First Quantum’s growth plans worry analysts as copper demand drops

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Bondholders are concerned that First Quantum Minerals Ltd.'s ambitious growth plans may not line up with global copper demand.

Yields on the company's bonds have surged 5.5 percentage points in the past three months to 13.5 per cent, according to Bank of America Merrill Lynch index of junk-rated mining companies. That's triggered losses of 17.8 per cent for investors in the debt during the same period, the index data show. The company's $4.57-billion [$3.47-billion (U.S.)] of U.S. dollar-denominated senior unsecured bonds compare with a stock-market capitalization that has declined to $4.79-billion

First Quantum is planning $1.4-billion of capital expenditures this year on its far-flung projects from Africa to South America, even as the price of copper has tumbled on reduced demand from China, the world's biggest metals consumer. The company is also likely to see production drop at its Zambia mines as one of the worst droughts on record creates a shortage of hydroelectric power.

"The large capex program is weighing on the rating and the prospect of seeing negative cash flow for the next couple of years," said Tommy Trask, a London-based mining analyst at Standard & Poor's, which cut First Quantum to a B rating in March with a "negative" outlook. "The cash flow from existing operations will be much lower than we had anticipated a year or two ago."

David Dunkerley, treasurer for the Vancouver-based company, declined to comment.

First Quantum's bonds are trading in line with other Canadian mining companies, which have been hit by copper falling more than 16 per cent this year and 50 per cent from its high in February, 2011. The metal was trading early Monday at $5,276 (U.S.) a tonne. The current yield on the Bank of America Merrill Lynch U.S. High-Yield Metals & Mining Index is about 13.3 per cent.

The company's planned spending, which includes $600-million allocated for its $6.4-billion Cobre Panama copper site in that Central American country, follows a $2.6-billion investment in 2014 and bucks the industry trend. Other miners have been pulling back on major projects and shareholder distributions to preserve capital in the weaker commodity price environment, Mr. Trask said.

"The share price is underpinned by future earnings from these projects, so probably there's some reluctance in abandoning or delaying the projects," he said.

First Quantum issued $1.4-billion of equity in the second quarter, which indicates shareholders were still supportive of the company at the time, Mr. Trask said. Its shares have declined by about 60 per cent this year, closing Monday at $6.30.

The company renegotiated covenants earlier this year and will probably stay within the terms of its bank loans for 2015, Mr. Trask said.

To be sure, First Quantum's bond yields have fallen from mid-August highs of around 15 per cent. Money manager Kevin McSweeney of CI Investments Inc., which owns bonds and equity in First Quantum, said the debt is looking oversold.

At current prices "the conversation shifts from 'Are things getting better right now?' to 'Can they pay me back?'" Mr. McSweeney wrote in an e-mail. "Even if the answer to the first question is no, I think more people in the market are getting comfortable that the answer to the second one is still yes."

He also noted First Quantum still has "levers they can pull," including reducing capital expenditures and monetizing assets, which should give investors confidence the company is focused on liquidity.

Still, the bond market is making it clear it has concerns about the future, according to Richard Bourke, a credit analyst with Bloomberg Intelligence.

"Any time the spread is over 1,000 basis points, the bond is considered distressed," Mr. Bourke said in a phone interview. "It shows investors are concerned about their prospects going forward, and particularly about cash needs going forward. They're in the midst of a big capex build and it doesn't look like they're planning on cutting it back."