VALUE INVESTING
Lonmin & the Risks of Single-Product Mining

By Stephen Bland (TMFPyad)
February 16, 2001

Lonmin (LSE: LMI) is the present incarnation of the old Lonrho, a famous company incorporated in 1909 and which at one time had a wide spread of international activities. However, in recent years it has divested itself of all but its mining interests, and in consequence changed its name to Lonmin in 1999. Its mining interests are not diverse. They are almost wholly concentrated on one metal: platinum.

Anybody interested in this company can see a lot of information on its website, so in common with my usual approach I will not go into great detail here. Not necessarily because of the comprehensive website, but essentially because I never agree with overanalysing anyway: you do not as a value investor in my view need excessive amounts of data or have to go into the minutiae of how the company operates. It's counterproductive. A few basic facts, a quick idea of whether near-term forecasts look promising, a sniff to see which way the wind is blowing, how it smells, and that should be enough, in or out.

Here are the usual fundamentals:

• Share price 1046p
• High/low 52 weeks 1073/602
• High/low five years 1073/222
• Market cap £1.9bn
• Earnings per share year ended 30/09/00 83.1p normalised
• EPS lowest recent forecast year ending 30/09/01 101p
• EPS lowest recent forecast year ending 30/09/02 100p
• Price/Earnings ratio historical 12.6; on 01 forecast 10.4
• Yield historical 3.3%; 01 forecast 3.5%
• Price/Tangible Book 2.6
• Gearing -41% (i.e. net cash) at 30/09/00
• One year relative strength +50%
• Directors own 0.13%; other majors 46.7%

A particular feature of the earnings forecasts is the very wide range. For example recent figures in January and February 2001 from three analysts predict EPS for 2001 at 100, 162 and 101p respectively from the earliest to the latest. Similarly for 2002 the same analysts predict eps of 100, 120 and 165p. Note also that the verbal recommendations of these firms are Accumulate, Hold and Neutral. The latter in particular is a coded sell signal amongst pros, and Hold is not much better. Pretty encouraging for a value investor. I would rather have seen them all say Sell -- oh alright then, Neutral -- but would have been severely discouraged had they all said Buy, unless of course I had been in the shares and showing a nice profit in which case I would be dumping like crazy.

Quite a spread of forecasts, then, far larger than is likely to be seen with a business making widgets, as distinct from mining. The reason of course is that a mining company is dependent for its profit on the underlying price of that which it mines and commodity and metal prices are notoriously volatile, far more so than widgets will ever be.

Having said all that, even the lowest forecast is predicting for 2001 an EPS rise of over 21% on 2000. As for 2002, who knows? Forecasts are probably worthless in a commodity-based business like this and that view is supported by the wide range to which I refer above. All forecasting is chancy but even more so in single product mining.

And now we come to the risk profile. Lonmin is quite a large company, capitalised at £1.9b. A FTSE 250 share. So no tinpot fears. ("Tinpot" on the value board has developed the specific meaning of a company capitalised at under £100m.)

However it is a single metal miner, platinum. Okay it has a little gold but this is tiny. 93% of 2000 turnover was from platinum group metals and 7% from gold. Thus you can see the potential problem. It is locked, inextricably, into the platinum price. Now this has done it no harm recently but any serious fall in the price of the metal will almost certainly trash this share.

Single product mining shares are usually a geared play on their commodity price. This means that a given percentage price change in the product causes a disproportionate share price change. Nice if you catch it on the rise, disastrous the other way.

The really big mining companies like Rio Tinto (LSE: RIO) handle a wide range of metals and often other minerals too although Rio was traditionally linked to some extent to the price of copper. But generally they are far less vulnerable to the movement of one particular commodity price than a single product miner. The prices of metals and other mined products like oil or coal do not move in step. In the commodity markets, metals are divided between precious and base. But  even precious metals do not move together. This can be seen for example with gold that has been more or less static for years, whilst platinum has risen.

So any investor contemplating Lonmin, and it looks quite good to me, has to be aware of the risks of a single product miner.

Finally there is some encouraging directorspeak as recently as 15 February 2001 from chairman Sir John Craven. Here is one point:

"Against a background of continuing robust PGM (i.e. platinum group metals) prices the current financial year has started well. We are confident of Lonmin's future."

Note though his comment in the same announcement, similar to my warning above, regarding the 2000 results:

"We are conscious of course that the results have benefited from the sharp and so far sustained increase in the prices of these metals."

Investors can be certain that if these PGM prices fall, Lonmin will follow suit. But for the moment it looks quite attractive to me. Anyone going in though must remain nimble -- this share must be monitored for any cracking of the metal price -- but I smell a little mileage before that will happen.

Where Next?

Value Shares discussion board
Lonmin discussion board