November 2009 Clean Technology Initiation Report 03-11-2009 Commodities: Resurgence Explored ©Argus Research Company, Independent International Investment Research Plc and Pipal Research Group 2009. All rights reserved. Commodities Initiation Report 25-11-09 About PSQ Analytics PSQ Analytics is a ground-breaking research service for smaller and mid-cap companies on AIM and the Main Market, launched with support of the London Stock Exchange in March 2009. The PSQ Analytics service makes available the deep and broad research expertise of three leading independent research firms, whose traditional client bases would generally comprise global blue-chip companies and institutions. Working within a commercial framework that assigns companies randomly to an expert research provider, and developed with support from the London Stock Exchange, PSQ Analytics is able to reassure the investor audience that the work conducted is rigorously objective, and independent. 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Argus Research: Founded in 1934, Argus is a leader in independent equity research, offering in-depth economic analysis as well as forecasts and ratings on more than 700 US and international firms. Argus employs a rigorous six-step process to analyze companies, and provides clients with regular updates through consultation and conference calls, online publications, and more than 4000 individual research reports a year. Independent International Investment Research Plc: IIR is one of the UK’s leading sources of impartial research and strategy for global equities and foreign exchange. The Group has become a leading specialist in the US for the provision of research on non-US companies. 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Pipal’s financial services offering serves a broad spectrum of clients from buy side to sell side to investment banks and commercial banks, providing a range of services, including equity/ sector/ country research, fixed income research, financial modeling and valuation, forensic accounting, portfolio performance assessment and reporting, investment due diligence, pitch books and other custom research. Pipal’s global delivery model enables it to deliver timely, high quality, objective and cost effective research. Pipal is registered in Chicago, USA and has operations in UK, Ireland and India. Page 2 Commodities Initiation Report 25-11-09 CONTENTS 1. Executive Summary .................................................................................................................................... 4 2. Key characteristics and trends.................................................................................................................. 7 2.1. Business cycles and commodity prices ........................................................................................................ 7 2.2. Historically, inflation adjusted commodity prices have declined .................................................................. 8 2.3. The commodities sector is highly capital intensive ..................................................................................... 11 2.4. The commodities super cycle...................................................................................................................... 12 2.5. The gold-oil-dollar relationship .................................................................................................................... 14 3. Key drivers................................................................................................................................................. 16 3.1. Strong demand from emerging markets ..................................................................................................... 16 3.2. Under-investment in the commodities sector.............................................................................................. 18 3.3. Huge disparity between per capita consumption amongst countries.......................................................... 19 3.4. Global infrastructure sector set to attract huge investment ........................................................................ 19 4. Key challenges .......................................................................................................................................... 20 4.1. Relationship between technological advances and commodity prices....................................................... 20 4.2. Political, social and environmental challenges............................................................................................ 22 5. Commodities sub-sectors ........................................................................................................................ 24 5.1. Upstream oil and gas .................................................................................................................................. 24 5.2. Mid- and down-stream oil & gas.................................................................................................................. 30 5.3. Coal & consumable fuels ............................................................................................................................ 37 5.4. Ferrous & base metals ................................................................................................................................ 49 5.5. Gold & other precious metals & minerals.................................................................................................... 58 6. Case Study: Junior Mining & Exploration .............................................................................................. 65 Appendix – Profiles of Cleantech companies listed on the London Stock Exchange / AIM .................. 71 Disclaimer....................................................................................................................................................... 111 Page 3 Commodities Initiation Report 25-11-09 1. Executive Summary Although there is significant debate concerning the precise point at which we stand in the commodities super cycle, most analysts would agree that the current cycle started around 2003. The global financial crisis in the latter half of 2008 brought the cycle to a temporary halt, with prices of most commodity classes, with the notable exception of gold, tumbling from historical highs. Since the nadir of the crisis in March 2009, the global macroeconomic environment has stabilised somewhat and commodity prices have partly recovered. Our outlook for commodities is robust over the long term as the global economy recovers and emerging economies continue to grow rapidly. This report aims to provide a broad overview of the commodities sector, opening with a look at the key characteristics and trends of the sector as well as the key drivers and challenges. Following on from these broader themes we focus on the individual industries which make up the commodities sector. The commodities sector can be broadly classified into agricultural commodities and non-agricultural commodities. The scope of our research encompasses the energy commodities and the metals group, while excluding agricultural commodities and commodity chemicals. In this report we have classified the commodities sector into five major industries and explore each in terms of their framework, demandsupply dynamics, sector trends, demand drivers and recent transaction activities. The discussion on each sub-sector ends with our outlook. The five sub-sectors we focus on in this report are: Upstream Oil & Gas sector – comprises oil and gas exploration and production companies Mid- & Down-stream Oil & Gas – covers the midstream businesses of oil and gas transportation and storage as well as the downstream refining business Coal & Consumable Fuels – includes two of the most prominent primary fuels used in electricity generation - coal and uranium Ferrous & Base Metals – the ferrous metals section covers the iron ore and steel industries, while the section on base metals looks at the industry as a whole and also looks at the specific cases of copper and aluminium Gold & Other Precious Metals & Minerals – the industries covered include gold, silver, diamond and platinum group metals (PGM) The last section of the report is a case study on Junior Mining & Exploration. This section examines the investment trends and factors determining investment in the Junior Mining & Exploration sector and also the global transaction activities in the sector. To provide our readers with further insight into the smaller end of the commodities sector we have profiled 19 companies operating in this space which are listed on the London Stock Exchange and AIM. These can be found in the appendix of the report. Key characteristics and trends The commodities sector is extremely capital intensive in nature. Acquisition, exploration and development of reserves involve significant capital expenditure over a long period of time due to long project gestation periods, which explains the high leverage levels that characterize the industry. Although the supply of commodities is limited, technological progress has contributed towards reducing extraction costs, improving efficiencies and productivity in their production and usage, thus keeping a check on prices. Development of substitutes and change in consumption patterns has also been influential in keeping commodity prices under control. A notable trend identified in this report is that commodities, as an asset class, have lagged behind inflation over the longer term. This may be of particular interest to investors who are currently using commodities as a hedge against inflation. There are, of course, short term deviations from this trend, especially during times of uncertainty such as these, and one particular commodity class, crude oil, is a exception to this norm reflecting cartelization of the industry and lack of economically viable substitutes. There is a well established correlation between business cycles and commodity prices. In this report we look at the current commodity super cycle and analyse its main drivers. What is interesting now is whether the recent global recession will impact the commodities super cycle or whether the strength of the emerging markets will carry the sector through, resulting in a resumption of the super cycle. Although there are clearly challenges ahead, the current signs are good, with China expected to grow at 8.7% in 2010 according to the World Bank. Key Drivers: -China and India are transitioning from being producers of primary commodities to net consumers. Consistent with this change, global commodity price dynamics have displayed a stronger correlation with the growth trajectory of these Page 4 Commodities Initiation Report 25-11-09 economies. The rapid economic growth in the BRIC countries, particularly China, is in turn associated with profound structural changes such as trade liberalization, economic reforms, industrialization, and urbanization. These structural changes are making these markets more energy and resource intensive than ever, fuelling their growing appetite for commodities. -The historically low investment in commodity infrastructure could lead to the ushering in of another commodity boom in the medium to long term. With economies gradually emerging from the global downturn, demand for various commodities is expected to pick up. -Due to the chronic underinvestment in the past, supply may fail to keep pace with rising demand in the long term, thereby pushing commodity prices northward. We believe this indicates the tremendous need and scope for investments in mining, exploration, processing and refining activities, going forward. -As an end market for commodities, the infrastructure sector, which is attracting huge investments as a result of the numerous global stimulus packages, will be a key driver of the demand and prices of commodities. Both the developing and the developed economies will play a crucial role in such investment mobilization, albeit towards different needs and avenues. Significant investment will be required to fuel infrastructural expansion in the case of emerging economies and towards maintenance and upgrade of existing infrastructure in the case of developed economies. Key Challenges: -Political, social and environmental concerns are perhaps the biggest challenges facing companies operating in the commodities sector. Some of the most mineral rich countries around the world have historically suffered from chronic political instability and uncertainty. Furthermore, opposition from local communities, government opposition to foreign ownership of natural resources and legal and political uncertainties comprise other bottlenecks experienced by the commodities sector. -Mining and exploration activities, despite their contribution to economic development, are inherently associated with various environmental concerns. Every effort to mine and extract mineral resources inevitably leads to bio-degradation in various forms and to varying degrees. Controlling and reducing environmental degradation is one of the biggest challenges for countries across the globe against the backdrop of a constant trade-off between economic growth and the protection of the global environment. -Scientific development has played a significant role in shaping the commodities sector. New technologies have increased supply of many commodities to a level that exceeds relative demand due to enhanced productivity. Ongoing scientific progress, coupled with environmental concerns, is also encouraging the recycling of metals, adding to secondary sources of supplies. Outlook: -Oil & Gas For upstream oil and gas, a stable pricing outlook for oil and gas points towards steady growth in exploration activities and investment. However, we anticipate the recovery of global demand for oil and natural gas to be gradual until the end of 2010 as most economies recover slowly from the global downturn. Beyond that, the emerging markets, particularly China and India, will contribute most to global oil and natural gas marginal demand increases over the long term. Increase in exploration activities will trigger the expansion of storage and refining capacities. This will, in turn, have a positive impact on the margins of mid- and downstream companies. We also expect these companies to benefit from deregulation of oil products retail prices in the long term. -Coal & Consumable Fuels Our outlook for coal remains strong as economies around the world recover from the recent economic downturn. With economic activity picking up, demand for thermal as well as coking coal is expected to witness healthy growth, primarily driven by emerging economies. The secondary inventory build up, in our opinion, is not significant enough to derail the recovery in the industry. With respect to uranium, while there is lack of visibility on the replacement of ageing reactors and delays encountered by many of the new units under construction, we believe robust growth in Chinese nuclear power generation and supply bottlenecks will be the key growth drivers in the near to medium term. In the longer term, uranium has the potential to perform well as countries around the world expand their nuclear power generation capabilities as a hedge against growing fossil fuel prices. Page 5 Commodities Initiation Report 25-11-09 -Ferrous & Base Metals The large scale capacity build-up of steel and the fragmented nature of the industry has somewhat damaged the fundamentals of the steel industry. This, coupled with rising competition from substitutes like aluminium, plastics and other composites will exert pressure on steel prices over the long term. However, we believe the stimulus packages from governments worldwide will lend support to steel prices over the near to medium term. We expect the rise in steel consumption, due to such government support, coupled with the cartelized iron ore pricing, to lead to a surge in annual contracted iron ore prices over the near to medium term. Nevertheless the over-dependence on a single product, steel, for its entire consumption and the large differential between production cost and selling prices points towards a decline in iron ore prices over the long term. Growth in demand for base metals in the near term will trail the levels observed in the current super commodity cycle as key consuming industries are yet to recover from the impact of the economic downturn. Robust demand for metals from emerging economies will be offset by low consumption in developed countries. Hence, after more than doubling from the low levels in late 2008, we have a neutral outlook on base metal prices with a negative bias over the near to medium term. However, we expect rising consumption from emerging economies and gradual weeding out of high cost plants to tighten the demand-supply dynamics, to support a rise in base metal prices over the long term. -Gold & Other Precious Metals & Minerals Gold prices have risen over the last few years to record levels. Gold appears to have regained its position as a store of value during the recent economic turmoil. Countries such as China have diversified their reserves away from traditional assets such as US Treasuries and have accumulated physical gold leading to a huge spike in prices. As the current defacto global currency, the US dollar, continues to depreciate, gold continues to rise in value. This trend will continue in the near term and thus we expect gold prices to stay strong in the near future. However, we believe that as the US economy displays sustainable improvement, the value of the US dollar against other major currencies will improve and thus will regain investor confidence as the de-facto global currency. When this happens, we believe gold prices will fall sharply from these lofty levels. Case Study: After subdued investment activity in smaller mining companies over the past year, we expect junior mining companies to attract renewed investor interest and capital flow going forward. With demand for minerals set to rise yet again, fundamentally strong junior mining companies will attract acquisition interest from large mining companies, in their bid to prop up depleting reserves and generate better economies of scale. All major mining stock exchanges have witnessed increased trading activities in junior mining stocks over the recent past. However, the growth in the number of listings of mining companies has been much faster at the London Stock Exchange. An increasingly competitive environment and access to a wider set of investors are key factors contributing to the growing importance of the London Stock Exchange for this sector. Page 6 Commodities Initiation Report 25-11-09 2. Key Characteristics and Trends 2.1. Business cycles and commodity prices The expansion and contraction phases of a business cycle can range from as short as 6 months to as long as 6 years. While cycles cannot be determined accurately in advance they can be influenced to an extent by appropriate monetary and fiscal policies. Empirical evidence demonstrates a high correlation between business cycles and the price of commodities. Historical perspective • A slump in commodity prices in the late 1970s to the mid-1980s can be attributed to a deceleration in real economic growth in developed countries as well as high capacity and production of metals. Real economic growth declined from 4.9% in 1976 to 2% in 1980 and further down to 1.1% in 1982. An acceleration in growth from 1983 to mid-1988 followed as economic activity picked up in developed countries. This short-lived recovery was followed by another slump in commodity prices from mid-1988 to 1992 mainly due to weakening demand from durable goods manufacturers in Japan and the US. From 1993 to mid-1997 there was a strong recovery in demand for commodities, driven by robust growth in emerging economies. The Asian financial crisis precipitated the next slump in commodity prices from 1997 onwards. A resurgence in commodity prices following a recovery in the Asian economies in 1999 was followed by a slump caused by the recession in the US during 2001. 