Baker Steel Resources Trust — Futura Resources financing is a major milestone

Baker Steel Resources Trust (LSE: BSRT)

Last close As at 18/05/2024

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−1.00 (−1.79%)

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Research: Investment Companies

Baker Steel Resources Trust — Futura Resources financing is a major milestone

Baker Steel Resources Trust (BSRT) announced that Futura Resources (its second-largest holding, making up 25.3% of end-August 2023 NAV) closed a c A$26.2m funding round (A$21.2m convertible note and A$5m in-kind commitments from contractors and suppliers). This should fully fund the advancement of the Wilton coking coal mine to production. We see it as a major milestone and possibly also a considerable trigger for BSRT’s year-end NAV uplift. We note Futura’s high royalty and dividend income potential once in full production, possibly at a high single- to low double-digit yield on BSRT’s share price at its current c 47% discount to NAV.

Milosz Papst

Written by

Milosz Papst

Director, Financials

Businessman talking about investment stock market and graph from computer laptop with broker trader, giving money plan management and analysis

Investment Companies

Baker Steel Resources Trust

Futura Resources financing is a major milestone

Investment trusts
Metals and mining

20 September 2023

Price

35.0p

Market cap

£37.3m

NAV

£70.4m

NAV*

66.1p

*At end-August 2023.

Discount to NAV

47.0%

Yield

0.0%

Shares in issue*

107.2m

*Including 700k treasury shares.

Code/ISIN

BSRT/GG00B6686L20

Primary exchange

LSE

AIC sector

Commodities & Natural Resources

52-week high/low

60.5p

33.5p

83.9p

66.1p

Gearing

Cash and accruals at 31 August

1.6%

Fund objective

Baker Steel Resources Trust (BSRT) is a closed-ended investment company aiming to achieve long-term capital growth through investing in equity, loans and related instruments issued by private natural resources companies. It targets a global, concentrated portfolio of 15–20 investments. BSRT’s objective is to create value through driving the development of investee companies, as well as exploiting market inefficiencies and pricing anomalies.

Bull points

Exposed to project development gains – not a simple beta play on commodity prices.

Downside protection is provided by BSRT’s focus on realising value from project development, valuations based on consensus forecasts for commodity prices and the use of convertible debt (currently only in the case of Cemos).

Maturing portfolio, with several projects approaching mine construction or production.

Bear points

The tough funding environment may delay project progress and/or result in fund-raising at depressed valuations.

Risk of cost overruns due to the inflationary environment.

Some projects are located in high-risk mining jurisdictions.

Analyst

Milosz Papst

+44 (0) 20 3077 5700

Baker Steel Resources Trust is a research client of Edison Investment Research Limited

Baker Steel Resources Trust (BSRT) announced that Futura Resources (its second-largest holding, making up 25.3% of end-August 2023 NAV) closed a c A$26.2m funding round (A$21.2m convertible note and A$5m in-kind commitments from contractors and suppliers). This should fully fund the advancement of the Wilton coking coal mine to production. We see it as a major milestone and possibly also a considerable trigger for BSRT’s year-end NAV uplift. We note Futura’s high royalty and dividend income potential once in full production, possibly at a high single- to low double-digit yield on BSRT’s share price at its current c 47% discount to NAV.

Base case scenario for unlevered Futura Resources cash flows (real terms)

Source: Baker Steel Resources Trust

BSRT investing A$4.7m in the convertible notes

The unsecured convertible note issued by Futura has a tenure of three years and a coupon rate of 21% (paid every six months in arrears, with the first payment after 12 months). While this rate may seem high in absolute terms, BSRT highlights that it reflects recent precedents for the cost of financing for coal development companies in Australia. BSRT committed to invest its approximate pro rata interest of A$4.7m (£2.4m) into the convertible notes, with A$0.7m satisfied by rolling its existing bridging loan and the remaining A$4.0m representing new funding.

Production start within three months of funding

Futura (which owns the Wilton and Fairhill coking coal mines) has access to the nearby Gregory Crinum site for its coal processing and associated handling infrastructure (secured by 15-year binding agreements), and to the existing local port and rail infrastructure. Given this and the open-pit nature of its operations, both projects can be brought into production quickly, within three months of securing funding (with a production rate of 1m tonnes pa possible within approximately six months). Wilton should therefore be in or close to production at the time of BSRT’s year-end portfolio valuation review. BSRT expects that Fairhill can be advanced to production based on cash generated by the Wilton mine within c 24 months. However, Futura may accelerate it by a new fund-raising (most likely debt) once Wilton delivers on the expectations in terms of output quality. BSRT highlighted that A$50m is required to bring both Wilton and Futura to production (A$25m for each), and Futura left the convertible offer open for a short period to allow for potential further subscriptions, which could bring the total offer to up to A$30m.

