November 5, 2012
What we saw -CMK is ready to go at New Elk
Cline has 5 mining faces open at New Elk and the UG development is fully maintained. We believe that production could start almost immediately upon the announcement of coal sales and would ramp up progressively with manpower rehires planned in stages over a 4 month period. CMK believes itwon't be difficult to get workers back onsite with the unemployment issues in that part of the country. We believe this is realistic.
Lack of coal sales -A perfect storm
On the New Elk site visit we were given Cline's explanation for the company's lack of coal sales to date. The reasons were three fold and constituted a "perfect storm". 1) Early confidence in a spot-based pricing attitude hurt the company when the spot market dried up. 2) Initially over-promising on production and not delivering led to issues regarding New Elk's reliability of supply. 3) CMK's original price point for their coal was unrealistic. Regarding future sales, the company is working on securing offtake long term. We believe that the company has had some formal offers close to their cost of production (which is about $110-120 per tonne), and are still in negotiations, but they may need the coal market to continue its rebound in order to make further progress. CMK estimates that that long term benchmark hard coking prices will be roughly $170 per tonne. Given the 20% discount we have assumed, we believe that the company would accept a ~$130 per tonne for the New Elk product.
New COO Dave Stone working off first principals
As the past head of Xstrata's worldwide UG coal operations, Dave Stone(Cline's new COO and manager of New Elk) is an ideal person to run the New Elk mine. Mr. Stone is bent on delivering on what he says and we believe he intends to make sure Cline delivers on their promises going forward. He has completely redesigned the mine plan based on first principals and we believe the new plan is a significant improvement over the old one. He does not cut corners. The new mine plan has New Elk producing at a rate of 3mm tpa within three years and then, with the implementation of longwall mining, ramping up to a 6mm tpa rate in year 6. We are not updating our forecasts until we see some coal sales as mine production is now based on sales volume.
Bottom line -Site visit was encouraging, but no sales yet
Our takeaways from the New Elk site visit were all positive. We believe that CMK has put a very good team in place to run the mine. New Elk is ready for production once coal sales are secured and a solid ramp-up plan is in place to ensure production targets can be met consistently. We continue to view the New Elk Mine as an attractive long life asset but we have a NEUTRAL rating on the stock given the continued lack of coal sales and the company's working capital position. We are maintaining our target price of C$0.50 per share based on a 0.50x multiple to our NAV of $1.01 per share. Our target priceand NAV also reflect our recently lowered met coal pricing assumptions. Dundee's new benchmark metallurgical coal price forecast can be found in our October 15th publication on CMK titled "Cline in Survival Mode".