2003 marked the beginning of a new cycle, with commodity prices reaching a peak in 2008. Major contributors to the bull market were the robust growth in demand from China and housing boom in the US. However, recession in the US and the subsequent global downturn during the year resulted in a decline in demand for commodities and a slump in prices. Exhibit 1: Aluminium price growth / Global GDP growth 60.0% 40.0% 20.0% 0.0% -20.0% -40.0% 1975 1980 1985 1990 1995 2000 2005 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% • • • • • • Growth rate in aluminium prices Growth rate in world GDP Source: Bloomberg, The US Geological Survey Commodity prices peak during the late expansionary phase Commodity prices peak during the late expansionary phase of a business cycle, characterized by strong profits and escalating stock prices, when strong demand for commodities has exhausted existing inventories and pressured supplies. Prices are weakest during the early stages of the business cycle when capacity utilization is weak and supplies exceed demand. Page 7 Commodities Initiation Report 25-11-09 However, in 2009, the recovery in commodity prices has taken place at a quicker pace than it did in the early 2000s recession, reflecting the robust demand from BRIC economies and inventory build up in China, helped by economic stimulus measures by governments, with low interest rates and surplus capital encouraging speculation. In 2009, the US government announced a USD787 bn stimulus package, while the Chinese government announced a USD586 bn program, including spending on housing, infrastructure, agriculture, health care and social welfare. The World Bank approved a USD4.3 bn loan to India to support its infrastructure development and boost its economic stimulus program. These government and multilateral agency efforts have translated into positive economic indicators such as strengthening Chinese industrial production data (+16.1% y-o-y in October 2009 compared to +12.3% y-o-y in August 2009), an increase in the global manufacturing purchasing manager's index (PMI – JP Morgan) from 53.0 in September 2009 to 54.4 in October 2009, improving US industrial production data (+0.9% in July 2009 compared to decline in the previous months of 2009), and rising energy and base metals demand in China and other countries Source: Bloomberg. These indicators suggest a recovery may be underway, with commodity and stock prices appreciating concurrently. Copper prices, considered to be a barometer of the global economy, have increased from last year's low of USD2,809 per tonne on 24 December 2008 to USD6,819.75 per tonne (+142.8%) on 20 November 2009. The oil price on the other hand has increased 144.3% from last year’s low of USD31.41 on 22 December 2008 to USD76.72 per barrel (bbl) on 20 November 2009. Production cuts and capex pullbacks impede supply during recovery During the 2008 recession, demand for commodities fell sharply as industrial activity declined. Demand for crude oil fell from 87.5 mn bbls per day (mmbpd) in 1Q 08 to 84.1 mmbpd in 2Q 09. The fall in demand saw crude oil prices trade in the range of USD30-USD50 per bbl between December 2008 and February 2009. As low realized prices prevailed, damaging bottom-line, many oil companies deferred expansion capex in 2009 to preserve capital and cash flow. • • • Suncor Energy Inc, the second largest oilsands producer in Canada deferred construction of its CAD20.6 bn Voyager upgrader. Saudi Aramco delayed its USD8 bn capacity expansion plans for its Ras tanura refinery which would have raised capacity by 400,000 barrels per day (bpd). Qatar and Exxon Mobil delayed the development of the USD5 bn Barzan gas field joint venture. However, demand for commodities has already improved. Crude oil demand was marginally above 2Q 09 at 84.6 mmbpd during 3Q 09. The International Energy Agency (IEA) expects consumption of oil to be 84.8 mmbpd in 2009 followed by growth to 86.2 mmbpd in 2010. Although capex cuts are a valid strategy in a depressed economic environment, deferral of production / capacity expansion could raise supply concerns in the future as there is a long gestation period before supplies come on-stream, which could potentially lead to another price spike. 2.2. Historically, inflation adjusted commodity prices have declined Although supply of commodities is limited, technological progress has reduced extraction costs, improved efficiencies in production and use, and kept prices in check. The development of substitutes and change in consumption patterns has also kept commodity prices under control. The impact of technological progress in reducing the average production cost has been most profound in aluminium. Until 1850 aluminium was more valuable than gold. However, following the introduction of electricity, the electrolysis process was developed, enabling extraction of aluminium from bauxite, which was available in abundance. With a sudden surge in supply, aluminium prices tumbled rapidly. With ready availability, aluminium was increasingly used to substitute other metals. As a result of this process, observed to differing levels in the history of the majority of commodities, inflation has outpaced commodity prices in the long term, although there have been short term deviations. Crude oil is a notable exception to this norm. The US’s dominant position in the global economy has led to most commodity prices being quoted in US dollars. Reflecting the long term availability of data, we have considered the CRB metals sub-index and US CPI as benchmark indices for metals and inflation respectively. US CPI has soared 665% from 1957 to date, surpassing the 563% gain in the CRB metal index during the same period. Page 8 Commodities Initiation Report 25-11-09 Exhibit 2: Inflation/ metal prices 700% 500% 300% 100% -100% 1957 1962 1967 1972 1977 1982 1987 1992 1997 2002 2007 CRB Metals Sub-index Consumer Price Index Source: Commodity Research Bureau (CRB), US Bureau of Labor Statistics Exceptional characteristics of gold and oil Gold differs from other metals as its major uses (investment and jewellery) are discretionary. While gold finds limited use in the real world, its character as store of value makes it an attractive investment asset, acting as a hedge against extreme events. Until the abandonment of the Bretton Woods System by the Nixon administration in 1971, the value of major global currencies was linked to gold, with the US dollar value pegged directly to the metal. The collapse of Bretton Woods led to a surge in gold prices from USD32 per ounce (oz) in 1971 to USD800 per oz in 1980. However, following the correction in price, the demand for gold subsided and the US dollar solidified its status as reserve currency. Although gold is trading at an all time high in nominal terms, inflation adjusted gold prices have declined from a peak of USD2,000 per oz in 1980. With approximately 98% of the gold ever mined still available for consumption, gold’s demand-supply dynamic is the worst of all commodities. While most other commodities perform well at the beginning of and during expansionary cycles, gold lags behind, with prices rising only after the cycle has overheated. Gold prices also exhibit an inverse relation to US dollar strength, as US dollar weakness drives investment away from US dollar denominated assets to 'safe haven' gold. Over the long term, but interrupted by short term deviations, gold prices are expected to trail inflation and other commodities. Exhibit 3: Inflation/gold prices 200% 150% 100% 50% 0% -50% -100% 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 Gold Consumer Price Index Source: World Gold Council, US Bureau of Labor Statistics While gold accumulates, oil depletes. Oil demand and prices have exhibited a different trend from other commodities, beating inflation, as a result of the following factors: Page 9 Commodities Initiation Report 25-11-09 • Cartelization/OPEC: While 1910-1960 inflation adjusted oil prices averaged USD17.1 per bbl, the formation of OPEC cartelized the industry and restricted supply. Following OPEC formation, the average oil price in real term soared to USD37.6 per bbl from 1960-2009. Universal substitute: A more fundamental reason for this contrarian trend is a lack of economically viable substitutes. Alternative energy sources have not been popular amongst consumers either due to higher implied cost or operational difficulties faced in their usage. Moreover, several petroleum derivatives have emerged as substitutes for other commodities, while almost all substitutes for other commodities require additional energy, further boosting oil demand. Exhaustive - cannot be recycled: Metals can be recycled, adding to the potential future supply. Agricultural commodities are not recyclable but renewable. The global oil supply, however, will be exhausted with use. Exhibit 4: Historical crude oil price (USD per bbl) 120 100 80 60 40 20 0 1862 1872 1882 1892 1902 1912 1922 1932 1942 1952 1962 1972 1982 1992 2002 • • Nominal Inflation Adjusted Source: Bloomberg, US Bureau of Labor Statistics, US Department of Energy Thus, while the US CPI has risen by over 665% since 1957, oil prices have risen 2,936% over the same period. Exhibit 5: Inflation / crude oil price growth 6,000% 5,000% 4,000% 3,000% 2,000% 1,000% 000% -1,000% 1957 1962 1967 1972 1977 1982 1987 1992 1997 2002 Crude Oil Source: Bloomberg, US Bureau of Labor Statistics 2007 Page 10 Commodities Initiation Report 25-11-09 2.3. The commodities sector is highly capital intensive Acquisition, exploration and development of reserves in the metals and energy commodities industries are extremely capital intensive. Capital expenditure also needs to be sustained over a long period as gestation times for exploratory and developmental projects and activities are very long. This explains the high leverage levels that characterize the industry. In the case of oil and gas, huge expenditure on exploration, extraction, refining and transportation is required. Costs depend on factors including location (onshore/offshore), size of the field, type and structure of the rock and information required. OPEC has the lowest average production costs in the oil industry, primarily due to the large and reasonably accessible oil reserves of many of the member countries. The oil price rise between 2003 and 2008 encouraged exploration of alternative sources for oil extraction, notably oil sands and shales. While these resources are plentiful, extraction remains a very cost intensive process. When the economic downturn set in, it was these companies that were hardest hit, as fixed costs exceeded the market price of oil. In the case of metals such as steel, manufacturing involves smelting of raw materials, refining to remove impurities, casting into semi-finished goods, and eventually rolling into finished products. The eventual cost of a steel plant can run into billions of dollars. • • • • Reliance Industries (India) incurred expenditure of INR450 bn (approximately USD10 bn) to develop the gas fields at Krishna-Godavari basin during the period 2003-2008. Suncor Energy, the second largest oilsands company in Canada, is expected to incur capex of USD10.7 bn to build an upgrader with 245,000 bpd capacity. ArcelorMittal, the world’s largest steel maker, has plans to build two steel plants at a combined cost of USD20 bn in two Indian states, which will have a combined capacity of 24 mn tonnes (Mt) of steel. Posco, the South Korean steelmaker is expected to invest USD12 bn to build a steel plant in Orissa, India, which would have a capacity of 4 Mt per annum. Given that the capex required in the industry is significant, there is also a major risk when prices and demand for commodities fall. In such instances, companies cut capex so as to protect cash flows. For example, Arcelor Mittal, which had an average 16% capex to revenue ratio over the period 2005-2006 cut its capex to 5% of revenues in 1H 09. Such cuts are vital to meet future capital requirements. Long gestation periods It usually takes years from the exploratory phase to discovery, testing, development and delivery of the final product. The mining, oil and gas sectors typically have to undertake surveys before and during the exploration, development and production phases. Geological surveys alone can take more than 3 years for an indication of metal/oil deposits on the site. Obtaining the licenses to conduct exploration and drilling is also time-consuming and bureaucratic. The exploratory drilling, which helps to identify the quality and quantity of deposits, often takes more than 4 years. If it is viable for the project to proceed, development of fields and setting up of platforms or rigs in the case of an offshore oil site, could require anything between 1 to 7 years. A company in this sector needs to have strong capital backup as it has to operate on zero revenue inflow for a number of years. • One of Canada's largest producers of crude oil, Imperial Oil's Kearl project was initially projected to produce 100,000 bbls of bitumen per day in 2011 on completion of the initial phase of the project. The company has been working on this project since 2004. The project received necessary authorization to commence preliminary work on the site only in June 2008. To add to the delays, the economic crisis led to postponement of the project by 8 months. The company is not expected to begin production from the project until late 2012. In June 2005, Posco signed a memorandum of understanding with the Orissa government in India for a 12 Mt capacity steel plant to be built in three phases by 2016, with production scheduled to begin by the end of 2011 at the completion of the first phase. Construction, which was originally scheduled to begin in April 2008, has been delayed and is now expected to start only in 2010. The delay was due to protests by farmers in the region. • Page 11 Commodities Initiation Report 25-11-09 Heavily leveraged Commodities companies, with the exception of some of the largest players like Exxon Mobil and EnCana Corporation, tend to operate on high leverage, given the capital intensiveness of the business. During the recent downturn, smaller companies became desperate for capital. While the healthier among them, which were in a position to reduce operating costs and capex, survived, some were forced to file for bankruptcy. Catalyst Energy Group Inc. and Trident Resources Corp. were among the energy companies that didn’t survive the crisis in 2008. The crisis did not spare large companies either. Reflecting easy liquidity available in the market, many mining companies had entered into acquisition deals over 2005 - 2008, including Arcelor Mittal, Tata Corus and Rio Alcan. However, with the deals made at the peak of the commodity cycle, valuations were significantly high. The credit crisis disrupted expected cash flows. Balance sheets were severely dented by the additional debt burden. Companies were forced to dilute equity at the trough of the cycle (Tata Steel, Rio Tinto), denting long term prospects for existing shareholders. 2.4. The commodities super cycle We have seen that commodity prices move with business cycles and have been beaten by inflation over the long term. When plotted over a longer time horizon it can be seen that some cycles have extended over periods of several years, and consist of smaller cycles with multiple troughs and peaks. These super cycles are typically multi-decade phenomena and can extend up to 50-60 years. Super cycles are started or sustained by events that are more profound than the triggers that spur regular business cycles. These include large-scale wars, very large scale industrialization, major technological innovations, a major shift in demography or socioeconomic factors, especially in countries with large populations, and transition of major economies into higher stages of development in a more abrupt than gradual manner. In the past, the world has witnessed 3 commodities super cycles: 1. The 1880 commodity super cycle involving industrialization and urbanization in the US, which lasted for 40 years, involving the industrialization and urbanization of 100 million people. The 1960 Japanese industrialization super cycle, which lasted 20 years, involving 30 million people. The current super cycle initiated in the year 2003, led by industrialization in China and India, which involves industrialization of 2.5 bn people. 2. 3. Price rise illustrations: • LME copper prices averaged USD2,690 per tonne in 1990 and maintained a range of USD1,521–2,955 per tonne until 2003. In 2004 prices averaged USD3,046 per tonne and then doubled in just two years to average USD6,684 per tonne in 2006. Copper prices reached an average high of USD8,693 per tonne in 2Q 08 and plunged thereafter. WTI crude prices traded in the range of USD15-31 per bbl between 1991 and 2003, and trebled over the period 2003-2008, increasing from USD31 per bbl in 2003 to USD97 per bbl in 2008. LME aluminium prices traded in the range of USD1,143-1,773 per tonne between 1991 and 2003 and increased to USD2,473 per tonne in 2008. • • Page 12 Commodities Initiation Report 25-11-09 Exhibit 6: Aluminium and copper prices (USD per tonne) 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 1992 1994 1996 1998 2000 2002 2004 2006 2008 Year Aluminium Copper Source: Bloomberg The Reuters Jefferies Commodity Price Index is a commodity price index compiling 19 commodities traded on the NYMEX, CBOT, LME, CME and COMEX exchanges. The commodities are weighted based on importance to global trade and are divided into 4 groups. Group 1 consist of oil based products with 33% weighting, Group 2 consists of highly liquid commodities with a weight of 42%, while Group 3 (liquid commodities) and Group 4 (commodities that may provide valuable diversification) are given weights of 20% and 5% respectively. Exhibit 7: Reuters Jefferies Commodity Index 400 350 300 250 200 150 100 50 0 1956 1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004 2008 Source: Bloomberg Factors behind the current commodity super cycle Rising demand from India and China Over the period 2004-2008, China and India reported average real GDP growth rates of 10.4% and 8.6%, compared with growth rates over the period 1997-2003 of 8.0% and 5.6% respectively. Increased outsourcing to these regions has been a key factor driving growth, with the wide availability of cheap labour and skilled workforce. According to data released by the Central Statistical Organisation, India's per capita income has increased from INR26,003 in the year ending 31 March 2006 (FY 2006) to INR37,490 in FY 2009. Economic growth led by this and other factors, requires heavy investment in infrastructure, consuming large quantities of commodities. Chinese steel imports increased from 70 Mt in 2000 to 444 Mt in 2008. Page 13 Commodities Initiation Report 25-11-09 Demographics According to the Population Reference Bureau (World Population Data Sheet), the world's total population increased from 3 bn in 1959 to 6 bn in 1999 and is expected to reach 9 bn by 2043. Although the absolute rate of increase has remained more or less constant, the main differentiating factor in the period following 1999 has been the concentration of population growth in emerging Asia, where the infrastructure is far from adequate. China's population has grown by 4.3% over the period of 2001-2008 (CAGR of 0.6%), while India's population has grown by approximately 11.8% over the same period (CAGR of 1.6%). Although the total world population increased at a CAGR of 1.4% over the period 20002008, significantly exceeding China's growth, the high bases from which China and India have grown have led these two economies to grow to account for 37.3% of the total world population in 2008. Another demographic factor driving the demand and prices for commodities in these countries is their relatively young population. The proportion of productive population (15-64 years) in China’s total population was 72.1% while for India it was 63.3% compared to 67% for the US and EU combined Source: CIA World Factbook, July 2009 est. While the proportion of productive population in India is currently relatively low, two factors place India on a high potential growth trajectory – (a) the huge size of the population presents a large pool of productive population in absolute terms; (b) the high youth proportion presents very strong future growth potential. Although India has a relatively high overall dependency ratio of 60% (compared to China’s 45%), the high youth dependency ratio of 52% and low old age dependency of 8% Source: US Census Bureau implies strong future growth potential. Post economic crisis scenario The current commodity super cycle has been interrupted by the 2008 economic crisis. As this cycle was initiated by the economic boom in China and India, a rebound and continuation will depend on the fundamentals of these economies. Over the near to medium term, a higher expected growth rate in these countries based on increased liquidity, is expected to support commodity demand. The Indian Prime Minister’s Economic Advisory Council forecasts the country's GDP to grow by 6.50%-6.75% for FY 2010, and 7.5% for FY 2011, while the World Bank forecasts China's GDP to grow by 8.4% in 2009 and 8.7% in 2010. Over the long term, we expect high growth in commodities demand from these countries based on population growth, increase in the middle class population and a high proportion of young people in India, indicating continuation of the commodity super cycle. 