Re-rating potential on start of Wilton production

The pre-conversion equity valuation implied by the deal is A$100m, translating into a conversion price of A$2.38 per Futura share. Noteholders have the right to convert the notes at any time and, in the case of an IPO, would have the right to convert their notes at the lower of A$2.38 or a 20% discount to the IPO price. We note that BSRT will carry out a valuation update of its investment in Futura during the year-end valuation review at end-December 2023, which will provide more clarity on the valuation impact of the deal on BSRT’s portfolio.

That said, we see some indication that the project may have considerable re-rating potential versus the current fair value reflected in BSRT’s NAV. Firstly, the A$2.38 per share valuation implied by the convertible note transaction is more than twice the A$1.14 per share valuation of Futura Resources that BSRT used to arrive at the value of its c 27% stake at end-August 2023 of c A$13m (or c £6.6m). Secondly, at the base case forecasts (see below for details), the conversion price implies a 1.5x EV/EBITDA ratio versus the valuations of comparable listed coal companies at 2.5–3.0x forward EBITDA at present, according to BSRT. Finally, BSRT notes that an 85% stake in the neighbouring Ensham coal mine was acquired by Thungela in 2023 for c A$340m (plus royalties), ie at a price per annual tonne of saleable product that would imply a A$270m valuation for Futura (on full production ramp-up).

For illustrative purpose, we estimate that if BSRT’s equity stake was valued at A$2.38/share, this would translate into a £7.2m (or 10%) uplift to BSRT’s total NAV at end-August 2023 (or c 19% of the current market cap, given the c 47% discount to NAV at which BSRT’s shares are now trading). This does not account for a potential revaluation of BSRT’s 1.5% gross revenue royalty (eg as a result of a reduction in the currently applied discount due to project execution risk). The fair value of BSRT’s total investment in Futura at end-August 2023 (including the royalty and bridging loan) was c £17.8m.

Healthy margin based on forward price expectations

Futura’s management forecasts that Wilton and Fairhill will produce around 2m tonnes of saleable product per year (after washing and processing) on full production ramp-up in 2025 (with potential to increase production further, subject to additional licences and available processing capacity). Forward price expectations used by Futura’s management to forecast EBITDA and cash flow assume a hard coking coal price of US$230/tonne in 2024 (broadly in line with the current spot price), which then gradually falls to the long-term expected price of US$185/tonne by 2027. In its resources and energy quarterly report in June 2023, the Office of the Chief Economist of the Australian government indicated that prices for Australian metallurgical coal are forecast to decline to around US$200/tonne by 2025 and that it considers the risks around this assumption to be balanced. In this context, it is also worth noting the sustained strong iron ore prices, which may be an indication of continued solid demand for steel (which would also assist coking coal prices).

The forward price expectations compare with Futura’s all-in sustainable cost of c US$80/tonne, with BSRT management highlighting that this represents a second quartile cash cost, benefiting from low strip ratios. Based on the above, Futura’s management expects EBITDA of c A$92m in 2025 (see chart on front page). Based on a 10% discount rate, Futura’s NPV stands at A$339m over the 20 years of planned production based on forward price expectations, or A$642m at current prices. BSRT highlighted that the overall extensive mineral reserve could sustain a mine life well beyond the currently planned term.

A successful production and sales ramp-up of both Futura projects would likely translate into solid dividend and royalty income for BSRT. Assuming a coking coal price in line with the long-term assumption of US$185/tonne and 2m tonnes annual production volume, the royalty would generate c £4.5m of pre-tax income per year. That said, this does not account for any potential price discounts included in any offtake agreements or for other reasons, such as impurities. BSRT’s management indicates a more cautious A$4m annual income potential (ie c £2m pa) based on forward curve prices, which would represent a significant 2.8% and 5.4% yield on BSRT’s end-August 2023 NAV and current market capitalisation, respectively. On top of this, BSRT may receive sizeable dividends from its equity stake (which we believe could be of a similar order of magnitude to the royalty income or even higher) and will also receive the 21% pa coupon on its convertible note holdings (resulting in interest income of c A$1m or £0.5m pa). Together with the potential future royalty income from BSRT’s two other projects, Polar Acquisition and Bilboes Gold, estimated by BSRT’s management at c US$1–2m pa and US$1–2.5 pa, respectively, as well as dividends from other holdings (eg Cemos), this could form a very solid income base for BSRT’s shareholders in the medium to long term.

General disclaimer and copyright

This report has been commissioned by Baker Steel Resources Trust and prepared and issued by Edison, in consideration of a fee payable by Baker Steel Resources Trust. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

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No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2023 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

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United Kingdom

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This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

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London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

General disclaimer and copyright

This report has been commissioned by Baker Steel Resources Trust and prepared and issued by Edison, in consideration of a fee payable by Baker Steel Resources Trust. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2023 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

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