We look for copper head grades to more closely approximate the ROM grade over coming months. Copper grades have been lower than what the initial resource block model had previously predicted. Offsetting this is a larger amount of ore tonnage compared to the resource model. We understand that the net effect is likely to be an overall increase in contained metal. In our opinion, the impact of potentially slightly lower copper grades and increased tonnage, could offer upside potential and support the case for an expansion to the plant to 3.5mtpa. Conservatively, we see this as at least supporting an extension to the current six year mine life. Increasing capacity to 3.5mtpa is likely to be economically compelling, however finding space for increased waste and tailings could prove problematical. Copper recoveries averaged 84.2 in the month of January, up from 69.1 in December. The resource update is expected at the end of March, with a reserve expected several months after. We expect overall resource tonnages to increase as well as an improvement in confidence from inferred to indicated. The contractor claim has been settled for $11m, below our forecast for $13m. Payment is understood to be paid in equal monthly instalments from April 2012. Drilling at Birdshead is set to commence at the end of March, with first results expected to follow at the end of June. Cash at 31 January 2012 was $22.5m with total debt of $40m. The cash balance includes $5m ring fenced to the Kanmantoo asset level. Available cash to HGO is $17.5m. Our cash balance forecast, excluding our assumption for part payment of the contractor claim was for $16.6m. We anticipate HGO to be cash flow positive by late March. Equities Research Hillgrove Resources Ltd 3
Available cash Total cash on hand was reported at $22.5m as of 31 January 2012, of which $5m is restricted to Hillgrove Copper (Asset level). Cash available to Hillgrove Resources (Parent level) is estimated at ~$17.5m. We understand that the majority of these funds are located at the parent level with the balance at the asset level. All revenue received from the sale of concentrate is restricted to Hillgrove Copper until satisfaction of the Bank Completion Test, we expect this to occur by the end of June 2012. Revenues from sales are used to pay for Kanmantoo operating costs, estimated at ~$9m per month, this is understood to include interest payments on $30m of debt. Short falls in funds at the Hillgrove Copper level are topped up by Hillgrove Resources. At this time, no funds can be transferred up to the parent level. We understand that exploration costs, interest on the $10m mezzanine facility as well as corporate office costs are paid from the balance of funds located at the parent level. These costs are estimated at ~$1.5-2m per month. We therefore estimate that funds available at the parent level are sufficient until the end of the calendar year. Funds will become available to the parent level once the bank completion test has been satisfied, expected at the end of June. Payment for the contractor claim is an obligation of Hillgrove Copper, which was the contracting party. First payment is expected in April. Equities Research Hillgrove Resources Ltd 4