2.5. The gold-oil-dollar relationship The US dollar and commodity prices are inversely related to each other. The recent depreciation of the US dollar is a key factor in the recent appreciation of commodity prices. Exhibit 8: Correlation between US dollar index and oil prices Exhibit 9: Movement of US dollar index and gold prices Change in US dollar index 100% 80% 60% 40% 20% 0% -20% -40% 300% 100% Change in oil prices 250% 200% 150% 100% 50% 0% -50% -100% 80% 60% 40% 20% 0% -20% -40% -60% 1980 1984 1988 1992 1996 2000 2004 1980 1984 1988 1992 1996 2000 2004 2008 Dollar Index Crude Oil Dollar Index Gold Source: Bloomberg Source: Bloomberg The credit crisis in the US and the subsequent flooding of US dollars into the economy in an effort to revive it, have raised doubts over the US dollar's continued position as the global reserve currency. Given that the US trade deficit is increasing, countries that export goods in large quantities to the US, like China, have been faced with a situation in which their reserves are rapidly losing value as the US dollar depreciates against other major currencies. Oil producing nations Page 14 2008 Commodities Initiation Report 25-11-09 are also faced with the depreciation of the US dollar wiping away the value of their holdings. A few Arab nations and some of the world's largest consumers of oil are rumoured to be planning a long term severance from pricing oil trades in US dollars Source: The Independent. Recently Iran has made an announcement that it will no longer sell its oil in US dollars but in a basket of currencies including the Euro and the Japanese yen. Exhibit 10: Surge in money supply in the US 40% 20% 0% -20% -40% -60% -80% Money supply in the US economy Source: Bloomberg Early in 2009, China called for an end to the use of the US dollar as the reserve currency and a stronger role for the IMF’s special drawing rights. China has stated that it is diversifying its foreign exchange reserves, totalling USD2 trillion (the highest in the world), to other instruments including gold, Euros, Japanese yen and other currencies. In June 2009, China sold USD25.1 bn worth of US treasury bills to bring its holdings to USD776.4 bn, signalling its intent. This bearish development for the US dollar in turn indicates a positive development for commodities. Although the price of gold and crude oil are positively correlated, their relationship is not linear. The reason for the fluctuation of the gold-oil ratio (the quantity of oil one can buy with an oz of gold) is the disproportionate relative movement of gold and oil prices to shared drivers and the varied factors affecting their prices. Over shorter time horizons the gold-oil ratio is impacted by global macroeconomic factors. Gold prices surge during recessionary phases or periods of uncertainty and fall during bullish phases; crude oil prices fall during economic downturns and increase with expansion in economic activity. Hence, the ratio rises in a recessionary global environment and declines during the expansion phase of economic cycles. A rise in oil prices also signals an inflationary trend, particularly in countries which are large consumers of crude oil such as the US. This in turn results in investors seeking diversification of dollar assets into other assets such as gold. However, while crude oil reserves are fast depleting, gold accumulates, adding to future potential supplies. Therefore, the secular trend is a gradual decline in the gold-oil ratio, with occasional short term volatility. Exhibit 11: Trend in gold/oil ratio 35.0 30.0 25.0 20.0 15.0 10.0 5.0 1985 1989 1993 1997 2001 2005 2009 Source: Bloomberg May-09 Feb-08 Jul-08 Nov-06 Dec-08 Apr-07 Sep-07 Jan-06 Jun-06 Page 15 Commodities Initiation Report 25-11-09 3. Key Drivers 3.1. Strong demand from emerging markets The profile of emerging markets has transitioned from that of a producer to a consumer of primary commodities. Consistent with this change, global commodity price dynamics have displayed an increasingly stronger correlation with the growth trajectory of these markets. While the commodity price rise of the 1990s correlated with a period of rapid growth in ASEAN economies, Thailand, Malaysia, Indonesia, Singapore, and South Korea; the subsequent fall in commodity prices was triggered by the Asian financial crisis of the late 1990s. More recently, the resumption of growth in developing markets China and India has spurred global commodity prices again. Increased money supply - a catalyst for investment In 2001, the US Federal Bank (the Fed) started loosening its monetary policy in order to stimulate spending, reducing interest rates from 6.5% to 1% by 2003. This had a direct impact on the economies of the BRIC nations, with most of the increased money supply entering India and China. Increased money supply boosted demand for commodities in these markets, marking the beginning of the recent commodity super cycle. Prices of a number of commodities tripled over the period 2003-2008 led by a stark demand-supply mismatch and supported by market participant speculation. The recent economic crisis however, dried up investment, depressing commodity prices, particularly of metals and oil. In response, the Fed started to cut rates again, reducing the rate to 0%-0.25% currently. This, along with financial stimulus packages in various countries and the continuation of expansionary economic policies in China and India, is expected to support sustained demand for commodities from emerging markets. Exhibit 12: China - Money supply (M2) growth 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% Nov-08 Sep-08 May-08 Source: Bloomberg China and India: the key consumers of commodities going forward China: China's population increased by 4.3% over the period 2000-2007 to account for nearly 20% of the world's population. Population density also increased from 442 people per square km (ppsk) in 2000 to 2,104 ppsk in 2007. The country is experiencing rapid urbanization. In 2008, 46% of the Chinese population lived in urban areas compared to only 36% in 2001 Source: Bloomberg. The government has set a target for urban residents' per capita disposable income to reach RMB13,390 by 2010. Along with the government’s broader efforts to stimulate economic growth, these factors are expected to spur infrastructure and housing construction activities. China has directed much of its recent stimulus towards infrastructure, with USD220 bn allocated for infrastructure development overall, including USD54 bn specifically for rural infrastructure projects. With plans to build 12 major routes across the country from north to south and east to west, China’s expressway network is expected to stretch to 53,000 miles by 2020, longer than the 47,000 miles of roadways in the US Source: The Wall Street Journal. The country's eleventh five-year plan had already set out a target to build 1.2 mn km of rural roads over the period 2006-2010. There are also plans to build six passenger railway lines, and expand ten of its main airports. May-09 Sep-09 Jan-08 Jan-09 Jul-08 Mar-08 Mar-09 Jul-09 Page 16 Commodities Initiation Report 25-11-09 China has also implemented a host of other initiatives to develop its infrastructure. The foreign ownership limit in the telecom sector (mobile voice and data services) was increased to 35% in 2002 and further to 49% in 2003. Housing construction, which is one of the largest consumers of commodities, was supported by the reduction of the minimum down payment requirement for home buyers from 35% to 20%, and the retention of a low tax rate for construction companies (7% for city areas, 5% for county and township areas and 1% for other areas) Source: Beijing Local Taxation Bureau. Reflecting the positive impact of these measures, residential property sales increased at a CAGR of 23.7% between 2002 and 2006 in China Source: National Bureau of Statistics. The development of its infrastructure has already made China one of the most significant consumers of base metals and energy commodities in the world. Its share of global steel demand reached 30.7% in 2008 from only 17.3% in 1999, while its copper share rose from 13% in 2000 to 28.5% in 2008 Source: MEPS International and Dundee Wealth. Chinese iron ore imports registered a CAGR of 24.5% over the period 2003-2008 Source: Bloomberg. Going forward, China’s economic expansion and the resultant demand for commodities is set to continue (albeit at a slower rate), with China expected to consume 5% more steel in 2010 than in 2009 and 45.8% of expected total global steel Source: World Steel Association. India: Meanwhile, India’s infrastructure investment had risen from 4.9% of GDP in FY 2003 to 5.8% in FY 2009, while the country's eleventh five-year plan (FY 2007-2012) envisaged an outlay of over USD500 bn, taking infrastructure investment to 9.34% of the country's GDP in 2011-2012. This projected investment in infrastructure would require extensive participation from private players, which is targeted to rise from 19.8% in 2002-2007 to 30.1% in 2012. A large proportion of the investment has been allocated to power and road development. Investment in the country's power sector is expected to rise from USD17.7 bn in FY 2008 to USD42.9 bn in FY 2012, while construction of roads and bridges is expected to attract investment of USD17.3 bn in FY 2012, up from USD11.2 bn in FY 2008. In 2008, Indian Railways drew up a plan to upgrade rail infrastructure and procure new rolling stock, with an estimated spend of USD8 bn. This should boost economic activity and growth in other core as well as ancillary sectors of the economy, and will lead to considerably higher steel consumption within the country. To reach the country's investment goals, various measures have been adopted, including an increase in the FDI limit in the telecom sector (from 49% to 74%) to expand penetration, which currently stands at 37%. Other measures include benefits to infrastructure companies engaged in the maintenance of roads and highways in the form of exemptions from service tax, tax relief to housing companies (if ongoing projects are completed before 2012) and an enhanced interest subsidy for the purchase of houses valued at less than INR2 mn. India's iron and steel imports increased from a value of USD476.26 mn in 2003 to USD2,264 mn in 2007, registering a CAGR of 47.7%, while its crude oil imports increased at a CAGR of 6.5% from 32,527 thousand tonnes in 2004 to 39,246 thousand tonnes in 2007 Source: Bloomberg. Although India's commodity consumption level remains miniscule compared to China, the continuation of economic growth and focus on infrastructure is expected to sustain an increase in its demand for commodities. The Joint Plant Committee, which monitors the iron and steel industry in India, has projected steel manufacturing capacity in the country to increase to 100 Mt by 2018, up from the current level of about 31 Mt. Brazil and Russia – tapping production capabilities for domestic infrastructure needs Brazil and Russia differ from India and China in that they are net exporters of key commodities. Russia is a major producer and exporter of copper, gold and natural gas, while Brazil is an important iron ore producer. Meanwhile, demand for commodities in these two countries has been rising steadily, reflecting a growing focus on domestic infrastructure development. Both Brazil and Russia have capped exports to ensure greater use of domestically produced commodities to meet domestic infrastructure needs. The rapid economic growth experienced in the BRIC countries reflects profound structural changes including trade liberalization, economic reforms, industrialization, urbanization and massive investment in the power and infrastructure sectors. These structural changes are making markets more energy and resource intensive than ever, fuelling a growing appetite for commodities. Apart from driving commodity prices, the rapid transformation of the emerging markets into key consumers of commodities will intensify competition in trade and investment and will fundamentally reshape commodity market dynamics in the long term. Page 17 Commodities Initiation Report 25-11-09 3.2. Under-investment in the commodities sector After commodity prices normalized, following the oil crises of the 1970s, there was a prolonged period of underinvestment in exploration, mineral processing, refining and transport infrastructure. This reflected a lack of incentives to engage in such capital-intensive activities, given the depressed pricing conditions seen during the period (see chart below). However, this led to a widening of the demand-supply gap which, amid the economic upturn since 2003, produced a sharp spike in commodity prices. Recent years saw renewed interest in exploration and development activities, however the onset of the financial crisis in 2H 08 (with its widespread retreat of capital and tumbling commodity prices) has put many investment projects on hold once again. Exhibit 13: Depressed commodity prices, 1980-2007 500% 400% 300% 200% 100% 0% -100% -200% 1980 1983 1986 1989 1992 1995 1998 2001 2004 Aluminium (USD/tonne) Copper (USD/tonne) Iron ore (USD/tonne) Crude oil (USD/bbl) Source: Bloomberg Natural gas is a case in point. Over recent decades, it became increasingly clear that reserves were declining. Falling Reserve-to-Production (R/P) ratios, accelerating field decline rates and dwindling investment were obvious cues for fresh investment in exploration and refining initiatives on a global scale. Despite these signs, natural gas consumers did not appreciate the importance of securing the long term purchase arrangements that would have provided gas producers with the incentive to increase exploration. The conservative mood of the market led to the diversion of exploration investment to quick payback drilling programs that would accelerate cash flow at the expense of reserve life. Similar imbalances arising from under-investment existed in the case of virtually every natural resource and base metal. In early 2008, the prices of most commodities rocketed, as consumption from all major economies increased rapidly, while supplies were limited as a consequence of the years of under-investment in mine development, processing plants, pipelines, railroads, and the other industrial infrastructure needed to produce and transport raw materials. In the oil sector, low prices from 1980-2006 prevented sufficient exploration and development of existing fields. Although soaring commodity prices over 2007-2008 led to a huge increase in exploration investment, the trend was short-lived. The credit bubble ended with the collapse of global financial markets and a steep decline in commodity prices, reflecting anticipation of a deep recession. With the oil price collapsing to USD35 in December 2008, oil companies reduced their workforces and the number of rigs in service, and delayed or cancelled projects. A similar trend was experienced by other commodity players. This prolonged phase of low investment in commodity infrastructure could lead to another commodity boom in the medium to long term. With economies gradually emerging from the global downturn, demand for various commodities is expected to pick up. If the increase in supply fails to keep pace, commodity prices will further rise. This also points to the tremendous scope for investment in the commodities sector going forward. The rapid growth of emerging markets is expected to lead to a flurry of economic activity which will spur demand for commodities, particularly for energy commodities and base metals. This should provide a strong incentive to commodity producers to considerably increase investment in mining, exploration, processing and refining activities. 2007 Page 18 Commodities Initiation Report 25-11-09 3.3. Huge disparity between per capita consumption amongst countries Consumption of energy or commodities in any country primarily depends on economic growth and level of development. While developed economies comprise only one fifth of the world's population, consumption of commodities remains disproportionately high, at almost three fifths of the world's primary energy. The world’s total energy consumption is projected to increase by 44% from 2006 to 2030. Total energy demand in the non-OECD countries is expected to increase by 73%, compared with an increase of 15% in the OECD countries. China is expected to become the largest consumer of energy by 2030 Source: EIA, Annual Energy Outlook 2009. Developing nations are expected to witness much higher growth in electricity consumption than developed nations. The EIA International Energy Outlook 2009 forecasts electricity consumption in non-OECD Asia to grow at a CAGR of 4.4%, compared to just 1.2% for OECD countries. Exhibit 14: Per capita consumption in 2008 Com m odity Steel Oil Coal Natural Gas Unit kg bpd per 1,000 people tonnes cubic m eters US 320.2 68.7 3.6 2,168 Europe 369.7 29.3 N/A 1,019 India 45.8 2.4 0.3 37 China 321.4 5.7 1.0 53 Japan 598.3 39.3 1.2 787 World 178.6 31.7 1.2 768 Source: World Steel Association, BP Statistical Review, Population Reference Bureau Exhibit 15: Total consumption in 2008 Com m odity Steel Oil Coal Natural Gas Unit Mt m m bpd Mt oil equivalent billion cubic m eters US 98 19.4 565 657 Europe 182 N/A N/A N/A India 53 2.9 231 41 China 426 8.0 1,406 81 Japan 76 4.8 129 94 World 1,197 84.4 3,304 3,019 Source: World Steel Association, BP Statistical Review Steel consumption is also closely linked to economic development, and richer countries remain the largest consumers of steel. The World Steel Association identifies that consumption of finished steel products ranges from approximately 370 kg per person in Europe, 320 kg in the US and 598 kg in Japan, compared to approximately 20 kg in Africa and 48 kg in India. However, while developed nations have the highest commodity consumption rates, they also have mature infrastructure networks. Per capita consumption of commodities is climbing rapidly in Asia due to significant investment in industry, transport infrastructure, construction and overall improved standards of living, as well as the gradual transfer of the world’s labour intensive manufacturing activities. In the past decade, per capita consumption of steel has risen by approximately 470% in Malaysia, 240% in South Korea and 80% in China. India’s per capita steel consumption is one of the lowest in the world despite being the 5th largest steel producer. However, with a strong and growing economy, rising income levels and shifting consumer spending patterns, India’s appetite for steel is expected to grow to match the developed countries over the next 10 to 20 years. Almost all major commodities show a similar relationship. There remains ample scope for the world’s commodity consumption rate to expand further, with most of this incremental demand expected to come from developing nations. Fast growth in Asia combined with commodity-intensive industrialization and urbanization will continue to fuel the demand for primary commodities from this region. 