These are dark days for shareholders of Sirius Minerals (LSE: SXX). The shares are trading at lows not seen in years. The big question is whether this is a situation of “it’s always darkest before the dawn,” or whether investors will find themselves in a permanent polar night.
If the former, the stock could be a bargain. If the latter, investors would do well to steer clear, and shareholders to cut their losses. Here, I’ll look at what’s gone wrong for Sirius, and how I think the future could pan out.
Stage 1
The company did a remarkable job in gaining all the necessary consents to take forward the development of its planned polyhalite mine in North Yorkshire. The $1.2bn stage 1 financing it managed to put together in 2016 was also notable for its achievements.
The £370m new equity it raised was a record for an AIM-listed mining company, the $400m of convertible debt was an AIM record full stop, and the $250m royalty financing and $50m equity funding from Australian billionaire mining magnate Gina Rinehart was seen as a ringing endorsement of the project.
The funding was a little more generous to new investors than I’d envisaged, but not too bad. Particularly as the company intended to use project finance debt, and no further dilutive equity issues, in the stage 2 financing to see the mine through to production.
Mrs Rinehart bagged a nice deal for herself and her heirs in the stage 1 round. Namely, 5% of the revenues on the first 13 million tonnes per annum (Mtpa) for each calendar year and 1% for any volumes above 13 Mtpa. The royalty to run for “the life of the project or 70 years, whichever is longer,” and “secured over the assets of the project, with such security to be fully subordinated to the stage 2 financing senior debt security once established.”
Stage 2
Despite trying to secure stage 2 financing ever since completing stage 1, Sirius has had its proposals knocked back by prospective lenders. In the latest setback, the company couldn’t find takers for a $500m bond offering, which was necessary to trigger a deal for a $2.5bn revolving credit facility from JP Morgan.
It seems the stage 2 financing Sirius had envisaged has proved a bridge too far. Probably not helped by last year’s announcement of an increase of $400m-$600m in the estimate of capital costs for the project, taking the stage 2 funding requirement from $3bn to $3.4bn-$3.6bn.
Mine, all mine
Shortly after midday on Friday, Sirius announced another polyhalite supply agreement, taking future aggregate peak contracted volumes to 13.8 Mtpa. That the shares rallied only insipidly on this news is testament to the market’s near-single-minded focus on the crucial matter of financing.
It seems highly likely to me that any alternative funding of the project would be hugely dilutive to existing shareholders. Meanwhile, if no alternative can be found, Sirius would drift into insolvency, leaving Mrs Rinehart’s royalty unpayable but “secured over the assets of the project,” and bond holders also ranking ahead of equity holders.
With options for any would-be owner of the asset to more or less cut existing equity out of the equation, I’d put the outlook for Sirius’s shares as somewhere between very bad and dire. As such, I see this as a stock to avoid for investors, and even a poor bet for inveterate gamblers.