Hillgrove Resources Ltd (HGO : $0.25) PRODUCTION Copper In Conc - (kt) 0 0 1.3 16.1 22.0 Gold In Conc - (koz) 0 0 0 10 11 Silver In Conc (koz) 0 0 10 198 226 C1 Cash Cost - (US$/lb) 0.00 0.00 4.79 1.83 1.23 PRICES Copper (US$/lb) 2.46 3.51 3.92 3.38 3.74 Gold (US$/oz spot) 994 1250 1591 1850 1967 Silver (US$/oz spot) 15.02 21.65 34.95 38.08 44.00 AUDUSD (USD) 0.82 0.93 1.03 0.98 0.94 INVESTMENT & VALUATION FUNDAMENTALS EPS Before Abs (c) -1.9-1.6-0.5 1.9 6.2 EPS Growth () N/A 16.7 71.3 519.6 219.2 PER (x) -12.8-15.3-53.3 12.7 4.0 CFPS (c) -1.0-4.9 0.5 5.5 11.3 P/CF (x) -24.0-5.1 54.4 4.5 2.2 EV/EBITDA (x) -7.8-4.1-33.9 3.9 1.0 DPS (c) 0.0 0.0 0.0 0.0 0.0 Yield () 0.0 0.0 0.0 0.0 0.0 Franking () 0 0 0 DCF VALUATION @ 11.1 10 Yr Ending Jan A$m A$ps A$m A$ps Kanmantoo 351.7 0.42 368.4 0.44 Corporate Items -29.9-0.04-31.2-0.04 Interests In Other Entities 3.7 0.00 3.7 0.00 Exploration/Development 84.7 0.10 84.7 0.10 Cash collateralised bond 0.0 0.00 0.0 0.00 Franking Credits 0.0 0.00 0.0 0.00 Hedge Book 0.7 0.00 0.8 0.00 Net (Debt)/Cash -17.2-0.02-17.2-0.02 Additional Capital - Dilution 6.1 0.01 6.3 0.01 Total Valuation 399.9 0.48 415.4 0.50 BALANCE SHEET ($m) Cash 130.4 118.2 22.8 51.1 119.4 Total Assets 211.1 254.4 301.4 323.9 368.4 Debt 2.5 0.0 40.0 37.5 17.5 Total Liabilities 47.3 68.8 109.7 115.3 108.4 Total Shareholders Equity 163.5 185.3 191.6 208.4 259.8 Total Funds Employed 35.9 67.4 208.9 194.9 158.0 LIQUIDITY & LEVERAGE RATIOS Debt / Equity () 1.5 0.0 20.9 18.0 6.7 Gearing () 1 1.5 0.0 17.3 15.2 6.3 Interest Cover (x) -0.8-17.9 3.2 9.4-169.1 Debt / CashFlow (x) -0.3 0.0 10.6 0.8 0.2 (Debt+CNotes)/ CashFlow -0.1 0.0-9.3 0.8 0.2 PROFIT & LOSS ($m) Sales Revenue 1.4 3.2 2.1 143.8 206.9 EBITDA -9.8-20.9-6.5 48.7 101.8 Depn and Amortisation 0.4 0.4 0.5 21.6 29.4 EBIT -10.2-21.3-7.0 27.1 72.4 Net Interest Expense 12.2 1.2-2.2 2.9-0.4 Pre-tax Profit -22.4-22.5-4.8 24.3 72.8 Tax -6.4-9.1-1.0 8.2 21.5 Tax rate () 28.5 40.6 20.4 33.7 29.5 Minorities / pref divs 0.0 0.0 0.0 0.0 0.0 Equity accounted NPAT 0.0 0.0 0.0 0.0 0.0 Net Profit -16.0-13.4-3.8 16.1 51.3 Abnormals 71.6 0.0 0.0 0.0 0.0 Reported Net Profit 55.6-13.4-3.8 16.1 51.3 CASHFLOW ($m) Operating Cash Flow -8.5-40.4 3.8 45.8 93.8 Capital Expenditure -7.2-44.2-133.2-10.3-5.6 Expln, Develop, Evaln -4.4-8.4-5.4-5.5 0.0 Asset Sales/Acquisitions 165.6 12.0 0.2 0.0 0.0 Other 0.0-0.6 0.0 0.0 0.0 Investing Cash Flow 154.0-41.1-138.4-15.8-5.6 PROFITABILITY RATIOS EBIT / Sales () -710.5-670.8-342.6 18.9 35.0 ROA () N/A -19.6-3.4 9.8 27.7 ROE () N/A -7.7-2.0 8.0 21.9 ROFE () N/A -41.2-5.1 13.4 41.0 INTERIMS ($m) Half Yr Jul 10 Jan 11 Jul 11 Jan 12 Jul 12 Yr Ending Jan 1H A 2H A 1H A 2H E 1H E Sales Revenue 1.4 1.7 1.6 0.5 52.3 EBIT -7.4-13.9-2.8-4.3-1.6 Net Profit -2.7-10.7 0.5-4.3-3.0 EPS -0.3-1.3 0.1-0.5-0.4 Share Issues/(Buybacks) 32.8 83.9 0.0 0.8 0.0 Debt Drawdown (Repay) -47.3-2.5 40.0-2.5-20.0 Dividends Paid -8.3 0.0 0.0 0.0 0.0 Other Fin. Flows 0.0-12.7-0.4 0.0 0.0 Financing Cash Flow -22.8 68.7 39.6-1.7-20.0 Cash Increase (Decrease) 122.7-12.8-95.1 28.4 68.2 EARNINGS SENSITIVITIES - CHANGE +/-10 US$ Copper Price 0.0 0.0 0.0 51.1 25.0 +/-10 US$ Gold Price 0.0 0.0 0.0 7.2 2.6 1. Gearing = (Debt + CNotes) / (Debt + Cnotes + Equity) Equities Research Hillgrove Resources Ltd 5
Recommendation Structure BUY: Total return +10 or more over a 12 month period HOLD: Total return expected to be between +10 to -10 over a 12-month period SELL: Total return expected to be -10 or more over a 12 month period TOTAL RETURN OR TSR = capital growth in share price + expected dividend yield in that period Other definitions CS Coverage Suspended. Wilson HTM Ltd has suspended coverage of this company. NR Not Rated. The recommendation has been suspended temporarily. Such suspension is in line with Wilson HTM Investment Group Ltd policies in circumstances where Wilson HTM Corporate Finance Ltd is acting in an advisory capacity in a merger or strategic transaction involving the company and in certain other situations. Disclaimer Whilst Wilson HTM Ltd believes the