Saturday, June 18, 2011

Nautilus Minerals revisited

Nautilus Minerals is the first company to commercially explore the ocean floor for copper, gold, silver and zinc deposits. It holds tenement licences and exploration applications in various locations in the western Pacific Ocean and is establishing a pipeline of prospects for development.

On July 14, 2010 I published an article about Nautilus Minerals (TSX/AIM: NUS), an exploration stage company. Since then it has become the most accessed article in my blog. I continue to hold a small position in Nautilus Minerals and have been following their progress in Solwara 1 project. I decided to write an update to the article since there has been significant progress in the pioneering project.

Picture 1. A black smoker of a seafloor massive sulphide system. Copyright © Nautilus Minerals. Used with permission.

Based on information in the company news releases (latest released 14th of June at the time of writing) Solwara 1 project looks to be progressing nicely. However, the project is not yet sanctioned. If that would occur in the first half of 2011, then it is expected that production may commence on site at the Solwara 1 Project in the last quarter 2013.

Joint ventures established for mining and for production support vessel

Picture 2. Ownership of Nautilus Minerals and joint ventures established for Solwara 1 project.

Nautilus Minerals has formed a strategic partnership with German shipping company Harren & Partner. A joint venture (“Vessel JV”) will be formed to own and to operate a production support vessel for Solwara 1. Nautilus Minerals needs to pay 32 million euros for their share in vessel JV. Harren and Petromin will cover the rest. The production support vessel will cost 127 million euros.

Picture 3. 3D model of production support vessel. Copyright © Nautilus Minerals. Used with permission.

The Government of Papua New Guinea has exercised its option for 30% stake in Nautilus Minerals Solwara 1 project (“Mining JV”). The government’s share of the JV will be held in Petromin PNG Holdings Ltd (“Petromin”). A payment between 20 and 25 million U.S dollars (USD) will be made by August 2011 pending an audit. The payment covers development and exploration costs until the date of grant of the mining lease (Jan 2011). From January 2011 onwards, Petromin will contribute funds to the project in proportion to its interest. The Government of Papua New Guinea also took 5% position in the holding company for vessel JV and has made an initial deposit of 1.8 million USD for it.

Mining equipment

The key components of the envisioned seafloor mineral production system are seafloor production tools, riser and lifting system and production support vessel. Seafloor Production Tools and Riser and Lifting System are scheduled for delivery in early 2013 and will be wholly owned by the Mining JV.

Picture 4. Seafloor production system. Copyright © Nautilus Minerals. Used with permission.

Permits for Solwara 1
• Environmental permit was granted already in 2009
• Mining Lease granted on January 2011 for 20 years.

Mineral Resources and Production estimate

43-101 Resource Estimate for Solwara 1 is still 870 kt Indicated (6.8% Cu, 4.8 g/t Au, 23 g/t Ag and 0.4% Zn) and 1300 kt Inferred (7.5% Cu, 7.2 g/t Au, 37 g/t Ag and 0.8% Zn) [1]. Anticipated daily production rate remains at an average of 3710 tonnes (1.3 Mtpa) excluding site initiation and shutdown. This should translate to annual production of 80kt of copper and 150,000 oz of gold. However, at this rate the Solwara 1 deposit won’t last very long (about two years). The beauty in the underwater mining is that the equipment can be easily relocated elsewhere. The company has not stated which deposit would be next in line for mining. The company does have a lot of promising prospects besides Solwara 1 but only Solwara 1 has an officieal 43-101 Resource Estimate at this point. Given the high daily cost for production support vessel and crew contracted for 8 years at $80.000/day, they need to have more deposits to leverage after Solwara 1 is exhausted.

Cost estimates

Total capital cost for Solwara 1 project excluding capital costs of the vessel JV (production support vessel) is now estimated to be 407 million USD according to recent information from the company. The earlier estimate [1] was 383 million USD including 17.5% contingency as well as ore transport barges. Due to changes in ownership, Nautilus Minerals is no longer the only one providing capital to Solwara 1 project.

