Petra Diamonds, Questor’s favoured play on the sector, disappointed the market yesterday by cutting its full-year production guidance by 7pc. However, the company’s balance sheet is in great shape, its expansion plans are on track and medium-term trends surrounding diamonds are bullish.
Petra owns stakes in eight producing diamond mines. The Finsch, Cullinan, Koffiefontein, Kimberley Underground, Helam, Sedibeng and Star mines are located in South Africa, while its Williamson mine is in Tanzania. The company also has exploration assets in Botswana.
There are essentially two reasons for the lowering of production guidance. The first is the industrial action that swept through the South African mining sector last year. Wage strikes started in the platinum sector at one of Lonmin’s mines before spilling over into other industries. Petra suffered only four days of action, so disruption was pretty minimal. However, what was going on in the wider mining industry also appears to have had an impact on productivity.
The main issue hitting output was lower-than-expected grades essentially the amount of diamonds contained within each tonne of rock at its Finsch and Cullinan mines. It is difficult to predict the grades at older operations, where most of the diamonds have been mined. This is not a concern for the group’s growth projects, however, as they access less “diluted” rock formations. These mines are expected to continue to struggle until new mining areas begin operating in 2015.
All of this means that production guidance for the year to June 2013 has been reduced by 200,000 carats to 2.85m carats. This is the second time production guidance for the current year has been lowered. Petra cut it by 250,000 carats in August because of the poor grades at the Finsch mine , which it bought from De Beers in 2011 for $210m (£133m).
However, despite these two issues, total diamond production in the first half of the year rose by an impressive 31pc to 1,247,522 carats, with revenues rising by 54pc to $156.3m (£99m).
At the end of December the miner had $38.8m of cash in the bank and its diamond inventories were worth a further $45.4m. Petra has undrawn bank facilities in place of about $122m.
The group still plans to be producing 5m carats a year by 2019, compared with production of 2.2m carats in the year to June 2012. As part of these plans, capital expenditure in the year so far has been $92.1m, in line with guidance.
Diamond prices also appear to have stabilised. The Rapaport Diamond Trade Index, which is derived from the average asking price for the top 25 best-quality one-carat diamonds and is seen as a global benchmark, fell by 12.5pc in 2012, but December was flat. Sector watchers are not expecting a sharp recovery in prices this year, more of a stabilisation.
Over the past couple of weeks, both Citigroup (NYSE: C - news) and Nomura have initiated coverage on Petra shares with a buy rating, stating their long-term bullish view on the fundamentals of the sector.
The second cut in near-term guidance is a disappointment, but the fall in the share price was quite muted yesterday, especially since the shares have rallied by 20pc since the start of November (Xetra: A0Z24E - news) .
Petra shares are trading on a June 2013 earnings multiple of 16.4, falling to 11.4 in 2014. The company does not pay a dividend. Questor keeps a buy rating because of growth profile and the prospect for diamond prices over the medium term.