information contained in this communication is based on reliable information, no warranty is given as to its accuracy and persons relying on this information do so at their own risk. To the extent permitted by law Wilson HTM Ltd disclaims all liability to any person relying on the information contained in this communication in respect of any loss or damage (including consequential loss or damage) however caused, which may be suffered or arise directly or indirectly in respect of such information. Any projections contained in this communication are estimates only. Such projections are subject to market influences and contingent upon matters outside the control of Wilson HTM Ltd and therefore may not be realised in the future. The advice contained in this document is general advice. It has been prepared without taking account of any person s objectives, financial situation or needs and because of that, any person should, before acting on the advice, consider the appropriateness of the advice, having regard to the client s objectives, financial situation and needs. Those acting upon such information without first consulting one of Wilson HTM Ltd investment advisors do so entirely at their own risk. This report does not constitute an offer or invitation to purchase any securities and should not be relied upon in connection with any contract or commitment whatsoever. If the advice relates to the acquisition, or possible acquisition, of a particular financial product the client should obtain a Product Disclosure Statement relating to the product and consider the Statement before making any decision about whether to acquire the product. This communication is not to be disclosed in whole or part or used by any other party without Wilson HTM Ltd's prior written consent. Disclosure of Interest. Hillgrove Resources Ltd The Directors of Wilson HTM Ltd advise that at the date of this report they and their associates have relevant interests in Hillgrove Resources Ltd. They also advise that Wilson HTM Ltd and Wilson HTM Corporate Finance Ltd A.B.N. 65 057 547 323 and their associates have received and may receive commissions or fees from Hillgrove Resources Ltd in relation to advice or dealings in securities. Some or all of Wilson HTM Ltd authorised representatives may be remunerated wholly or partly by way of commission. In producing research reports, members of Wilson HTM Ltd Research may attend site visits and other meetings hosted by the issuers the subject of its research reports. In some instances the costs of such site visits or meetings may be met in part or in whole by the issuers concerned if Wilson HTM Ltd considers it is appropriate and reasonable in the specific circumstances relating to the site visit or meeting. Regulatory Disclosures Wilson HTM Corporate Finance Ltd acted as Joint Lead Manager and Underwriter for the placement announced by Hillgrove Resources Limited in October 2010 and earned fees for acting in this capacity. Wilson HTM Investment Group Ltd and its related bodies corporate trades or may trade as principal in the securities that are subject of the research report. Wilson HTM Corporate Finance Ltd has received compensation for corporate advisory services from this company, its subsidiaries or affiliates during the previous 12 months. BRISBANE SYDNEY MELBOURNE GOLD COAST Ph: 07 3212 1333 Ph: 02 8247 6600 Ph: 03 9640 3888 Ph: 07 5509 5500 Fax: 07 3212 1399 Fax: 02 8247 6601 Fax: 03 9640 3800 Fax: 07 5509 5599 DALBY HERVEY BAY Ph: 07 4660 8000 Ph: 07 4197 1600 Fax: 07 4660 4169 Fax: 07 4197 1699 Our web site: www.wilsonhtm.com.au Equities Research Hillgrove Resources Ltd 6