Description

Investment summary
*world's only public pure play to lead and supply/demand story one of most compelling among base metals.

*lowest cost producer operating at 1/2 the cost of mkt average (15c vs. 30c).

*now producing, so no longer an e&p/execution risk story (132m lbs in 05 and 220m lbs in 06 on 2.2b lbs of reserves--1.6b proven, 0.6b probable).

*management is adamant that once free cash flow positive will return capital to shareholders through dividends and buybacks and currently in net cash position (based on co guidance ~$20m of free cash flow in 2h05 on current LME pricing and ~$45m in 06 on $163m enterprise value).

*cheap valuation trading at 12% 05 free cash flow yield, 27% 06 free cash flow yield and 10c/lb on an enterprise value/proven reserves basis vs. the LME at 44c. What's more, co has an NAV (8% disc rate) of $2.23 w/40c LME and $1.78 w/30c LME, so even lead supply/demand turns out to be worse than expected and pricing falls by as much as 30%, the implied valuation is still a premium to current stock price.

Overview/description
Ivernia (IVW_CN) is the world's only pure play lead producer. Other producers simply mine lead as a by-product of zinc--and to a lesser extent silver--operations (e.g., BHP, ZFX.AU, TEK/B.CN). What is interesting is that the ratio of lead to zinc in the world's largest mines has increased from 1:3 in '80, to 1:6 in '03 to 1:8 in '04 (and going to 1:9 in '05 w/red dog lead production declining from 125k tons to 105k tons) as new zinc mines have had lower lead content. Furthermore, there has been no investment in new mines since the '80s. As such, supply has actually declined over the past 20 years. That said, since identifying lead's toxicity in the 80s there has been a falloff in demand as well as primary uses were in consumer applications i.e., paint and gas. What has changed subsequently is that now 78% of end-use is driven by the lead-acid battery market (85% replacement 15% original equipment). Accordingly, over the past 10 years consumption has been increasing driven by demand for car batteries and powergen in developing economies. The result of higher demand w/no investment in new mines, and lower lead content zinc mines, has been a global deficit followed by a rapid depletion of inventories and a corresponding rise in lead prices (+90% over the past 15 months). Ivernia has not been on radar screens thus far as the co has been an exploration play. But now the co is actually producing lead in its Magellan mine so the e&p risk is not there anymore; rather it just presents further upside should the co find additional lead rich deposits on its licensed properties. Specifically, the co is guiding to 60k tons (132m lbs) of production in 05 ramping up to 100k tons (220m lbs) in 06. Yes the Magellan mine adds ~2% of supply to the market BUT the Doe Run mine (currently the second largest producer at 230k tons/506m lbs or ~5% of supply) is coming offline within the next 4 yrs, while demand is forecasted to grow at ~3%, so supply/demand is actually tightening through the end of the decade. Finally worth noting that Ivernia is also the lowest cost producer with an average cash cost of 20c/lb vs. the industry average at 30c/lb. The low cost advantage derives from less transportation expenses since there is no shipping between the mine and the refinery (i.e., they are contiguous), all energy/power needs are contracted in US$ (and hedged so energy spikes do not impact earnings), and labor is non-union with no underfunded legacy liabilities (pension or opeb). Furthermore, since Ivernia has the purest form of lead in their mines, their concentrate commands a 5c/lb price premium over the LME, so in fact their true cost is 15c/lb or half the mkt avg. Given the aforementioned production and cost profile the valuation is very compelling on cash flow and asset bases with a 27% 06 free cash flow yield (assuming current LME pricing) and 10c/lb on an enterprise value/proven reserves basis (7c/lb enterprise value/proven + probable reserves). Finally, co has an NAV (8% disc rate) of $2.23 w/40c LME and $1.78 w/30c LME (so even if I am wrong about lead supply/demand and pricing falls by as much as 30%, implied valuation still a 6%+ premium to current stock price).

Quick Numbers
Shares Outstanding/Market Cap: 122m @ C$1.70/US$1.30 translates to US equity value of $166.3m
Debt: US$3.3m
Cash: US$6.9m
OBS Debt: none and no under-funded pension or opeb liabilities
Enterprise Value: $162.7m
2005E CapX: $1.9m
2005E Depr: $3.4m

2005E EBITDA at current LME of 44c: $24m
2005E EPS at current LME of 44c: 16c
2006E EBITDA at current LME of 44c: $65m
2006E EPS at current LME of 44c: 43c

2005E Enterprise Value/EBITDA: 7x
2005E P/E: 8x
2006E Enterprise Value/EBITDA: 2.5x
2006E P/E: 3x

Pricing Sensitivities
2006E EBITDA, EBITDA margin, Free Cash Flow (i.e., Operating Cash Flow Less Capx) and Free Cash Flow Yields at Different LME Prices (vs. current price of 44c/lb)