3.4. Global infrastructure sector set to attract huge investment Globally, the infrastructure sector is expected to attract huge investment, supporting commodity demand and prices. Both developing and developed economies will play key roles in investment mobilization; however, whereas developing countries are expected to focus on infrastructure development and expansion, as discussed in detail above, developed countries are expected to channel investment on maintaining and upgrading existing infrastructure. Page 19 Commodities Initiation Report 25-11-09 Infrastructure maintenance and upgrade in developed countries Unlike developing countries, the key driver for infrastructure investment in developed countries is the maintenance, upgrade and replacement of existing infrastructure. In these countries, much of the existing infrastructure for energy distribution and transport has been in service for many decades. In the US, for example, while huge amounts of money have been spent on building power plants, the country's transmission grid uses dated technology and is in need of an upgrade. There has been no significant investment in high voltage grids for the past 20 years. In October 2009, President Obama announced a USD3.5 bn plan to upgrade the country’s ageing power grid, while private players have agreed to invest USD4.7 bn in this area. US railways have also been neglected for the past 50 years, with increasing calls for the entire network to be rebuilt as, apart from California, none of the routes meet international standards for high-speed trains. The US has now started to invest in high-speed intercity networks. President Obama has approved an initial USD8 bn to be spent on railways. This is however, only a fraction of the cost of building a new network, with the total amount estimated to be more than USD100 bn. Similarly, out of the 2.4 mn km network of gas pipelines in the US, approximately 1.6 mn km of it is over 30 years old. Replacing and modernizing this essential infrastructure is expected to continue to create demand for steel and other metals in the US. The following table outlines projected global demand for pipelines over the next five years: Exhibit 16: Gas pipeline projects Region North am erica Latin am erica Europe Africa Middle east Asia Australia Total Source: Simdex, May 2009 No of Projects 183 52 97 47 107 130 60 676 Total Length (km ) 69,953 33,934 45,974 17,368 43,655 90,825 15,899 317,608 In USD bn 17 8 11 4 11 22 4 77 4. Key Challenges 4.1. Impact of technological advances on commodities Scientific development has contributed enormously to the development of the commodities sector, with the impact felt from exploration to extraction to use. The emergence of new technologies can lead to rapid growth in demand for specific commodities, causing a temporary mismatch in demand-supply dynamics, which then prompts the development of new methods and tools to boost supplies. This, in turn, increases supply to a point that it exceeds relative demand. Ongoing scientific progress, coupled with environmental concerns, is also encouraging the recycling of metals, adding to secondary sources of supplies. More recently, concern over the depletion of commodity reserves has driven R&D in search of viable alternatives for fossil fuels and metals. Scientific innovations and technological applications have enhanced our capabilities to explore and harness natural resources. The invention of electricity boosted the capacity of blast furnaces to produce more metals. Better drilling tools like pumpjack allowed extraction of oil from deep oil wells. Increased knowledge of geology and engineering allowed for the exploitation of fossil fuel reserves in the oceans through the construction of offshore drilling rigs and pipelines, enabled by the development of durable and stronger alloys to connect the energy supply and demand centres. Now, technologies like geographic information system (GIS) and satellite imagery help to uncover unexplored potential resource bases for commodities while keeping exploration costs under control. The surge in coal demand triggered by the industrial revolution and subsequent inventions to increase coal production exemplify the relationship between technology and commodities. Initially, coal mined from near the surface was sufficient Page 20 Commodities Initiation Report 25-11-09 to meet industrial demand. Although coal reserves were available deeper beneath the earth's surface, the risk of flooding and poisonous gases restricted their exploitation. The development of new equipment enabled coal mining at greater depth, leading to a 25 fold increase in coal production in England during the 19th century. Exhibit 17: Growth of Coal Production in England Year 1700 1750 1800 1850 1900 Annual Coal Production in England (m n tonne) 2.7 4.7 10 50 250 CAGR 0.9% 1.1% 1.5% 3.3% 3.3% Source: The Energy Journal, 1998 Later, improving shipping facilities and infrastructure projects like the Suez Canal, the Panama Canal and the TransSiberian railway improved accessibility and reduced transportation cost, facilitating exploitation of natural resources in remote regions and bridging the gap between resource rich and deficient centres. Increase in efficiency and productivity While major breakthroughs in technology enabled the exploitation of natural resources, efforts by industry players to cut costs and make products economically viable have improved efficiency and productivity across various product lines. As a result, cars can travel more miles per gallon of gasoline, less metal is consumed in the manufacture of machinery and appliances and computers are becoming smaller and increasingly power efficient. These enhancements have led to lower per unit consumption of commodities. Rising environmental concerns over the accumulation of metal waste necessitated the development and application of recycling, adding to the overall supply of metals. However, efforts to improve efficiency are concentrated during an upward trend in natural resources prices, while complacency sets in at times of low prices. While rising efficiency lowers consumption of metal and fossil fuels, exerting downward pressure on prices, resulting low prices in turn diminish the return from productivity improvement efforts. The US decision to supply Israel during the Arab-Israeli conflict of 1973 caused the Arab members of OPEC to first increase oil prices by 70% to USD5.11 per barrel as retaliation and then implement an oil embargo, in which they continued to cut oil supplies by 5% per month. As the Middle East was the leading supplier of crude oil, contributing more than one third of global output, global crude oil prices surged by more than 250% to USD11.58 per barrel in 1974. The situation was aggravated further in the latter part of the decade by the Islamic revolution in Iran and in the 1980s by the Iran-Iraq conflict. Reeling under high oil prices, western economies hastened efforts to introduce energy efficient technologies to avert an impending energy crisis. To combat the threat, many governments enacted laws mandating improvement in fuel economy (more than half the oil was consumed in transportation), consumers opted for more fuel efficient appliances (particularly heating systems), investment was made in the exploration and development of new oil fields and private players boosted R&D to raise productivity. The efforts bore results in the early 1980s as an increased number of fuel efficient vehicles and appliances slowed growth in consumption, and production from new oil fields boosted supplies. The average car fuel economy in the US jumped from 13.5 miles per gallon (mpg) in 1975 to 24.1 mpg in 1988. Oil importing economies also focused on finding viable alternative sources of energy. While France shifted to nuclear energy for electricity generation, the UK and Scandinavian nations explored and developed natural gas fields in the North Sea. Oil supplies from the Middle East returned to normal levels by the mid 1980s; as a result, increased global supply and controlled growth in demand led to low oil prices for over a decade, leading in turn to diminishing economic returns on efforts to improve energy efficiency, which almost came to a halt (observed in the fuel economy plateau after 1988). Page 21 Commodities Initiation Report 25-11-09 Exhibit 18: Fuel efficiency / oil prices 100 90 80 70 60 50 40 30 20 10 0 Fuel Economy mpg 22 20 18 16 14 12 10 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002 2005 Fuel Economy Nominal Oil Price Source: Bloomberg, US Department of Energy On the back of underinvestment and rising demand from emerging economies, the oil demand-supply situation tightened once again after 2002. Consequently, oil prices experienced another surge after having remained depressed for over a decade, causing anxiety amongst consumers and policy makers. Taking note of the rising fuel prices, the US government revised its fuel economy mandate for cars and trucks to 39 mpg (27.5 mpg in 2009) and 35.5 mpg (23.4 mpg in 2009) respectively by 2016. The potential to improve fuel efficiency remains immense as auto companies attempt to develop 100 mpg hybrid cars. Renewed interest in improving fuel efficiency is likely to reduce oil consumption in developed economies, partially offsetting the anticipated surge in oil demand from emerging economies. Substitutes Commodities derive value from inherent properties rather than their crude form. Oil and fossil fuels are valued for the energy that they provide while metals are valuable due to their strength and durability. As a consequence, commodities often act as substitutes for each other, like natural gas for crude oil, aluminium for copper and steel. In the energy sector, efforts have been made to replace fossil fuels with renewable energy sources for over a century. Although alternative energy sources including solar energy, wind energy and biofuels have been recognized for a long time, they haven’t replaced conventional fuels as the primary source of energy due to higher costs and technological difficulties. While nuclear, wind, solar and hydro energies have all been successfully harnessed to produce electricity, no sustainable alternative has been found to replace crude-based fuel in cars in any significant proportions. Biofuels, in which gasoline is blended with ethanol derived from agricultural sources like corn and sugarcane, are being experimented with and commercially used in developed economies, as well as predominantly agrarian emerging economies like Brazil. However, biofuels are currently only viable when oil prices are high, and the diversion of crops to non-dietary uses also causes inflation in food prices. Nevertheless, attempts across the globe to economize the already available alternatives and find new solutions to reduce dependence on the finite reserve of fossil fuels are ongoing. Metals have faced much tougher competition from substitutes than fossil fuels. Plastics and glass have crowded out metals in various fields, especially packaging. Carbon composites are increasingly used to replace metals in aircraft, launch vehicles and spacecraft. Advancement in technology has also led to the replacement of traditional metals with other metals; the abundance of aluminium, for example, with its highly recyclable properties, conductivity and durability, as well as low cost and light weight, prompts researchers to explore new ways of using the metal to replace base metals. R&D activities in new fields such as nanotechnology have raised hopes of replacing metals with more durable and cost effective allotropes like fullerene in the auto and construction industries. These nano particles will be much lighter than metals, which will also make cars more fuel efficient. 4.2. Political, social and environmental challenges In recent history, some of the world's most resource-rich countries have suffered from chronic political instability. Global reliance on such regions for the supply of commodities continues to increase as reserves deplete and production costs rise in developed economies (e.g. coal production in Japan has almost come to a halt since 2002) while environmental 2008 Nominal Oil Price USD/bbl 24 Page 22 Commodities Initiation Report 25-11-09 concerns restrict the development of reserves (e.g. offshore drilling was banned in the US Outer Continental Shelf from 1981 to 2008 due to the dangers of oil spill). The delicacy of the situation can be observed in the dependence of the US on crude oil from the Middle East or Europe’s reliance on Russian natural gas. Along with this traditional geopolitical aspect, rising opposition from local communities, increased awareness of environmental and economic concerns, government opposition to foreign ownership of natural resources and uncertain legal and political situations add to the already heavy political burden on the commodities sector. In recent decades, commodity markets witnessed supply shortages due to political conflicts in sensitive areas, such as the impact of the twin oil crises experienced in the 1970s, as discussed above. More recently, Russian-Ukrainian disputes over debts and payments for natural gas have led to disruptions of supplies into the EU over the last 5 years. Similarly, the Indo-Iran natural gas pipeline project has been sidelined for more than 3 decades, due to Indian concerns over blockades by Pakistan. Ongoing political disruptions and armed conflict in resource rich African countries pose yet another threat to global energy supplies. Even politically stable areas with long established traditions of democracy and political tolerance like Australia and India have experienced constant political infighting, thwarting investment in the commodities sector. In Australia, opposition has been raised to the transfer of ownership of its natural resources to foreign hands, visible in political opposition to the Aluminum Corporation of China acquiring a controlling stake in Rio Tinto. Meanwhile, India's commodities sector is heavily regulated and stifled by a lack of strategic consensus among political leaders. Social and economic aspects of the development of mines, like the displacement of local communities, and contamination of soil and underground water sources, have further accentuated the problems in developing and exploiting natural resources. Posco’s USD12 bn integrated steel plant project in the Indian province of Orissa has faced protests from local communities, who will be forced to relocate, and certain political parties on the pretext that the company has been granted unfair concessions. Consuming industries often lobby against the export of natural resources to keep input costs under control (for example, Indian steel producers oppose exports of iron ore). Moreover, the sudden surge in profits of natural resource companies following commodity price increases tends to attract calls for higher taxes and royalties. Political opposition often leads to delays in project development and increases investment requirements. Uncertainties associated with the impact of politics on the commodities sector raise the overall risk of developing natural resources and limit competition, largely restricting access only to well established long term players with deep pockets and political influence. Environmental challenges Environmental degradation and climate change are significant issues facing governments in relation to the commodities sector, particularly in terms of balancing a perceived trade-off between economic growth and environmental conservation. It is beyond the scope of this report to fully detail the links between the commodities sector and global climate change, which are complex and many. However, these are well documented in research published in scientific journals, as well as in multilateral publications, such as those released by the UN's Intergovernmental Panel on Climate Change (IPCC). Governments and multilateral bodies have implemented a number of measures intended to arrest or reverse climate change, and to limit environmental degradation. These include: • The Kyoto Protocol was adopted in December 1997 and implemented in February 2005, signed by 187 countries as of October 2009. The protocol focused on reducing carbon emissions, primarily by mining companies. According to the IPCC, the global steel industry emits 6%-7% of the total carbon dioxide released in the environment. The protocol set a target for 37 industrialised countries to reduce GHG emissions by an average of 5% from 1990 levels over the five-year period 2008-2012. The UN Climate Change Conference in Copenhagen in December 2009 is now expected to lay the groundwork for a successor treaty. 192 countries are expected to be involved, with the main objective of reducing GHG emissions. In October 2009, a climate change pact was signed by China and India, in which the two countries agreed to strengthen bilateral dialogue and practical cooperation on climate change through information sharing. The two governments have decided to work together on issues including scientific assessment of the impact of climate change, joint research and development activities and energy conservation and efficiency. • Page 23 Commodities Initiation Report 25-11-09 • Clean energy sources: More and more governments are encouraging the use of clean energy sources generated from sunlight, wind, rain and tides. Wind power generation capacity increased from approximately 30 GW in 2002 to 59 GW in 2005 and annual investment in clean energy sources increased from approximately USD19 bn in 2001 to USD36 bn in 2005 Source: Renewable Global Status Report. Funding of USD1.5 bn by the Australian government to local coal mining companies for adoption of low emission coal technologies Source: official website of the Australian Labor party. There are government programs offering incentives and rebates to compensate for the cost of solar panels purchased by companies across a wide range of developed and emerging countries. In September 2009, the French government announced a plan to increase solar incentives offered to businesses and individuals to install photovoltaic (solar) technologies. Out of China's recent USD586 bn stimulus package, 14.5% was allocated to the development of clean energy sources Source: Climate progress. In the US, the Clean Energy and Security Act of 2009 requires utility companies to supply an increasing proportion of energy through renewable sources (6% in 2012, 9.5% in 2014, 13% in 2016, 16.5% in 2018, and 20% in 2021-2039). A number of governments have set up - or are planning to set up - trading programs in air pollutants to control emissions of various GHGs. The main feature of these trading programs is the capping of the amount of a pollutant that can be emitted by any country or company. If they wish to exceed their given quotas, these entities must buy credits from other entities with surplus credits. • • • • • The main concerns for the commodities sector, going forward, will be whether and by how much governments further restrict Exploration and Production (E&P) operations, whether feasible and environmentally friendlier substitutes are developed, and whether the sector is able to adapt and address environmental concerns. For example, coal industry actors are working on Carbon Capture and Storage technology, which has the potential to nearly eliminate carbon emissions into the atmosphere from coal mining. 