Questor share tip: International Ferro Metals steeled for profitable future

International Ferro Metals
18p -½
Questor says HOLD

International Ferro Metals (IFL) is a South African producer of ferrochrome, which is used in the production of stainless steel. Its results have been hit by strength of the rand compared with the dollar and rising energy prices.

Contract prices were also reduced recently, in line with other commodity prices. The ferrochrome price for the third quarter of this year was set on 11 July and was reduced by 15 cents to $1.20 per pound.

"This reduction reflected the trend of global spot prices being under pressure in the lead up to the price settlement," IFL said. Prices are expected to move higher in the fourth quarter.

However, the longer term pricing environment for ferrochrome is solid and demand is expected to rise significantly over the next few years.

Although the group is expected to be loss making in the current year, it is expected to return to profitability next year. Profits are expected to rise sharply in 2013 – so much so that the current earnings multiple for that year is just over three times.

The company's output was also lower, but this was down to upgrade work on the group's furnace – which has been timed to coincide with seasonal weakness in the market. Smelting is planned to restart next month, with full production from the middle of October as the second furnace returns to service.

Production was down by 17pc from the equivalent period of last year to 42,584 tonnes. Sales were down 37pc to 34,735 tonnes. This fall was expected by the market.

"Industry experts are forecasting a record year for stainless steel production in 2011 and again in 2012, however the third quarter is traditionally weak and we have seen this in lower benchmark prices and reduced output of ferrochrome from the South African producers," David Kovarsky, chief executive, said.

The company's net debt was ZAR248m (£22m) at the end of June.

This year, IFL expects stainless steel production to hit a record, which means destocking cannot last – and the company's new mines should bring its production lower down the cost curve.

Its new Sky Chrome project should be a significant contributor to falling costs. Open pit mining operations at the project started in June, with 7,000 tonnes of ore mined last month. This is being stockpiled for delivery to the group's plant, starting from next week.

Sky Chrome is a substantial deposit with 12m tonnes of open pit recoverable reserves. The open pit mining costs are significantly below those at its Lesedi underground mine.

The shares are trading on a June 2012 earnings multiple of 35.9 based on current forecasts, falling to just 3.1 times in 2012. The shares were first tipped at 56½p on August 8, 2009 and are down almost 70pc.

Analysts have a very wide range of price targets for the group, with Bloomberg quoting price objectives ranging from 25p to 84p. As analysts from Collins Stewart's mining team put it yesterday, "This company presents a great opportunity for longer term investors to take a counter cycle position at heavily discounted levels."

However, Questor says hold until we receive the next update – despite believing that the shares are significantly undervalued.