Nautilus has decided to charter rather than purchase the barges. This increases operating costs. I calculated that operating cost per tonne would increased by 11.2% [the company has not stated this directly!]. Previous info was 70 USD per tonne (including 10% contingency) so my own estimate based on information available is now 78 USD per tonne.

Financial status

At the end of Q1 2011 the company had 139 million USD in cash and cash equivalents. The company stated that this would be sufficient for the next 12 months. On May 24, 2011 Nautilus Minerals Launches Marketed Public Offering to gather about C$150 million, but later (June 10) withdrew the proposed capital raising claiming “weak financial market conditions”.

Given that the company needs to invest still roughly 300 million USD before Solwara 1 is up and running, they will need more cash from somewhere. Looking at the cash balance and expected money inflow and outflow, my guestimate is that they need 210 million USD at minimum by end of 2013. They have committed to certain amount of exploration, they are spending approximately 12 million a year for G&A and so on. These expenses they need to cover on top of any Solwara 1 capital expenses.

At June 14th Nautilus Minerals reported to have 155,6 million common shares and 9,3 million options outstanding (average exercise price for the options being C$2.67). If they would issue shares (let’s say at around C$2.4 a share) to cover the over $200 million gap in financing they need to issue around 90 million shares more. That’s a lot. Whether they will get the money by issuing more shares or lend it, there will be more people and organisations tapping into the future profits.

Economics of Solwara 1

My assumptions:

• Out of estimated indicated mineral deposits 90% are there and can be extracted

• Out of estimated inferred mineral deposits 60% are there and can be extracted

• Yield recovery (from extracted ore taking into assumption supposedly all costs from royalties to PNG, processing, smelting and so on) as stated in the feasibility study [1]: 70% for copper, 59% for gold, 57% for silver and assuming 60% for zinc (no info found).

• Metals prices: Cu $9000/t, Au $1500/oz, Ag $35/oz, Zn $2200/t

• Metals sold at above prices

Using the above assumptions the indicated resources could be valued at 458 million USD and inferred resources at 555 million USD. Thus the total revenue for the project could be 1013 million USD. I say “could” because it is quite unlikely that all the assumptions will hold. For example, the company could enter into a streaming agreement in which they will get a specific sum of money upfront in the exchange of specific metal they will extract. Typically the money that can be got upfront is only a small fraction of what is calculated above. Companies that need capital in order to ramp up operations enter this type of agreements quite often.

Whatever the revenue from Solwara 1 will be, it looks like the most valuable asset there is copper (69% of calculated project value). Gold comes second with 26% of calculated project value. The rest (5%) is then divided between Silver and Zinc.

Given my estimate of 78 USD per tonne for operational costs and 2170 kt (thousand metric tonnes) of ore to extract, they will spend 169 million USD extracting the ore. That leaves 844 million USD for operational profit from Solwara 1. 70% of this, 591 million USD would go to Nautilus. Given all the operational costs and capital costs, it seems quite unlikely that shareholders will see any profit from Solwara 1 (in form of dividends). However, Solwara 1 is a stepping stone into a whole new industry.

If Nautilus Minerals is successful in Solwara 1, there should be plenty of money to be made in the areas the company has claimed. Nautilus Minerals has grants or applications in place for tenements covering approximately 600,000 km2 of prospective territory. The more projects they have after Solwara 1 the more profitable they will be (Solwara 1 pretty much covers all the needed investments for production system). If they fail with Solwara 1 for one reason or another, all bets are off. Being a shareholder, I naturally believe that they have a decent chance of pulling it off.

Note that Nautilus Minerals is a very high risk investment and like with any investment, you might end up losing a lot of money. The author holds shares of Nautilus Minerals (at the time of writing) and is willing to take the risk of potentially losing all of the capital involved. Please read the disclaimer in the rightmost column of the blog.

Source material:

Company news releases for 2011
• [1] Offshore Production System Definition and Cost Study