5. Commodities Sub-sectors 5.1. Upstream oil & gas Oil exploration represents the first stage of the long petroleum value chain. The E&P sector, or the upstream oil sector, is responsible for discovery, recovery and production of crude oil and natural gas. The key participants in this business include oil and gas exploration companies, oilfield service companies such as seismic surveyors, drillers, vessel, engineering and service providers and also its consumers - the downstream sector which refines raw crude products provided by the upstream sector. Demand and supply of crude oil After the severe price volatility of 2008, the global E&P industry has witnessed some stabilization in 2009. While the strong appreciation in hydrocarbon prices in early 2008 benefited the upstream companies’ bottom-lines, the subsequent decline in oil prices has had a sharp adverse impact due to their high fixed costs. The IEA's Oil Market Report forecasts global oil demand to decline 1.5% to an average of 84.8 mmbpd in 2009 followed by an increase of 1.3% to an average of 86.2 mmbpd in 2010. Global oil supply in October 2009 was 85.6 mmbpd. Page 24 Commodities Initiation Report 25-11-09 Exhibit 19: Oil demand, supply and price history 88 120 100 80 80 60 76 40 72 68 2001 2002 2003 2004 2005 2006 2007 2008 20 0 mn barrels per day 84 Oil Supply Oil Demand Oil Prices Source: BP Statistical Review, June 2009, Bloomberg Demand and supply of natural gas While crude oil prices increased from USD31.41 per bbl on 22 December 2008 to USD76.72 on 20 November 2009, the natural gas price plummeted from USD5.37 per mmbtu to around USD3.11 per mmbtu over the same period. Global demand for natural gas remains low reflecting the global recession and a cool summer in the US this year. The impact of this on prices is exacerbated by the effect of technological advancements allowing extraction of previously unobtainable gas locked in shale rock. This has led to a significant increase in the US natural gas reserve, impacting gas prices globally. Recently deployed technologies to improve extraction rates include horizontal drilling and hydraulic fracturing. Horizontal drilling enables a company to cover a larger portion of the resource bearing area. Hydraulic fracturing involves the injection of a mixture of water and sand at high pressure to create multiple fractures throughout the rock, liberating the trapped gas. Such developments in unconventional gas exploration led the Potential Gas Committee to announce in June 2009 that US natural gas reserves are 35% greater than believed two years ago. The committee estimates total natural gas resources in the US at 2,074 trillion cubic feet, an increase of 542 trillion cubic feet from its last report, including 238 trillion cubic feet of proven gas reserves. As well as depressing gas prices, the supply glut has also led to a significant reduction in drilling activity. According to the EIA November 2009 release, the number of natural gas rigs operating in the US has declined by more than 54% since its peak at 1,600 in August 2008. The EIA expects total natural gas production in the US to decline by 3.8% y-o-y in 2010. However, with demand for gas picking up, gas prices are expected to increase from 2010. The US is expected to use more natural gas in the long term, given stricter climate regulations and its huge reserve base. The world’s total natural gas consumption is expected to increase by an average of 1.6% per year from 104 trillion cubic feet in 2006 to 153 trillion cubic feet in 2030 Source: EIA International Energy Outlook 2009. OPEC actions OPEC countries control around 68% of global oil reserves and contributed 36% of total oil production in 2008 Source: BP Statistical Review. As the key actor in this industry, OPEC has the power to cut or expand global supply when oil prices fluctuate to protect the margins of its members. After a fall in oil prices to USD31.41 per bbl in 2008, the cartel reduced its output by 4.2 mmbpd. In response to concerns over OPEC's market power, governments around the world have encouraged oil E&P activities in non-OPEC regions through tax breaks, subsidies and deregulation. The following charts identify the world’s major exporters and importers of oil. Oil prices ( USD per barrel) Page 25 Commodities Initiation Report 25-11-09 Exhibit 20: Largest net oil importers in 2008 (thousands of bbls per day) 12,000 10,000 8,000 6,000 4,000 2,000 0 China India Germany France Italy US Netherlands Japan S Korea Turkey Canada Spain Singapore Source: EIA Exhibit 21: Largest net oil exporters in 2008 (thousands of bbls per day) 10,000 8,000 6,000 4,000 2,000 0 Russia UAE Nigeria Norway Saudi Arabia Kazakhstan Angola Venezuela Algeria Kuwait Qatar Iran Iraq Libya Source: EIA The Middle East controls 59.9% of proven global oil reserves and 41.0% of global proven gas reserves Source: BP Statistical Review – World Energy 2009. Its R/P ratio is an impressive 78.6 years for crude oil and more than 100 years for natural gas, compared to international averages of 42 years and 60.4 years respectively. Exhibit 22: Regional oil reserves and R/P ratios (2008) Regions Total North Am erica Total S. & Cent. Am erica Total Europe & Eurasia Total Middle East Total Africa Total Asia Pacific Total World Proven reserves (bn bbl) 70.94 123.17 142.19 754.12 125.56 42.00 1,257.98 y-o-y grow th (0.4%) (0.3%) (1.7%) (0.1%) 0.2% 1.8% (0.2%) % share 5.6% 9.8% 11.3% 59.9% 10.0% 3.3% 100.0% Thailand Taiwan Belgium R/P ratio 14.80 50.30 22.10 78.60 33.40 14.50 42.00 Source: BP Statistical Review, June 2009 Page 26 Commodities Initiation Report 25-11-09 Exhibit 23: Regional natural gas reserves and R/P ratios (2008) Regions Total North Am erica Total S. & Cent. Am erica Total Europe & Eurasia Total Middle East Total Africa Total Asia Pacific Total World Proven reserves (bn bbl) 8.87 7.31 62.89 75.91 14.65 15.39 185.02 y-o-y grow th (0.1%) 0.6% 9.6% 2.3% 0.8% 4.0% 4.5% % share 4.8% 4.0% 34.0% 41.0% 7.9% 8.3% 100.0% R/P ratio 10.90 46.00 57.80 <100 years 68.20 37.40 60.40 Source: BP Statistical Review, June 2009 Geopolitical issues Geopolitical issues in oil producing countries and regions (such as the Middle East, Nigeria and Venezuela) raise concerns over the security of global oil supplies. Most recently, Nigerian rebels have warned oil and gas industry players operating within the region to brace for new attacks as they want a bigger share of the country's oil wealth. In the three years up to October 2009, Nigeria's oil output is believed to have fallen from 2.6 mmbpd to 1.7 mmbpd Source: Mail&Guardian online. Iraq boasts the world's third largest reserves of oil, behind Saudi Arabia and Iran. There has been limited exploration or development of fields in the country over the past three decades, due to wars and the international embargo imposed following the Gulf War. Recently, there has been heightened industry interest in the country's fields. On 02 November 2009, ENI finalized a contract to boost production in the Zubair field near Basra, which it estimates to have 6 bn bbls of reserves. Oil majors, including Royal Dutch Shell (Shell), Exxon Mobil and ConocoPhillips are also in talks with the government. Assistance from major E&P firms could help Iraq to boost its oil production significantly. However, the country may face opposition from OPEC, which is attempting to enforce tighter quotas during the current period of muted demand. Although Iraq is a member of OPEC, it is exempt from its quotas. Meanwhile, international E&P companies entering the Iraqi oil market are likely to face a raft of challenges, such as a shortage of skilled workers and inadequate infrastructure, including a lack of oil terminals and pipeline capacity. Investment in the country's ageing energy infrastructure has been hampered by the division of responsibility between the central government and Iraq's provinces. Strategic importance While the role of the state is declining in nearly every sector of world economic activity, in hydrocarbons the pattern is quite different. High energy prices have encouraged governments to concentrate authority in the hands of state firms. According to the EIA, national oil companies accounted for 52% of global oil production and 88% of proven oil reserves in 2007, as governments across the globe actively engaged in acquiring potential reserve bases to ensure energy security for their countries. Some of the largest national oil companies include Saudi Aramco, National Iranian Oil Company, Petroleo de Venezuela and Qatar General Petroleum Corporation. The largest national oil company in the world, Saudi Aramco, produced close to 8.9 mn barrels of oil per day in 2008 (or 10.3% of global production). Over the same period, the largest international oil company in the world, Exxon Mobil, produced almost 2.4 mn barrels of oil per day (2.8% of world production). In the Upstream Oil & Gas sub-industry, CNOOC is the largest company by market cap while Encana Corporation is the largest by revenues. Page 27 Commodities Initiation Report 25-11-09 Exhibit 24: Key industry players All figures in USD m n, except Market ratios Capitalization CNOOC 70,664 Oil and Natural Gas Corp Ltd EnCana Corporation Canadian Natural Resources Lim ited Apache Corp Anadarko Petroleum Corp. Woodside Petroleum Ltd. Devon Energy Corporation OGX Petroleo e Gas Participacoes S/A XTO Energy Inc. Oil and Gas E&P Industry Source: Capital IQ Enterprise Value 66,157 50,611 55,448 46,724 36,890 41,424 35,974 36,926 23,823 35,457 1,049,504 TTM revenues 14,144 22,466 25,578 10,030 7,959 8,306 4,996 10,790 N/A 8,520 484,666 TTM EBITDA 7,551 9,682 12,926 9,670 2,321 3,318 3,603 8,377 (157) 6,205 199,510 EV/TTM revenues 4.7x 2.3x 2.1x 4.7x 4.6x 5.0x 7.2x 3.4x N/A 4.2x 3.5x EV/TTM EBITDA 8.8x 5.2x 4.2x 4.8x 15.9x 12.5x 10.0x 4.4x N/A 5.7x 6.5x TTM P/E 16.5x 12.5x 7.4x 7.5x NA 73.7x 20.0x NA 111.6x 13.4x 155.4x 52,910 42,826 35,552 33,238 31,865 31,539 30,217 28,396 25,100 894,823 Regulatory and policy framework Trading regulations In reaction to the wide swings in oil prices during 2008, federal regulators in the US are currently considering regulations to place restrictions on hedge funds and other speculative traders in the market. They are also expected to consider fresh limits on the volume of energy futures contracts that pure investors would be allowed to hold. When these regulations will take effect is unclear. Operational regulations Oil subsidies are prevalent in developing countries, designed to reduce the price burden on the end customer. Under a levy introduced in March 2006 in China, upstream companies have to bear a windfall tax on revenue from crude oil sold for more than USD40 a barrel. Recently, a proposal submitted by China Petroleum and the Chemical Industry Association recommended raising the trigger level for the tax to help oil producers including PetroChina and China Petroleum and Chemical Corp. China is now expected to increase the threshold for the windfall tax on crude oil gains to USD60 per barrel. In India, state-run upstream companies are asked to discount crude sales to state refineries, which in turn sell oil products to the public at regulated prices. In FY 2009, ONGC's net profit dipped 3% to INR161.3 bn due to a huge subsidy discount of INR282.3 bn (+28% y-o-y). Companies across the world are expected to pay royalties in the countries in which they operate. In the US, E&P companies are given the option to pay royalties in cash or in kind. However, the Government Accountability Office (the investigative agency of the US Congress) has identified that energy companies may have underpaid their oil and gas royalties during 2006 and 2007 by USD160 mn, as a result of inaccurate data supplied to the Department of the Interior. The US is now planning to scrap its royalty-in-kind program to make the system more transparent and accountable. Industry transaction activity In response to the financial crisis, investment in the Upstream Oil & Gas sub-industry has already been cut by more than USD90 bn this year (-19% from 2008). Recently, however, there has been a revival in activity and interest. For example, in October 2009 state-run Korea National Oil Corp. (KNOC) signed a contract to buy Canada's Harvest Energy Trust for CAD1.8 bn (USD1.7 bn), marking the largest acquisition of a foreign oil firm by a South Korean company. The acquisition is expected to boost KNOC's production from 70,000 to 123,400 barrels per day, taking the company one step closer to achieving its daily output goal of 300,000 barrels by 2012. The IEA, in its 2009 World Energy Outlook, forecasts oil demand to start recovering from 2010, reaching 88 mmbpd in 2015 and up to 105 mmbpd in 2030. In order to meet this demand, the sector requires considerable investment; under-investment could prove greatly detrimental to the development of the world economy. The following tables list the largest transaction activities in the Upstream Oil & Gas sub-industry over the past 12 months. Page 28 Commodities Initiation Report 25-11-09 Exhibit 25: Largest 10 upstream M&A deals of the last 12 months Buyer/Investor BG Group plc ONGC Videsh Lim ited Sistem a JSFC Centrica Resources (UK) Ltd. Precision Drilling Trust Sinopec International Com pany Statoil ASA PetroChina Co. Ltd. GDF Suez Atlas Energy, Inc. Source: Capital IQ Target com pany Queensland Gas Co. Ltd. Im perial Energy Corporation PLC Bashkir Oil and Energy Group Venture Production Plc Precision Drilling Oilfield Services Corporation Tanganyika Oil Com pany Lim ited Anadarko Petroleum Corp., CNPC Hong Kong Ltd. (SEHK:135) Nederlandse Aardolie Maatschappij, Offshore and Pipeline Assets Atlas Energy Resources LLC Total transaction value (USD m n) 8,882 5,761 4,162 4,025 4,000 3,300 2,500 2,317 1,854 1,727 Exhibit 26: Largest 10 upstream public offerings of the last 12 months Issuer Anadarko Petroleum Corp. Nabors Industries Inc. Halliburton Com pany Total Capital S.A. Noble Energy, Inc. Weatherford International Ltd. Halliburton Com pany Chesapeake Energy Corporation EOG Resources, Inc. Sm ith International Inc. Source: Capital IQ Total transaction value (USD m n) 1,365 1,125 997 996 995 995 995 951 898 742 Exhibit 27: Largest 10 upstream private placements of the last 12 months Issuer Aabar Investm ents PJSC Nabors Industries Inc. Oil Search Ltd. Forest Oil Corp. Tullow Oil plc Petrohaw k Energy Corporation Pacific Rubiales Energy Corp. Petrobank Energy and Resources, Ltd. Enerplus Resources Fund Zhaikm unai LP Source: Capital IQ Total transaction value (USD m n) 1,820 1,125 823 571 551 548 446 400 300 300 Page 29 Commodities Initiation Report 25-11-09 Outlook Our outlook for Upstream Oil & Gas is positive. Crude oil prices have more than doubled to trade well above USD70 per barrel. Prices are expected to average approximately USD90 per barrel for the next three years. A stable price outlook suggests steady growth in E&P investment. Global supplies of natural gas remain abundant and prices currently hover at low levels. However, as the cleanest of all fossil fuels, gas is likely to be the least affected by any legislation against GHG emissions. In the long term, natural gas-fired electricity generation is expected to grow at the fastest rate after renewables. While global demand for oil and natural gas is expected to increase from here on, the recovery is expected to remain depressed until the end of 2010 as most economies recover only gradually from their deepest recession in over half a century. China and India are expected to contribute the bulk of growth in demand for natural gas. 5.2. Mid- and down-stream oil & gas Crude oil is consumed in various forms: gasoline/petrol, diesel, heating oil, jet fuel, residual fuel oil, and many other products. Crude oil extracted in its raw form is converted into end-use products by refining companies (downstream players). Crude oil used in the refining process is available in various forms based on characteristics including appearance and viscosity. These types are classified into two main categories, heavy and light crude oil. Heavy crude oil is more difficult to refine and transport and hence is priced at a discount to light crude oil. Total oil products consumption has increased from 61.6 mmbpd in 1980 to 85.8 mmbpd in 2008. To meet this demand, refinery throughput has increased by almost the same magnitude, from 59,243 kbopd in 1980 to 75,179 kbopd in 2008. Exhibit 28: Last 10 years – Crude throughput and consumption data Year 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Source: Capital IQ Refinery throughput (kbopd) 67,043 68,566 69,161 68,518 70,545 73,018 74,093 74,707 75,432 75,179 World oil consum ption (kbopd) 70,201 71,025 71,421 72,111 73,446 76,216 77,236 77,881 78,788 78,557 Key downstream industry players Exhibit 29: Key downstream industry players (All figures are in USD mn except ratios) Com pany Reliance Industries Ltd. Form osa Petrochem ical Corp. Indian Oil Corp. Ltd. Valero Energy Corp. Sk Energy Co., Ltd. Rabigh Refining & Petrochem ical Com pany Nippon Oil Corp. S-Oil Corp. TonenGeneral Sekiyu k.k. Neste Oil Corp. Industry Overall - Oil and Gas Refining and Marketing Source: Capital IQ Market Cap 68,612 23,115 16,179 9,758 8,715 8,876 6,881 5,580 5,156 4,549 213,311 EV 78,160 28,068 22,776 15,503 15,277 17,387 22,794 5,947 6,155 6,656 338,926 TTM Revenues 29,267 17,907 61,075 68,937 45,032 3,261 63,720 19,778 28,327 12,927 1,180,679 TTM EBITDA 5,328 N/A 2,994 2,304 2,315 N/A (1,665) 1,347 1,592 275 (962) EV/TTM Revenues 2.7x 1.6x 0.4x 0.2x 0.3x 5.3x 0.4x 0.3x 0.2x 0.5x 0.4x EV/TTM EBITDA 14.7x N/A 7.6x 6.7x 6.6x N/A N/A 4.4x 3.9x 24.2x 15.3x TTM P/E 14.6x 226.9x 29.2x N/A 11.5x N/A N/A 15.1x 6.9x NA N/A Page 30 Commodities Initiation Report 25-11-09 Crude oil is transported primarily through two modes: pipelines and shipping. Oil pipeline and shipping companies constitute the midstream sub-industry. Other lesser used modes are trucks and railroad. The various types of tanker used in the industry are product tankers (capacity: 10-60 thousand dwt), Panamax (capacity: 60-80 thousand dwt), Aframax (capacity:80-120 thousand dwt), Suezmax (capacity: 120-200 thousand dwt), Very Large Crude Carrier or VLCC (capacity: 200-320 thousand dwt) and Ultra Large Crude Carrier or ULCC (capacity: 320-550 thousand dwt). Pipeline transportation is carried out via Seamless Arc Welded (SAW) pipes. While this form of transport usually calls for a higher initial investment, ongoing costs are lower than for railway and road transportation. Indian manufacturers account for the largest share of world SAW pipe production capacity (30.4%), while North America and Western Europe have capacities of 17.8% and 13.6% respectively. Exhibit 30: Global SAW pipe manufacturing capacity Region North Am erica Western Europe Eastern Europe CIS Countries India Middle East South Africa Africa Other w orld Total World HSAW - tpa 680,000 1,430,000 125,000 240,000 3,191,000 845,000 150,000 246,000 3,212,000 10,119,000 LSAW - tpa 2,150,000 3,285,000 44,000 2,350,000 3,762,000 980,000 470,000 N/A 1,900,000 14,941,000 ERW - tpa 7,336,500 3,050,000 30,000 5,852,000 10,390,000 1,120,400 1,974,000 100,000 2,121,000 31,973,900 Total 10,166,500 7,765,000 199,000 8,442,000 17,343,000 2,945,400 2,594,000 346,000 7,233,000 57,033,900 Source: Welspun Gujarat, Annual Report - 2009 Crude oil storage The oil value chain, involving the process of crude oil extraction, refining and sale to end consumers requires massive storage capacity. Some of the leading oil storage companies include Koch Industries Inc, Southwest Gas Corporation, ITOCHU Corporation, Spectra Energy Corp., Enron Creditors Recovery Corp., EQT Corporation, DCP Midstream Partners and LP Enbridge Energy Partners. According to a report by Global Markets Direct, global oil storage capacity has increased from 379.77 mn cubic meters in 2000 to 470.62 mn cubic meters in 1H 09, and is expected to rise to 488.07 mn cubic meters by 2013, driven by growing demand for crude oil and petroleum products, particularly from the Asia Pacific region. China is expected to build 26.8 mn cubic meters of oil storage capacity as it stockpiles strategic oil reserves Source: Upstream Online. The North American oil storage industry accounted for 29.5% of the total world capacity in 1H 09 and the Asia-Pacific region accounted for 18.4%. However, with the North American and European markets well established, the bulk of growth momentum is expected to come from the Asia-Pacific region, where deregulation is expected to inspire the entry of more private players into the market. Natural gas storage Natural gas can be stored for future consumption in depleted gas, aquifer and salt cavern reservoirs. In the depleted gas reservoir system, reservoir formations of natural gas fields are used following production of all economically recoverable gas. Salt caverns are created by drilling a conventional well to pump fresh water into a salt dome or bedded salt formation. The salt dissolves until the water is saturated, and the resulting salt water is returned to the surface. This process continues until a cavern of the desired volume and shape is created, which is then used for storage. Salt caverns are typically much smaller than depleted gas reservoirs and aquifers, usually taking up only one-hundredth of the acreage taken up by a depleted gas reservoir Source: EIA. The possibility of using salt caverns for this and other energy storage purposes also gives potential access to another source of revenues for salt and potash mining companies like Sirius Exploration. In the US there are about 120 entities operating the approximately 400 active underground natural gas storage facilities. Page 31 Commodities Initiation Report 25-11-09 Key midstream industry players Exhibit 31: Key Midstream industry players (All figures are in USD mn except ratios) Com pany TransCanada Corp. Kinder Morgan Energy Partners LP Enbridge Inc. Enterprise Products Partners LP Spectra Energy Corp. William s Com panies, Inc. Energy Transfer Partners L.P. El Paso Corp. Plains All Am erican Pipeline LP Energy Transfer Equity, L.P. Industry Overall - Oil and Gas Storage and Transportation Source: Capital IQ Market Cap 20,398 15,912 15,046 13,622 12,508 11,412 7,676 6,942 6,662 6,366 237,197 EV 38,339 27,048 27,051 23,601 22,560 19,203 13,458 21,117 11,139 16,500 464,185 TTM Revenues 8,492 7,384 13,956 15,111 4,662 8,259 6,783 4,781 21,391 6,782 286,699 TTM EBITDA 3,774 2,431 2,163 2,046 2,478 2,746 1,390 958 1,072 1,396 59,323 EV/TTM Revenues 4.5x 3.7x 1.9x 1.6x 4.8x 2.3x 2.0x 4.4x 0.5x 2.4x 1.8x EV/TTM EBITDA 10.2x 11.1x 12.5x 11.5x 9.1x 7.0x 9.7x 22.0x 10.4x 11.8x 10.8x TTM P/E 15.9x 49.7x 11.4x 18.6x 13.4x 23.1x 14.0x NA 11.6x 16.6x 24.7x Midstream sector trends Tanker rates and capacity Freight rates are positively correlated with crude oil prices, with higher relative demand for crude oil translating into higher demand for transportation. The Baltic Dirty Tanker Index (BDTI) tracks the freight rates of crude tankers. As illustrated in the chart below, the slump in oil prices in late 2008 and 2009 from mid-2008 levels has led to a fall in demand for tanker capacity. This has been compounded by a 21.4% increase in tanker capacity