30c LME (32% discount to current price): $33m of ebitda, 43% ebitda margin, $20m of free cash flow and 12% free cash flow yield

35c LME (20% discount to current price): $44m of ebitda, 50% ebitda margin, $28m of free cash flow and 17% free cash flow yield

40c LME (9% discount to current price): $55m of ebitda, 55% ebitda margin, $37m of free cash flow and 22% free cash flow yield

45c LME (2% premium to current price): $65m of ebitda, 59% ebitda margin, $45m of free cash flow and 28% free cash flow yield

50c LME (14% premium to current price): $76m of ebitda, 63% ebitda margin, $53m of free cash flow and 33% free cash flow yield

Upside and Valuation
Applying current forward multiples/yields on the 06 guidance of 100k tons of production delivers a price 2-3.5x the US$1.30 close depending on our lead price assumptions. As per sensitivities above, even assuming lead declines by 20% we still see a stock price in excess of US$2.55/share on current multiples. Assuming lead stays in the 40c range as it has all year despite greater volatility among other base metals (e.g., aluminum, copper), we see a stock price above US$3 on current multiples. And If we believe the tightening supply/demand story and lead moves up to 50c (14% premium) current multiples would suggest a US$4.30 stock price.

Lead Market Supply/Demand Summary
Supply demand situation very attractive. Over the past 10 years lead demand has grown by almost exactly 3% despite economic cycles while at the same time supply has been declining with a lack of investment in new mines and lower lead/zinc ratios in zinc mines (again was 1:3 in '80, 1:6 in '03, 1:8 today and going to 1:9 w/red dog lead production declining from 125k tons to 105k tons by year end '05). Ivernia's Magellan mine which will be at maximum capacity in 06 has 100k tons of output (~2% global supply). This is the only new project in the next two years. There are two others announced both for 08, but neither of which has secured financing: (1) san crystobal mine at 55k tons (~1% supply); and (2) the herald resources mine in indonesia at 65k tons (~1.5% supply, but area just devastated by another earthquake so unlikely gets done). What's more is the Doe Run mine (currently the second largest mine in the world at 230k tons or ~5% of supply) is slowly coming offline within the next 4 years, so even assuming all planned supply gets financing and comes on time, supply will decline within the next 4 years as demand likely continues to grow at 3% (as a reminder demand is driven 78% for lead acid batteries for cars and batteries in powergen with 85% going to replacement/aftermarket and only 15% to OE) Lastly worth noting that substitution is not a problem as nickel based batteries for like output currently run at $6 vs. LME at 44c (had this confirmed w/diligence checks with the two largest global car battery manufactures).

Sentient Buyout
On april 29th Ivernia closed on its acquisition of the balance 49% ownership stake in the Magellan mine from their partner, sentient global resources (private equity firm that provided seed funding). At first the transaction was negatively received by the street since the company issued equity to finance the deal (also timing commensurate with broader commodity stock sell off on macro anxieties). But closer examination reveals that the acquisition was favorable for the company. First, if Ivernia didn't issue equity (which has upside to Sentient), they would have had to pay more cash for the takeout--and worth highlighting that the deal structure literally doubled Ivernia's asset base with only ~70% increase in shares outstanding. Second, equity was more favorable than debt since project/debt financing would have required them to hedge their lead production on the LME to get creditor comfort, and given management's bullish view to supply/demand they saw such as taking away their upside. Third, Sentient agreed to fully fund all transaction fees. Finally, the deal was accretive on production and reserves bases. At US$1.60 when the deal was announced, transaction took 06 production/share from 1.59 to 1.80 lbs and reserves/share from 16.22 to 18.47 lbs. So ~14% accretive. Given where stock has moved since announcement the deal is 5% accretive at US$1.20, 10% at US$1.40, 17% at US$1.80 and 20% at US$1.76.

Financials
Financials and reports on company website: http://www.ivernia.com

Catalyst

Now that the Magellan mine is producing and shipping lead concentrate the co will become free cash flow positive for the first time. Fairly simple as when run sensitivities on LME pricing even assuming declines of 30% the co is still delivering $20m of free cash flow next year on a $163m enterprise value. On flat pricing, the co is delivering in excess of $45m of free cash flow (could go private with internal funds in less than 4 years). Owning 5% of the stock, management is focused on returning cash to shareholders. Also catalyst in takeout potential given consolidation wave in metals & mining and reality that the co is trading at 1/4th the liquidation value of its proven reserves and has the lowest cost assets with the highest quality concentrate in the industry. While we wait for management to return capital to shareholders and the potential for the company to be acquired we have earnings on our side with the current LME at 44c, having been above 40c all year, and the two banks on the street that cover the stock modeling 06 eps with 35c pricing (and as noted above supply/demand is tightening).