during 2005-2008. Exhibit 32: Baltic Dirty Tanker Index 2,000 1,800 1,600 1,400 1,200 1,000 800 600 400 200 0 2002 2003 2004 2005 2006 2007 2008 2009 BDTI 120 Exhibit 33: Tanker capacity/ freight rate 450 85,000 72,500 400 60,000 350 47,500 300 2005 2006 2007 2008 VLCC (USD per day) 35,000 Oil Prices (USD per barrel) Tanker capacity (dwt) 100 80 60 40 20 0 Tanker capacity (dwt) Source: Bloomberg Source: Bloomberg Investment activities in the midstream sector With crude touching a low in December 2008, demand for midstream industry services has remained low in 2009. General Maritime, which is one of the leading crude oil transportation providers, saw high average freight rates in 1Q 09 (USD30,724 per day), falling to USD27,649 per day in 2Q 09 and USD23,136 per day in 3Q 09, before starting to recover in 4Q 09. Pipeline companies also saw a significant weakening in their order book position, which is a leading indicator of their business. However, despite the downturn, the midstream industry did witness some investment activity. The following tables list the most significant investment transaction activities in the Midstream Oil & Gas sub-industry over the past 12 months. Transcanada Corporation, Canada's leading natural gas pipeline operator (59,000 km of gas pipelines and 370 bn cubic feet of storage capacity) closed one of the largest public offerings of the last 12 months on 24 June 2009, raising CAD1.6 bn. Other large investments are listed below. Page 32 Freight rates (USD per day) Commodities Initiation Report 25-11-09 Exhibit 34: Largest 10 midstream M&A deals of the last 12 months Target Com pany Magellan Midstream Holdings, L.P. 70 Oil and Gas Storage Caverns Stoccaggi Gas Italia SpA Brostrom AB 66% of Enterprise GC, L.P., 51% of both Enterprise Intrastate L.P. and Enterprise Texas Pipeline L.P Transcanada Keystone Pipeline, LP Targa Dow nstream LP and Targa LSNG GP LLC and Targa LSNG LP and Targa Dow nstream GP LLC Arlington Tankers Ltd. Oleoducto Central S.A. Caspian Pipeline Consortium Source: Capital IQ Transaction value (USD m n) 3,461 2,471 2,037 1,278 730 553 550 502 418 384 Buyer/Investor Magellan Midstream Partners LP IVG Funds Gm bH SNAM Rete Gas SpA Maersk Tankers DEP Operating Partnership, L.P. TransCanada PipeLines Lim ited Targa Resources Partners LP General Maritim e Corp. Ecopetrol SA - Exhibit 35: Largest 10 midstream public offerings of the last 12 months Issuer TransCanada Corp Kinder Morgan Energy Partners LP Energy Transfer Partners L.P. William s Com panies, Inc. Energy Transfer Partners L.P. Kinder Morgan Energy Partners LP Kinder Morgan Energy Partners LP Enbridge Energy Partners LP Plains All Am erican Pipeline LP ONEOK Partners, L.P. Source: Capital IQ Issue Size (USD m n) 1,415 698 650 600 600 595 500 500 499 498 Exhibit 36: Largest 10 midstream private placements of the last 12 months Issuer Midcontinent Express Pipeline LLC William s Com panies, Inc. Enbridge Energy Partners LP Southeast Supply Header LLC Ferrellgas L P Inergy, L.P. Enterprise Products Partners LP Boardw alk Pipeline Partners, LP Regency Energy Partners LP TC Pipelines LP Source: Capital IQ Transaction value (USD m n) 799 595 500 375 296 203 150 147 80 78.4 Buyer/Investor Enbridge Energy Com pany, Inc. EPCO Holdings, Inc. Boardw alk Pipelines Holding Corp. Harvest Partners, LLC TransCan Northern Ltd. Page 33 Commodities Initiation Report 25-11-09 Downstream sector trends Effect of rising crude oil prices on downstream oil companies Crude oil prices have been highly volatile over the last 21 months, affecting the performance of downstream companies worldwide. As the major input for refining companies, high oil prices dent operating margins over the short term. WTI crude prices touched a high of USD145.29 per bbl and a low of USD31.41 per bbl during this period. Oil products, which were in high demand in 1H 08, became oversupplied. WTI prices peaked in 2Q 08 and 3Q 08, cutting into downstream profits in 3Q 08 and 4Q 08 (downstream companies typically maintain inventory of three months). The following table illustrates the impact of rising crude prices on the margins of downstream (and downstream-heavy integrated firms) companies. Exhibit 37: Oil majors' operating metrics (2008) Year 2008 Quarter 1 Quarter 2 Quarter 3 Quarter 4 Average WTI prices (USD per bbl) 98 124 118 59 Royal Dutch Shell EBIT (USD m n) 13,228 17,306 13,641 (530) Total S.A EBIT (EUR m n) 871 2,201 170 (2,416) British Petroleum EBIT (USD m n) 9,977 14,596 9,826 (3,226) Source: Company Annual reports Over a longer time horizon, refining margins tend to follow crude prices, with a positive correlation of 0.73 over the period 1999-2008. However, with crude prices highly volatile, sometimes trading in a wide range, refining margins can move in the opposite direction to crude prices, especially in periods reporting a sudden movement in crude oil price: Exhibit 38: WTI refining margins and oil price correlation 120 100 USD per barrel 80 60 40 20 0 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 WTI refining margins (USD per bbl) Oil prices (USD per bbl) Source: Bloomberg Rising demand from emerging markets Over the last ten years, India's refined oil products consumption increased at a CAGR of 3%, while China’s grew by 6% (in comparison to the world average of 1.1% over the same period). Conversely, US refined oil product consumption declined from 888.9 Mt in 1999 to 884.5 Mt in 2008. If China continues on its current growth trajectory, its oil consumption will match US levels in 15 years. Page 34 Commodities Initiation Report 25-11-09 Exhibit 39: Oil Consumption (in Mt) 1,000 800 600 400 200 0 1999 2000 2001 India 2002 2003 2004 China 2005 2006 2007 US 2008 Source: EIA Petroleum prices are tightly regulated in India and China, with retail rates capped in order to protect the end consumer from volatility in international crude oil prices. When crude prices peaked in 1H 08, these caps forced downstream firms in China to book significant losses by preventing them from recovering high input costs. In response, the Chinese government issued VAT rebates on fuel imports and provided some direct subsidies to refiners. Sinopec, one of the largest refiners in China, received a fuel subsidy of RMB50,342 mn in 2008. Downstream companies are also compensated by upstream companies in the form of discounts. In India's FY 2010 budget, INR300 bn has been allocated for subsidies of kerosene and LPG for downstream companies. At the same time, Indian consumers were also partially shielded, paying INR50.88 per litre (USD4.39 per gallon) for gasoline, compared to USD7.64 per gallon in the UK Source: Indian Oil Corp., EIA. Historical refining capacity The chart below identifies world crude oil refining capacity over the last ten years. Refining capacity moved steadily upwards until 2005, with a rise in demand. 2006 witnessed a huge jump in refining capacity, attributable to investment made in the period 2002-2004. Exhibit 40: World crude oil refining capacity (kbopd) 88,000 86,000 84,000 82,000 80,000 78,000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Source: EIA Major downstream projects in the pipeline The EIA forecasts global oil consumption to increase from 85.46 mmbpd in 2008 to 107 mmbpd in 2030, at a CAGR of 1%. This is based on a forecast global GDP growth rate of 3.5%, and is expected to be concentrated in China and India. Over the last five years, while total world oil consumption rose by 3.7%, China and India reported growth rates of 17.8% and 12.4%, respectively. Some of the largest downstream projects in the pipeline are identified below. Page 35 Commodities Initiation Report 25-11-09 Exhibit 41: Major upcoming downstream projects Dow nstream projects SonaRef Project Eider Rock SATORP - Jubail Refinery Refinery of the Pacific Al Zour Refinery Hyperion Energy Center Source: Downstream today Operating com pany Sociedade Nacional de Com bustiveis de Angola Irving Oil Com pany Saudi Aram co Total Refining and Petrochem ical Co. Refineria del Pacifico-CEM Kuw ait National Petroleum Corp Hyperion Resources Capacity kbopd 200 300 400 300 1,150 400 Date of com pletion 2,012 2,015 2,012 2,013 2,012 2,014 Location Angola, Africa Canada Saudi Arabia, Middle east El Aram o, Ecuador Al Zour, Kuw ait North Am erica Higher distillates demand forecast in the US The EIA forecasts that US demand for crude based gasoline will decline from 8.41 mmbpd in 2008 to 7.70 mmbpd by 2023, while demand for crude based distillates will rise from 3.89 mmbpd to 4.32 mmbpd, as they will be required for electricity generation. In light of this, we expect higher investment in distillates refinery capacity in the region. Gasoline futures trading Of the products derived from crude oil refining, gasoline is the most used of all energy sources (17% of total US energy consumption Source: EIA). The main uses of gasoline are in heating and transport. Gasoline can be traded on the NYMEX and TOCOM. NYMEX gasoline futures prices are quoted in US dollars per gallon and are traded in lot sizes of 42,000 gallons (1,000 bbls), while TOCOM gasoline futures are traded in units of 50 kiloliters (13,210 gallons) and contract prices are quoted in yen per kiloliter. Gasoline futures trading can be used by producers/consumers to lock in future gasoline selling/buying prices and by speculators to pocket profits based on their price forecasts. Movement in gasoline prices is largely based on underlying volatility in international crude oil prices, and also to some extent on competition between various gasoline retailers in the market. Industry transaction activity In 2009, the Downstream Oil & Gas industry saw one of its largest M&A deals, with Suncor Energy and Petro-Canada (both major downstream operators) merging in 3Q 09. Refining capacity of the joint entity stands at 433,000 bpd. Some of the most significant investment activities in the last 12 months are listed below. Exhibit 42: Largest 10 downstream M&A deals of the last 12 months Target com pany Petro-Canada Petrobras Energía Participaciones S.A. Com pania Espanola de Petroleos SA Gazprom Neft ERG Raffinerie Mediterranee Srl Mol Magyar Olaj es Gazipari Rt. Reliance Petroleum Ltd. Singapore Petroleum Co. Ltd. Singapore Petroleum Co. Ltd. Gibson Energy Lim ited Source: Capital IQ Transaction value (USD m n) 19,478 5,343 4,469 4,201 2,087 1,803 1,673 1,461 1,016 1,013 Buyer / investor Suncor Energy Inc. Petrobras Energía SA International Petroleum Investm ent Com pany JSC Gazprom LUKOIL Oil Com pany Surgutneftegaz Reliance Industries Ltd. PetroChina International (Singapore) Pte. Ltd. PetroChina International (Singapore) Pte. Ltd. The Carlyle Group; Riverstone Holdings LLC Page 36 Commodities Initiation Report 25-11-09 Exhibit 43: Largest 10 downstream public offerings of the last 12 months Issuer Shell International Finance B.V. Petrobras International Finance Co Enterprise Products Operating, LLC Petroleos Mexicanos Chevron Corp. Shell International Finance B.V. Ecopetrol SA Shell International Finance B.V. BP Capital Markets plc Chevron Corp. Source: Capital IQ Issue size (USD m n) 2,499 2,477 2,000 2,000 1,996 1,993 1,500 1,500 1,500 1,500 Exhibit 44: Largest 10 private placements of the last 12 months Issuer Cenovus Energy Inc. Gibson Energy Lim ited DCP Midstream LLC East Resources, Inc. DCP Midstream LLC Connacher Oil and Gas Ltd. Brasil Ecodiesel Industry TEAK Midstream LLC Keyera Facilities Incom e Fund Interoil Corp. Source: Capital IQ Transaction value (USD m n) 3,500 545 450 350 250 187 167 100 81 70 Investor Kohlberg Kravis Roberts & Co. NGP Energy Capital Managem ent - Outlook With a tight demand-supply situation and an expected rise in oil demand going forward, we expect oil prices to stabilize with an upward bias. Demand for natural gas as a clean source of energy is expected to increase over the longer term. Therefore, considering the decline in drilling activity in 2009 and an expected reduction in the supply glut, we expect international gas prices to increase. Over a longer term horizon this should have a positive impact on downstream companies’ refining margins. With the expected deregulation of oil product retail prices in the long term, downstream companies in India and China should benefit. As demonstrated by Gasol's agreements with E.ON and EDF to develop and export gas in the Gulf of Guinea, the movement of large oil and gas refining companies to diversify their supplier base creates enhanced opportunities for junior companies. Ever increasing demand (particularly from emerging markets) requires expansion of refining capacity. The IEA expects 2010 world oil demand to be at 86.2 mn bpd (an increase of 140,000 from its October forecast) based on the recovery in global markets. In view of this, coupled with the low investment scenario during 2009, we believe oil product prices and oil tanker freight rates will increase over the short to medium term. 5.3. Coal & Consumable Fuels COAL The primary uses of coal are as an input for power generation and steel manufacturing, but it is also used in the production of cement and chemicals. Coal provides for 26.5% of global primary energy needs and supplies 41.5% of the world's electricity generation. Asia is the largest consumer, accounting for 54% of global coal demand, led by China. However, the top 5 individual coal producing countries are geographically diverse: China, the US, India, Australia and South Africa. Most coal is consumed domestically; only around 18% of global hard coal production is exported. Page 37 Commodities Initiation Report 25-11-09 The global coal market grew by 20.7% to USD338.6 bn in 2008 and is expected to reach USD610.2 bn by 2013 at a CAGR of 13%. In volume terms, the global coal market grew by 4.6% in 2008 to 6 bn tonnes and is expected to reach 8 bn tonnes by 2013 at a CAGR of 6% Source: Datamonitor. Exhibit 45: Coal demand by sector (2002) Exhibit 46: Coal demand by sector (2030E) 3% 12% 8% 12% 1% 16% 69% 79% Power generation Industry Other Residential Power generation Industry Other Residential Source: WCI, IEA Driven by the Asian market, coal is expected to hold its share among fuels used for electricity generation. Steel production will be another key demand growth driver, led by the construction, infrastructure and auto sectors in Asian countries. While demand for steam coal is projected to grow by 1.5% per year during 2002-2030, demand for coking coal is expected to increase by 0.9% per year Source: World Coal Institute. Key growth drivers Worldsteel’s October forecast of an 8.6% decline in Apparent Steel Use (ASU) in 2009 is nevertheless an improvement from its April forecast of a 14.1% decline. Worldsteel forecasts 9.2% growth in ASU to 1,206 Mt in 2010, implying a recovery to 2008 levels. While the US, the Eurozone, India, Japan and South Korea are expected to see double digit growth, China’s ASU growth in 2010 is expected to slow to 5% due to a high base effect following growth of almost 19% in 2009, which was fuelled by the government stimulus program Source: Worldsteel. With major world economies showing signs of a recovery and industrial production picking up, demand for thermal coal for electricity generation should see healthy growth in the near future. India in particular, as an electricity deficit country with a coal-oriented electricity infrastructure, will be a major driver of demand for thermal coal. Electricity generation in non-OECD Asia, where two-thirds of total electricity is generated from coal, is expected to increase from 4.4 tn kWh in 2006 to 7.3 tn kWh by 2015. Non-OECD Asian countries are expected to account for 90% of projected growth in world coal consumption during 2006-2030 Source: EIA. Coal reserves Recoverable coal reserves are found in over 70 countries, led by the US, Russia, China, India and Australia, which together account for more than 75% of the world’s total proven reserves as of 2006. Regionally, the Asia-Pacific (led by China, India and Australia), Eurasia (led by Russia, Ukraine and Kazakhstan) and the US have the largest share of world coal reserves. As of 2008, R/P ratios suggested that the world's coal reserves would last for 122 more years. Page 38 Commodities Initiation Report 25-11-09 Exhibit 47: World coal reserves 2008 Country / Region US North Am erica South & Central Am erica Russian Federation Ukraine Kazakhstan Europe & Eurasia South Africa Africa & Middle East China India Australia Asia Pacific World Source: BP Statistical Review, June 2009 Proved reserves (Mt) 238,308 246,097 15,006 157,010 33,873 31,300 272,246 30,408 33,399 114,500 58,600 76,200 259,253 826,001 Share 28.9% 29.8% 1.8% 19.0% 4.1% 3.8% 33.0% 3.7% 4.0% 13.9% 7.1% 9.2% 31.4% 100.0% R/P ratio 224 216 172 481 438 273 218 121 131 41 114 190 64 122 Coal and climate change Due to its relatively low cost and worldwide abundance, coal is likely to remain the key fossil fuel for power generation for many years to come. As a result, there is a concerted effort to develop technologies to reduce or eliminate emissions of CO2 and other GHGs in coal-fired electricity generation plants. While the interest and investment in the development of clean coal technologies is a consequence of coal’s widespread availability and lower cost, further advancements in clean coal technologies also bode well for the coal industry and are likely to result in an increased interest in coal as the preferred fuel for electricity generation in the longer term. Carbon Capture & Storage (CCS) CCS has the potential to cut CO2 emissions by 80%-90%. CCS technology involves the capture of CO2 and indefinite storage in geological formations so that it is not released into the atmosphere. Using CCS technology, CO2 can be pumped into near depleted oil and gas fields for enhanced oil recovery (EOR), prolonging the life of oil and gas fields. CCS has been demonstrated successfully at a number of small-scale coal-fired electricity plants around the world. However, a fully integrated large-scale demonstration plant has yet to become operational, with 2020 being the target date for commercial readiness for fully-integrated coal CCS plants. ZeroGen, the first commercial-scale coal-fired Integrated Gasification Combined Cycle (IGCC)-CCS power plant, is expected to come on-stream in Queensland, Australia in 2015. Several other commercial-scale plants have been proposed for commissioning up to 2020, the majority of which are in the UK, Europe, Australia and the US. Page 39 Commodities Initiation Report 25-11-09 Exhibit 48: Some upcoming commercial-scale, integrated, coal-fired CCS projects Project ZeroGen Hydrogen Energy - BP and Rio Tinto GreenGen Dynam is - Hypogen RWE Vattenfall Progressive Energy Pow erfuel E.ON E.ON RWE nPow er Carson Project FutureGen Source: WCI, 2007; primary sources Location Australia Australia China Europe Germ any Germ any UK UK UK UK UK US US Generation capacity 530 MW 500 MW 250 MW 250 MW 400-450 MW 250 MW 800 MW 900 MW 450 MW 2 X 800 MW 1000 MW 500 MW 275 MW Technology IGCC-CCS CCS IGCC-CCS CCS IGCC-CCS CCS IGCC-CCS, EOR IGCC-CCS IGCC-CCS CCS CCS CCS IGCC-CCS Efficiency improvements Increasing the efficiency of coal-fired electricity generation plant results in lower CO2 emissions, while making the plants more suitable for CCS retrofits. Considerable efforts are being put into this area, with the aim of replacing existing plants over a period of 10-20 years with high efficiency supercritical (SC) and ultra-supercritical (USC) plants. Each one percentage-point increase in the efficiency of a conventional pulverized coal-fired (PCF) plant can result in up to a 2%3% reduction in CO2 emissions. While a conventional PCF plant can achieve an efficiency level of 39% at the higher end, a SC plant can achieve up to 46% efficiency and a USC can reach 50%-55% efficiency. Integrated Gasification Combined Cycle (IGCC) IGCC technology combines coal with oxygen and steam to produce syngas (a mixture of H2 and CO), which is then used in a gas turbine to produce electricity. Waste heat generated in the gas turbine can then be reused to produce steam to drive turbines, generating additional electricity. As of 2007, there were four commercial-scale, coal-based IGCC demonstration plants in operation around the world. IGCC can be integrated with CCS systems, and most proposed CCS projects include IGCC technology. The main challenge in commercializing IGCC is its significant cost premium (20%25%) over conventional PCF plants. However, industry players expect this premium to decline to 10% upon deployment, through design and engineering cost savings, optimization of the integration technology, gains derived from operating experience, and the establishment of a supply chain with enhanced volume and standard components Source: GE Energy. Exhibit 49: Commercial-scale, coal-based IGCC demonstration plants Location Buggenum , Netherlands Polk, US Puertollano, Spain Wabash, US Source: WCI, 2007 Fuel Coal / Biom ass Coal / Petcoke Coal / Petcoke Coal / Petcoke Generation capacity 250 MW 250 MW 335 MW 260 MW Com m encem ent of operation 1994 1996 1997 1995 Underground Coal Gasification (UCG) In this in-situ gasification process, air or oxygen is injected into a coal seam, resulting in conversion of un-mined coal into a combustible gas which can then be extracted for use in power generation or industrial heating. Although this technology has great potential, its use remains limited to a few relatively minor projects, as the process needs further improvement for larger scale implementation. Page 40 Commodities Initiation Report 25-11-09 Coal Mine Methane (CMM) While 14% of global GHG emissions are accounted for by methane, coal mining’s share in global anthropogenic methane emissions stands at 9%. Methane trapped in coal mines can, however, be recovered and used commercially, either through transmission by pipelines or use as a power generation fuel at mine site power stations. While CMM or coal bed methane (CBM) is already an important source of energy in the US and Australia, other countries are also gradually recognizing its potential. Key players Some of the largest companies in the Coal & Consumable Fuels primary industry are listed in China, the US and Australia. China Shenhua Energy Co. is the largest company in the industry by market cap and revenues. Outside of the Coal & Consumable Fuels primary industry, other major coal producers include mining majors Rio Tinto, BHP Billiton and Vale. Exhibit 50: Top 10 traded companies in the Coal & Consumable Fuels primary industry Com pany China Shenhua Energy Co. Ltd. (SEHK:1088) China Coal Energy Com pany Lim ited (SEHK:1898) Shanxi Xishan Coal and Electricity Pow er Co. Ltd. (SZSE:000983) Cam eco Corp. (TSX:CCO) Peabody Energy Corp. (NYSE:BTU) CONSOL Energy Inc. (NYSE:CNX) Shanxi Lu'an Environm ental Energy Developm ent Co., Ltd. (SHSE:601699) Yanzhou Coal Mining Co. Ltd. (SEHK:1171) Coal & Allied Industries Ltd. (ASX:CNA) Pingdingshan Tianan Coal Mining Co., Ltd. (SHSE:601666) Coal & Consum able Fuels industry Source: Capital IQ TTM Market cap EV revenues (USD m n) (USD m n) (USD m n) 101,626 23,505 14,538 12,513 11,928 9,773 8,955 8,934 6,792 6,651 332,370 105,880 20,513 14,893 14,504 13,071 8,323 10,043 8,986 6,601 6,334 347,092 17,245 7,081 1,840 6,385 2,858 3,056 4,602 2,493 2,382 2,906 117,161 TTM EBITDA (USD m n) 8,088 1,566 651 1,460 727 736 1,317 637 405 527 34,073 EV / TTM EV / TTM revenues EBITDA 6.1x 2.9x 8.1x 2.3x 4.6x 2.7x 2.2x 3.6x 2.8x 2.2x 3.4x 13.1x 13.1x 22.9x 9.9x 18.0x 11.3x 7.6x 14.1x 16.3x 12.0x 12.0x TTM P/E 23.6x 25.5x 36.2x 20.3x 23.0x 23.5x 15.8x 21.5x 31.7x 23.4x 27.7x International coal trade Although most coal is consumed domestically, it is also one of the 5 main bulk commodities traded globally, and the number two seaborne dry bulk in terms of ton-miles after iron ore (3,750 bn ton-miles in comparison to 4,790 bn for iron ore in 2007). The share of coal in overall seaborne trade stood at 11%, while its share of total dry bulk seaborne trade stood at 18% in 2007. The primary destinations for both thermal and coking coal are the EU and Japan, which accounted for more than half of global coal imports in 2007. While Indonesia is the largest thermal coal exporter in the world (Indonesia and Australia together accounted for more than half of global thermal coal exports in 2007), Australia leads in coking coal exports Sources: UNCTAD, World Coal Institute. Chinese demand for coking coal has rebounded strongly this year, with a fivefold increase in imports on a y-o-y basis to 26 Mt for the first nine months of 2009. Total coal imports by China more than doubled during the same period to 86 Mt. As a result, China is expected to become a net importer of coal this year, which should lead to a structural change in the international coal market. NYSE-listed coal major Peabody Energy, with assets in Australia, has already set up a trading hub in Singapore and a representative office in Jakarta in order to facilitate expanding trading opportunities for the company in the Asia-Pacific region. We expect continued growth in Chinese demand for thermal and coking coal with rising demand for electricity and increase in steel production leading to enhanced trading opportunities in coal. Page 41 Commodities Initiation Report 25-11-09 Exhibit 51: Largest coal exporters (2008) 250 200 150 Mt 100 50 0 Australia Indonesia Russia Colombia US South Africa China Coking coal Steam coal Source: WCI Exhibit 52: Largest coal importers (2008) 200 180 160 140 120 Mt 100 80 60 40 20 0 Japan Korea Taiwan India Germany Steam coal China UK Coking coal Source: WCI Industry transaction activity The Coal & Consumable Fuels primary industry has seen brisk activity in both M&A activities and fundraising from the public markets this year. While M&A activities in fact grew in 2008, there was a significant drop in the number of public offerings following the global economic downturn. This year, the industry has seen 38 public offerings (excluding the recent IPO of Rio Tinto’s US coal mining unit Cloud Peak Energy) so far, up from only 18 last year. Exhibit 53: M&A deal value in the Coal & Consumable Fuels primary industry 15.0 13.0 11.0 9.0 7.0 5.0 2005 2006 2007 2008 2009-YTD Source: Capital IQ USD bn Page 42 Commodities Initiation Report 25-11-09 Exhibit 54: No. of public offerings in the Coal & Consumable Fuels primary industry 50 40 30 20 10 2005 2006 2007 2008 2009-YTD Source: Capital IQ In the first three quarters of 2009, Chinese companies completed 61 M&A deals (across sectors) with a value of USD21.2 bn. In 2010, Chinese M&A activity is expected to focus on the energy and metals & mining space as the world’s fastest-growing large economy seeks to enhance its energy and supply security. While China has the world's thirdlargest coal reserves, it is the world's biggest producer, which puts it in a precarious situation with regards to reserve depletion; China's R/P ratio of just 41 years is the lowest of the major coal producers (compared to 481 for Russia, 224 for the US and 190 for Australia). Therefore, we expect Chinese acquisitions of foreign coal assets to increase. Moreover, despite the rally in commodity prices in recent months, valuations remain cheap compared to the pre-crisis period, which Chinese players are likely to capitalize on over the near-to-medium term. Yanzhou Coal Mining Co.’s (Yanzhou) USD2.9 bn acquisition bid for Felix Resources of Australia is the first big-ticket bid in the Coal & Consumable Fuels industry in 2009. If successful, it will also be China’s biggest acquisition in Australia. Below, we compare the proposed Yanzhou-Felix deal with valuations for other industry firms listed on the ASX and the NYSE. Based on consensus June 2011 estimates, the Yanzhou-Felix deal does not look overly expensive; transaction multiples are below 3-year average multiples, which illustrates that valuations are still attractive compared to the preslowdown period. Exhibit 55: Yanzhou-Felix transaction multiples Multiple EV-to-Sales EV-to-EBITDA P/BV FY 2010E 6.08 17.15 4.93 FY 2011E 3.86 9.61 4.20 Source: Capital IQ, Bloomberg, IIR Group Exhibit 56: EV-to-Sales multiples Com pany Coal & Allied Industries Ltd. Felix Resources Ltd. Yanzhou Coal Mining Co. Ltd. Peabody Energy Corp. Whitehaven Coal Ltd. CONSOL Energy Ltd. Peer group average Source: Bloomberg, IIR Group 3 year range 2.08 - 7.55 1.48 - 17.21 1.12 - 7.88 1.24 - 5.64 1.38 - 18.20 1.05 - 6.16 N/A 3 year average 4.47 5.36 3.80 3.15 6.27 2.55 4.27 1 year range 2.08 - 4.90 1.48 - 4.00 1.14 - 4.20 1.24 - 2.30 1.38 - 5.15 1.05 - 2.30 N/A 1 year average 2.63 2.98 2.40 1.64 3.00 1.63 2.38 Current 2.19 3.75 4.20 2.25 4.23 2.16 3.13 2 year forw ard 3.44 3.58 3.40 2.20 3.94 1.99 3.09 Page 43 Commodities Initiation Report 25-11-09 Exhibit 57: EV-to-EBITDA multiples Com pany Coal & Allied Industries Ltd. Felix Resources Ltd. Yanzhou Coal Mining Co. Ltd. Peabody Energy Corp. Whitehaven Coal Ltd. CONSOL Energy Ltd. Peer group average Source: Bloomberg, IIR Group Exhibit 58: P/BV multiples 3 year range 4.50 - 55.51 2.33 - 5.92 2.55 - 21.41 4.58 - 31.05 46.93 4.82 - 43.42 N/A 3 year average 21.99 4.14 10.01 14.77 52.39 14.23 19.59 1 year range 4.50 - 18.86 2.33 - 5.92 2.79 - 12.10 4.58 - 9.66 0.00 - 0.00 4.82 - 9.43 N/A 1 year average 6.62 4.14 6.40 6.20 N/A 7.08 6.09 Current 4.73 4.64 12.10 9.47 N/A 8.46 7.88 2 year forw ard 10.90 8.07 9.75 9.53 14.45 7.04 9.96 Com pany Coal & Allied Industries Ltd. Felix Resources Ltd. Yanzhou Coal Mining Co. Ltd. Peabody Energy Corp. Whitehaven Coal Ltd. CONSOL Energy Ltd. Peer group average Source: Bloomberg, IIR Group 3 year range 4.01 - 11.29 1.61 - 8.86 0.52 - 4.10 1.49 - 8.92 0.58 - 5.89 2.35 - 17.39 N/A 3 year average 7.11 3.47 2.06 4.26 2.47 6.76 4.36 1 year range 4.01 - 8.22 1.61 - 4.70 0.58 - 2.47 1.49 - 3.33 0.71 - 2.56 2.35 - 5.14 N/A 1 year average 5.14 3.38 1.38 2.45 1.65 3.81 2.97 Current 4.92 4.67 2.43 3.25 2.51 4.79 3.76 2 year forw ard 3.84 3.97 1.99 2.84 1.99 3.41 3.01 Some of the largest M&A deals completed in the last 12 months include the merger of Foundation Coal Holdings with Alpha Natural Resources and the acquisition of Prodeco’s Colombian coal assets by the world’s largest exporter of thermal coal, Xstrata plc. The following tables list some of the largest transaction activities in the Coal & Consumable Fuels industry over the past 12 months. Exhibit 59: Largest 10 M&A deals in the last 12 months Target com pany Foundation Coal Holdings Inc. Prodeco Rio Tinto Energy Am erica, Inc., Jacobs Ranch Mine PT Bukit Makm ur Mandiri Utam a Mitteldeutsche Braunkohlengesellschaft m bH Pangaea Group of Com panies, Exploration Perm it ATP 788P Bogatyr and Severny coal assets Coal & Allied Industries Ltd. (ASX:CNA) Cem entos Argos, Export Coal and Logistic Assets Gloucester Coal Ltd. (ASX:GCL) Source: Capital IQ Transaction value (USD m n) 2,062.3 2,000.0 764.0 550.0 514.8 468.4 345.0 311.1 305.8 302.9 Buyer / investor Alpha Natural Resources, Inc. (NYSE:ANR) Xstrata plc (LSE:XTA) Arch Coal Inc. (NYSE:ACI) PT Delta Dunia Petroindo Tbk (JKSE:DOID) Severoceske Doly AS; J&T Finance Group, A.S. Origin Energy Ltd. (ASX:ORG) JSC Sam ruk-Energo N/A Vale S.A. (BOVESPA:VALE5) Noble Group Ltd. (SGX:N21) Page 44 Commodities Initiation Report 25-11-09 Exhibit 60: Largest 10 private placements in the last 12 months Issuer SouthGobi Energy Resources Ltd. (TSXV:SGQ) Murray Energy Corporation Paladin Energy, Ltd. (ASX:PDN) Straits Asia Resources Lim ited (SGX:AJ1) Drum m ond Com pany, Inc. NRP (Operating) LLC Whitehaven Coal Lim ited (ASX:WHC) Denison Mines Corp. (TSX:DML) Solazym e, Inc. Transaction value (USD m n) 500 494 369 300 245 200 155 82 Investor Fullbloom Investm ent Corporation N/A N/A Standard Chartered Bank Singapore N/A N/A N/A Korea Electric Pow er Corp. (KOSE:A015760) Harris & Harris Group, Inc. (NasdaqGM:TINY); VantagePoint Venture Partners; The Roda Group; Lightspeed Venture Partners; Braem ar Energy Ventures Waterland Private Equity Investm ents BV 57 Biom ethanol Chem ie Nederland B.V. 45 Source: Capital IQ Exhibit 61: Largest 10 public offerings in the last 12 months Issuer Cam eco Corp. (TSX:CCO) Arch Coal Inc. (NYSE:ACI) UK Coal plc (LSE:UKC) Lubelski Wegiel Bogdanka S.A. (WSE:LWB) Penn Virginia GP Holdings LP (NYSE:PVG) Patriot Coal Corporation (NYSE:PCX) China Qinfa Group Lim ited (SEHK:866) Denison Mines Corp. (TSX:DML) Mega Uranium Ltd. (TSX:MGA) Extract Resources Ltd. (ASX:EXT) Source: Capital IQ Issue size (USD m n) 321 298 169 164 107 95 81 72 48 44 Outlook Our outlook for coal is upbeat, with definite signs of recovery in the global economy expected to support demand for thermal coal in electricity generation. While most growth will be accounted for by emerging economies, particularly China and India, there will be support from the US, with 4,300 MW of new coal-fired generation capacity coming on-stream there by the end of 2010, and overall increase in US electricity generation as the economy recovers. Demand for coking coal will also continue to see strong growth in 2010, as we believe only a fraction of China’s incremental procurement of met coal this year has been stockpiled, with the ramping up of Chinese steel production and closing of small coal mines in the Shanxi province. The 42.4% y-o-y increase in Chinese steel production in October 2009 Source: Worldsteel indicates an expectation that Chinese steel demand is sustainable. We also believe the secondary inventory build up is not sufficient to stunt the recovery in the industry, as we continue to see growth in Chinese steel production through 2010, as well as an increase in utilization rates at steel plants in Japan, South Korea, the US and Europe. Prices are expected to remain firm with an upward bias, based on healthy demand expectations and a reduction in primary inventory, led by the early recovery in demand and production cuts in 2009. Page 45 Commodities Initiation Report 25-11-09 URANIUM Nuclear energy’s share in the global Total Primary Energy Supply (TPES) was 6.3% in 2005, up from less than 1% in 1973, giving it the biggest jump (+5.4 ppts) in TPES share over the same period, ahead of natural gas (+4.7 ppts). Among OECD countries, nuclear energy's TPES share grew at an even stronger rate (+9.7 ppts to 11%). While the US leads the world in nuclear electricity generation (with 29% of world production), France is the country most heavily reliant on nuclear energy, with 79% of its domestic electricity supply coming from nuclear fuel in 2005 Source: IEA. From 1980 to 2007, nuclear electricity generation grew at a CAGR of 5.1%, peaking at 15.8% between 1980 and 1985 but falling to just 1.9% between 1989 and 2007 Source: EIA. This is attributable to a decline in the growth rate of electricity generation in Europe and North America during the period, low crude oil prices between 1986 and 1999 shifting the focus away from nuclear power, a focus on cleaner technologies and steady growth in thermal electricity generation. Furthermore, concerns regarding safety, technology transfer and supply of nuclear fuel, coupled with significant capex requirements, have limited the uptake of nuclear energy beyond the developed world and the former Soviet Union. The world's major producers of uranium include Canada, Australia, the former Soviet states of Russia, Kazakhstan and Uzbekistan, and Africa's Namibia and Niger. Exhibit 62: World uranium production in 2008 3% 5% 7% 8% 10% 20% 7% 21% 19% Canada Namibia Uzbekistan Kazakhstan Russia US Australia Niger Rest of the world Source: www.wise-uranium.org Key growth drivers According to the EIA’s projections, nuclear power generation will reach a CAGR of 1.5% during 2006-2030, hitting 3.8 tn KWh. Once again, non-OECD Asia is expected to lead this growth, with a CAGR of 7.8%, including 8.9% in China and 9.9% in India Source: EIA. This growth will be partially offset by easing in countries such as Germany and Belgium, where there are plans to phase out nuclear programs in favour of renewables. Uranium resources Uranium is relatively abundant in the earth’s crust, as common as tin and zinc. The 15% increase in known uranium resources in the two years to 2007 illustrates that there may be significantly more uranium resources than already known. As prices rise, the recoverable resource base will also grow, as extraction of certain resources becomes economically viable. Australia currently has the largest recoverable uranium resources in the world, followed by Kazakhstan and Russia. With a current usage rate of 65,000 tU per annum, the present known recoverable resource base would last 82 years more. Page 46 Commodities Initiation Report 25-11-09 Exhibit 63: Known recoverable uranium resource (as of 2007) Country Australia Kazakhstan Russia South Africa Canada US Brazil Nam ibia Niger Ukraine Jordan Uzbekistan India China Mongolia Others World Source: WNA Resource (tU) 1,243,000 817,000 546,000 435,000 423,000 342,000 278,000 275,000 274,000 200,000 112,000 111,000 73,000 68,000 62,000 210,000 5,469,000 Share 23% 15% 10% 8% 8% 6% 5% 5% 5% 4% 2% 2% 1% 1% 1% 4% 100% Uranium exploration Historically, there have been only two uranium exploration cycles: the first took place between 1945 and 1958, driven by military needs; the second occurred during 1974 and 1983, reflecting civil nuclear power requirements. Global uranium exploration expenditure amounted to USD774 mn in 2006 and remained flat in 2007. According to the WNA, a third exploration cycle (2003-2009) will see spending of USD3.4 bn on exploration and deposit delineation across 600 projects. During this period, more than 400 junior mining companies were either formed or changed their orientation, raising over USD2 bn for exploration activities. Growth in exploration expenditure has led to a threefold increase in known uranium resources since 1975. However, at current price levels, we do not anticipate significant further investment in new mine exploration. Key players The supply of uranium is highly concentrated, with the world's top 10 uranium mining companies accounting for 87% of global production. The world’s top 10 uranium mines are owned by Cameco, Rio Tinto, BHP Billiton, ARMZ, AREVA and Uranium One. Cameco’s McArthur River mine in Canada is the world’s largest uranium mine in terms of production (15% of the world uranium production in 2008) and accounts for almost all of the company’s uranium output. Rio Tinto’s uranium production comes from its Ranger mine in Australia and Rössing mine in Namibia, the second and third largest mines in terms of production respectively. More than 60% of the world’s uranium production in 2008 came from the largest 10 mines. Page 47 Commodities Initiation Report 25-11-09 Exhibit 64: The world’s largest uranium producers (2008) Com pany Rio Tinto Cam eco AREVA KazAtom Prom ARMZ BHP Billiton Navoi Uranium One Paladin General Atom ics Top 10 World total Source: WNA Production (tU) 7,975 6,659 6,318 5,328 3,688 3,344 2,338 1,107 917 636 38,310 43,930 Share 18% 15% 14% 12% 8% 8% 5% 3% 2% 1% 87% 100% International uranium trade The world’s major uranium exporting countries include Australia, Canada, Russia, Canada, Namibia and Niger, while major importers include France, Japan and the US. With the US and Europe together accounting for 66% of the world’s supply of nuclear electricity these two regions act as a key driver for international trade in uranium. Geographically the other two important demand drivers of uranium are Japan and South Korea. The EU imports uranium mainly from Canada, while Australia is the lead exporter of uranium to the US. The world’s leading two uranium exporters generate very little nuclear electricity between themselves. While Canada produces only 3% of the world’s total generation of nuclear electricity, Australia does not generate any nuclear electricity at all. Whereas most production of coal goes towards domestic consumption, the world's major uranium consumers produce little of their uranium requirements domestically, relying instead on imports and exposing themselves to energy supply risks. The US, for example, is the world’s largest nuclear electricity generator (807 bn KWh or 31% of world production in 2007 according to the EIA), but it depends on uranium imports for 86% of its nuclear electricity generation. Exhibit 65: Origin countries of supply of uranium to US nuclear plants in 2008 Country Australia Russia Canada US Nam ibia Kazakhstan Others Total Source: www.wise-uranium.org Supply (MtU) 4,907 4,646 3,766 2,969 1,492 1,468 1,272 20,520 Share 24% 23% 18% 14% 7% 7% 6% 100% Page 48 Commodities Initiation Report 25-11-09 Exhibit 66: Origin countries of supply of uranium to EU nuclear plants in 2008 Country Canada Russia* Australia Niger Kazakhstan Uzbekistan Others Total * "Highly unreliable" figure according to Euratom Supply Agency Source: www.wise-uranium.org Supply (MtU) 4,757 3,272 2,992 1,862 1,072 1,070 3,597 18,622 Share 26% 18% 16% 10% 6% 6% 19% 100% Outlook While the world's nuclear electricity generation capacity is presently concentrated in the US and EU, future capacity growth is expected to be led by emerging economies in Asia and Eastern Europe. According to the IAEA, 52 new reactors were under construction as of 01 August 2009, with a cumulative capacity of 46 GW. 36 of these 52 new reactors are being built in China, India, Russia and South Korea. However, half of these projects have already run into construction delays. While the mean age of the 435 reactors in operation around the world is 25 years, the mean life of the 123 reactors which have already been shut down is 22 years. Although the average age of nuclear power plants in operation has steadily risen over the years, the long life of some of the 123 shut reactors (26 operated for 30+ years and 15 operated for 40+ years) cannot be replicated, especially in smaller reactors with very low burn-up fuel. Notwithstanding the lack of visibility on the replacement of ageing reactors and delays encountered by many of the new units under construction, the long term potential of nuclear electricity continues to be healthy, with most of the new demand expected to come from emerging markets. In the near-to-medium term we believe robust growth in Chinese nuclear power generation will act as the key growth driver for uranium while supply bottlenecks will keep the demandsupply situation tight. However, we do not anticipate significant growth in uranium exploration activity at current price levels. Prices should continue to receive support in the near term from the outage at BHP Billiton’s Olympic Dam mine in Australia (the world’s fourth largest uranium mine accounting for more than 7% of 2008 production). However, prices may see some softness in 2010 with the resumption of full-scale activity at Olympic Dam and the US DOE’s planned sale of uranium from its stockpile. 5.4. Ferrous & Base Metals Chemically, all naturally occurring non-ferrous elements which react with diluted acid to form hydrogen, are known as base metals. Base metals are ductile and malleable, having high tensile strength and good conductivity for heat and electricity. Base metals are abundant in the earth's crust, relative to bullions, with aluminium comprising approximately one twelfth of the crust. Due to their inherent characteristics and widespread availability, base metals are used as key inputs in many areas including the automotive, construction, infrastructure and packaging industries. Aluminium and copper are the most economically significant base metals, while others like lead, nickel, tin and zinc have more specialized uses. The ferrous metals sector, which comprises iron and steel (which have similar properties to base metals) also plays a major role in secondary industries, and accounts for the greatest share of revenues in the metals and mining industry. STEEL The steel industry is the largest segment of the global metals and mining industry in terms of revenues. Global steel output grew at a CAGR of 4.9% from 1996 to 1,327 Mt in 2008. The global steel market is highly competitive and fragmented. In 2008, the top 10 global steel producers contributed only 27.9% of total steel output, led by Arcelor Mittal (7.7%), Nippon Steel (2.8%) and China’s Baosteel Group (2.7%). Geographically, China is the driving force behind growth in the steel industry, being the biggest producer and consumer of steel, contributing 37.7% of world steel production in 2008. Few steel players are integrated, with a small number of exceptions such as US Steel and Tata Steel, strengthening miners' market power in the supply chain. Over the longer term, steel is expected to face strong competition from aluminium, plastics and advanced carbon allotropes such as fullerene. Aluminium and plastics are already being used as steel substitutes in key consuming industries such as automotive, packaging and transportation, due to their low weight and high durability. Page 49 Commodities Initiation Report 25-11-09 Exhibit 67: Key market players in steel industry (All figures are in USD mn except ratios) Com pany Arcelor Mittal POSCO Com panhia Siderurgica Nacional Nippon Steel Corp. Gerdau S.A. Baoshan Iron & Steel Co., Ltd. JFE Holdings Inc. ThyssenKrupp AG OJSC Novolipetsk Steel Steel Authority of India Ltd. Source: Capital IQ Market Cap 55,607 35,339 26,630 23,661 23,417 18,924 17,828 16,315 15,403 15,456 EV 81,461 40,100 30,074 44,328 32,071 27,097 34,822 20,714 16,092 13,123 TTM Revenues 68,557 34,848 6,647 41,629 17,395 21,548 34,628 66,706 8,401 9,499 TTM EBITDA 702 5,970 2,654 3,672 2,398 1,797 4,211 2,045 2,348 1,639 EV/TTM Revenue 1.2x 1.2x 4.5x 1.1x 1.8x 1.3x 1.0x 0.3x 1.9x 1.4x EV/TTM EBITDA 115.1x 6.7x 11.3x 12.1x 13.4x 15.1x 8.3x 10.1x 6.9x 8.0x TTM P/E N/A 14.9x 7.8x N/A 66.0x N/A 106.8x N/A 30.5x 11.5x Exhibit 68: Geographic distribution of world steel production (2008) Others 9.2% Other Asia 7.2% China 37.7% EU (27) 14.9% NAFTA 9.3% CIS 8.6% Japan 8.9% India 4.2% Source: World Steel Association Steel sector trends Demand-supply scenario World steel production and consumption grew at a CAGR of 6.5% and 6.2% respectively during 2003-2008, reflecting robust growth in infrastructure and construction activities in emerging economies, particularly China and India. However, amid the economic downturn beginning in 2H 08, this trend has been sharply reversed; full-year production and consumption growth figures dipped to -1.8% y-o-y (-3.5% y-o-y excluding China) and -0.9% y-o-y during 2008 Source: World Steel Association. This has prompted global steel producers to trim their production levels in order to maintain demand-supply equilibrium. Page 50 Commodities Initiation Report 25-11-09 Exhibit 69: Annual growth in steel production 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% -5.0% -10.0% 2002 World 2003 2004 2005 2006 2007 China 2008 World excluding China Source: World Steel Association The driving force: The Chinese steel industry In the world's fastest-growing large economy, driven by aggressive infrastructure and development plans, Chinese steel output grew at a CAGR of 18.7% to 500.5 Mt during 2001-2008. However, after the onset of the economic downturn in 2H 08, demand-led growth in production fell from 15.7% in 2007 to 2.3% in 2008. This sharp drop in demand has prompted Chinese steel producers to seek hefty cuts in annual contract rates for raw materials in 2009. Exhibit 70: Steel production and consumption trends 1,400 1,300 1,200 1,100 1,000 900 800 2003 2004 2005 2006 2007 2008 World steel production (Mt) World steel consumption (Mt) Source: World Steel Association Key developments With the recent downturn in the global economy, developing country governments have unveiled a range of infrastructure- and development-related stimulus packages to support an economic recovery. This includes the RMB4 tn (USD586 bn) stimulus package in China, which led to the re-commissioning of idle steel mills and a new peak in Chinese steel production in August 2009. This depleted the country's iron ore stockpile, driving iron ore prices up from a low of Page 51 Commodities Initiation Report 25-11-09 USD59.1 per in March 2009 to USD86 per tonne as of October 2009. Meanwhile, hot-rolled coil prices have rebounded from a low of USD382 per tonne in June 2009 to USD551 per tonne as of October 2009. IRON ORE Iron ore is one of the main raw materials used in producing steel. World iron ore production grew at a CAGR of 7.9% during 1999-2008 to 1.7 bn Mt, led by Vale (17.7%), Rio Tinto (9.0%) and BHP Billiton (6.5%). China remained the world's biggest iron ore producer in 2008 (21.5%), followed by Australia (20.6%). Exhibit 71: Major iron ore producers (All figures are in USD mn except ratios) Com pany BHP Billiton plc* Vale S.A.* Rio Tinto plc* NMDC Lim ited * Diversified mining company Source: Capital IQ Market Cap 167,527 128,437 105,203 39,450 EV 173,835 140,373 146,174 33,265 TTM Revenues 50,535 31,547 45,918 1,498 TTM EBITDA 20,167 13,218 14,066 1,146 EV/TTM Revenue 3.4x 4.4x 3.2x 22.21 EV/TTM EBITDA 8.6x 10.6x 10.4x 29.02 TTM P/E 28.6x 21.7x 126.4x 45.8x Iron ore sector trends Demand-supply scenario Approximately 98% of global iron ore production is in turn used to manufacture steel, with 1.6 tonnes of iron required to produce 1 tonne of steel. Iron ore prices remained muted and range-bound between 1982 and 2002, before breaking out in 2003 in response to sharp growth in the Chinese steel industry. However, the recent economic downturn caused a slump in prices from a peak of USD132 per tonne in 2008 to USD60-USD65 per tonne in 2009. However, spot rates recovered in 2Q 09, as a new, stimulus-driven peak in Chinese steel production exhausted the country's iron ore stockpile. Exhibit 72: Contracted iron ore prices (USD per tonne) 140 120 100 80 60 40 20 0 1979 1984 1989 1994 1999 2004 Source: Econstats 2009 Page 52 Commodities Initiation Report 25-11-09 Exhibit 73: Spot iron ore prices (USD per tonne) 250 200 150 100 50 0 2005 2006 2006 2007 2008 2008 2009 Source: Econstats The price cartel The top three iron ore producers - Vale, Rio Tinto and BHP Billiton - together account for around one-third of global iron ore output, and control two-thirds of global seaborne iron ore trade. This effective cartel has been strengthened by the recent joint venture between BHP Billiton and Rio Tinto, combining their iron ore operations, as well as Aluminum Corporation of China’s failed bid to take a major stake in Rio Tinto. While contract rates negotiated each year between the mining companies and the Chinese steel lobby (CISA) have previously acted as a benchmark for global iron ore prices, this mechanism has come under mounting pressure during 2009, with mining companies refusing to accommodate Chinese demands for cuts of up to 40% y-o-y. As a result, Chinese steel producers have had to resort to spot markets in order to secure their iron ore requirements. Exhibit 74: Major players in global iron ore trade 31.5% 32.8% 17.1% Vale Rio Tinto BHP 18.6% Others Source: Raw Materials Group Page 53 Commodities Initiation Report 25-11-09 Outlook Large-scale capacity growth and the fragmented nature of the steel industry have weakened its fundamentals. Coupled with growing competition from substitutes, we are bearish long term on steel prices. However, over the near-to-medium term, we expect prices to be supported by government stimulus activity. Cartelized pricing and surge in steel consumption due to government stimulus spending on infrastructure will lead to surge in iron ore prices over the near to medium term. In line with this, we anticipate a sharp rise in annual contract rates for iron ore during 2010. However, the iron ore sector also faces a significant concentration risk, with almost its entire output dependent upon the condition of the steel sector. Therefore, over the longer term, we are also bearish on iron ore, particularly when demand for steel normalizes in China. Exhibit 75: Bloomberg price forecasts (USD/tonne) Com m odity Hot Rolled Steel Iron Ore Fines Copper Alum inium Source: Bloomberg Spot 535 105 6,766 1,997 1Q 10 529 N/A 5,950 1,828 2Q 10 544 N/A 5,750 1,866 3Q 10 556 N/A 5,900 1,900.00 2010 553 107 5,900 1887.00 2011 N/A 110 6,453 2226.00 2012 N/A 96 6,724 2384 2013 N/A N/A 6,283 2,300 Industry Transaction activity – Iron and Steel Although it remains fragmented, the steel industry has witnessed significant consolidation over the last 5 years, including the creation of Arcelor Mittal, Tata Steel's acquisition of Corus plc, as well as the amalgamation of a number of smallerscale Chinese producers with Baosteel. Meanwhile, the most significant activity in the iron ore sector has been the failed bid by Aluminum Corporation of China to take a major stake in Rio Tinto, and the subsequent formation of a joint venture between Rio Tinto and BHP Billiton. Meanwhile, Vedanta plc acquired India's Sesa Goa, and major steel producers such as Arcelor Mittal, Posco and Tata Steel have attempted to secure access to iron ore mines. The decline in commodity prices and drying up of capital following the financial crisis has dampened investment in the iron and steel sectors. Laden with a large and growing debt burden, iron and steel companies were forced to tap equity markets in order to service their debt. However, falling commodity prices depressed share prices, leading to dilution of equity at low price levels, further weakening prospects for long term investors. However, some signs of recovery have emerged, with iron and steel prices rebounding and Rio Tinto's successful USD15.2 bn public offering. Look for more steel companies to approach markets with offerings in future, as they attempt to de-leverage their balance sheets and fund their acquisition plans. Exhibit 76: Major iron and steel transactions over the past 5 years Date Jan-06 Oct-06 Feb-08 Jun-09 Mar-05 Mar-07 Jul-07 Dec-06 May-05 Oct-08 Target/Issuer Arcelor SA Corus Group Lim ited Rio Tinto plc Rio Tinto plc WMC Resources Ltd. Boehler-Uddeholm AG Chaparral Steel Com pany JSC Mikhaylovsky GOK Hylsam ex SA de CV Nacional Minerios S.A. Transaction Types Merger Acquisition Acquisition Public Offering Acquisition Acquisition Acquisition Acquisition Acquisition Private Placem ent Total Transaction Value (USD m n) 45,963 14,853 14,140 12,107 7,976 5,100 4,532 3,600 3,113 3,000 Buyers/Investors Mittal Steel Tata Steel Lim ited Alum inum Corporation Of China Lim ited N/A BHP Billiton plc Voestalpine AG Gerdau Am eristeel Corp. Lebedinsky Mining and Dressing Plant JSC The Techint Group Nisshin Steel Co. Ltd. ; Kobe Steel Ltd. Source: Capital IQ Page 54 Commodities Initiation Report 25-11-09 Exhibit 77: Largest 10 industry transactions in the last 12 months Date Jun-09 Apr-09 May-09 May-09 Sep-09 Jan-09 Apr-09 Feb-09 Feb-09 Jun-09 Target/Issuer Rio Tinto plc Arcelor Mittal Siderurgica Del Orinoco, C.A. Bluescope Steel Ltd. Vale Overseas Lim ited Usinas Siderúrgicas de Minas Gerais S.A. United States Steel Corp. Aricom plc Fortescue Metals Group Ltd. V. S. Dem po & Com pany Pvt. Ltd. Transaction Types Public Offering Public Offering Merger/Acquisition Public Offering Public Offering Merger/Acquisition Public Offering Merger/Acquisition Private Placem ent Merger/Acquisition Total Transaction Value (USD m n) 12,107 2,850 1,970 1,131 992 776 750 517 468 338 Buyers/Investors N/A N/A Corporacion Venezolana de Guayana N/A N/A Nippon Steel Corp. N/A Petropavlovsk PLC Hunan Valin Iron & Steel Group Co. Ltd. Sesa Goa Ltd. Source: Capital IQ COPPER Copper is used as a thermal conductor, an electrical conductor, a building material, and a constituent of various metal alloys. Global copper production increased at a CAGR of 2.6% to 18.2 mn tonnes during 1999-2008. Geographically, Chile and Peru are the biggest copper producers and exporters, with China being the largest consumer. In 2008, US miner Freeport-McMoRan Copper & Gold contributed 9.9% of total world copper production, followed by Chile’s stateowned Corporación Nacional del Cobre de Chile (Codelco, 8.5%). Demand-supply scenario Traditionally, copper has derived its value from its application as a conductor of electricity. However, the abundance and relatively low price of aluminium prompted rapid substitution. Copper demand remained depressed throughout the 1990s, but picked up from 2002, led by emerging markets, until the slump in commodity prices in 2H 08. Copper demand has recovered from its recent lows, with China beginning to rebuild inventories and Chinese copper mining companies recommissioning idle capacity. ALUMINIUM Aluminium is the world's most abundant metal, making up 8.3% of the earth's crust. Accordingly, it is widely used across a range of industries, including the automotive, construction and packaging sectors, which account for three-quarters of global aluminium demand. Due to its lightness and high tensile strength, it is rapidly displacing steel in the automotive industry, while it has already unseated copper as the preferred metal for conducting electricity. Aluminium production bases are spread across the globe, with China alone contributing more than one-third of global output. Worldwide production grew at a CAGR of 2.9% to 39.7 mn tonnes during 1998-2008. Geographically, China is the largest aluminium producer (34% of world production in 2008), followed by Russia (11%) and Canada (8%). Demand-supply scenario Demand for aluminium is pro-cyclical, as major end-markets such as the automotive and construction industries are highly susceptible to macroeconomic conditions. However, we see immense growth potential in light of the outlook for the aforementioned end-markets in emerging economies. However, aluminium is facing competition from substitutes such as glass, paper and plastics in the packaging industry, and advanced composites in construction and aerospace transportation. Supply conditions remain fundamentally weak due to the large resource base, high recycling rates, and large-scale capacity expansion over the last 5 years, especially in China. Page 55 Commodities Initiation Report 25-11-09 Dependence on energy The aluminium industry is among the most energy-intensive sectors in the world economy, accounting for approximately 3% of global electricity use. Typically, the smelting process releases 1.6 tonnes of CO2 per tonne of aluminium and another tonne of CO2 equivalents in fluorocarbon emissions. Therefore, rising energy costs are a significant concern for the industry, squeezing margins in recent years. Exhibit 78: Key players in the base metals sector (All figures are in USD mn except ratios) Com pany Rio Tinto plc* Freeport-McMoRan Copper & Gold Inc.** Alum inum Corporation Of China Lim ited Alcoa, Inc. Vedanta Resources Plc Norsk Hydro ASA China Zhongw ang Holdings National Alum inium Co. Ltd. Hindalco Industries Ltd. Shandong Nanshan Alum inum Co. Market Cap 105,203 34,889 15,427 12,998 10,718 8,509 5,337 5,240 4,745 2,447 EV 146,174 44,607 24,195 25,042 17,406 8,302 4,428 9,743 2,537 TTM Revenues 45,918 12,497 9,226 18,694 6,579 12,859 1,726 920 14,137 982 TTM EBITDA 14,066 4,335 (49) 212 1,856 187 615 156 606 131 EV/TTM Revenue 3.2x 3.6x 2.6x 1.3x 2.65 0.6x 2.6x N/A 0.7x 2.6x EV/TTM EBITDA 10.4x 10.2x N/A 118.1x 9.38 44.4x 7.2x N/A 16.1x 19.4x TTM P/E 126.4x N/A N/A N/A 167.12 N/A 11.0x 41.3x 40.2x 50.7x *Diversified mining company with significant aluminium business, **Copper mining company Source: Capital IQ Base metal prices LME spot prices serve as a benchmark for base metals. Low demand and abundant supply kept prices depressed from the mid-1980s until the turn of the century. However, resurgence in infrastructure and construction activity in emerging economies began to stimulate price growth in 2002. Demand for aluminium and copper surged in the electrical industry, as emerging economies expanded their electricity generation and transmission grids. Demand was sharply hit in 2H 08 with the onset of the economic downturn, with projects being cancelled due to a shortage of capital. In turn, this led to a pile-up of inventories and a slump in metal prices to multi-year lows. Demand has since rebounded, with prices broadly doubling since their recent lows. Exhibit 79: LME copper price trend (USD per tonne) 10,000 9,000 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 LME Copper Spot Prices (USD per tonne) Source: Bloomberg 2009 Page 56 Commodities Initiation Report 25-11-09 Exhibit 80: LME aluminium price trend (USD per tonne) 3,500 3,000 2,500 2,000 1,500 1,000 500 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 LME Aluminium spot prices (USD per tonne) Source: Bloomberg Outlook We do not believe that demand fundamentals justify the sharp rise in base metal prices over recent months. Instead, we expect demand to trail levels observed during the previous commodity super-cycle, with the automotive, construction and electronics sectors still feeling the effects of the downturn; robust demand in emerging economies is expected to be offset by weakness in developed economies. Moreover, key players suffer from heavily-leveraged balance sheets, reducing their bargaining power; the fact that they must maintain cash flows at all times prevents them from lowering output, in effect making them price takers. Therefore, our near-to-medium term outlook is neutral with a negative bias. Over the longer term, however, we expect prices to climb robustly, led by higher demand from emerging markets and decommissioning of higher-cost plants, as well as growing substitution of aluminium for steel in the automotive and construction industries. Downside risks include the abundance of supply, high energy costs and high recycling rates. Exhibit 81: Bloomberg price forecasts (USD/tonne) Com m odity Hot Rolled Steel Iron Ore Fines Copper Alum inium Source: Bloomberg Spot 535 105 6,766 1,997 1Q 10 529 N/A 5,950 1,828 2Q 10 544 N/A 5,750 1,866 3Q 10 556 N/A 5,900 1,900.00 2010 553 107 5,900 1887.00 2011 N/A 110 6,453 2226.00 2009 2012 N/A 96 6,724 2384 2013 N/A N/A 6,283 2,300 Industry transaction activity – Base Metals Over the last 5 years, the base metals sector has seen a number of consolidation deals, including Rio Tinto’s acquisition of Alcan, the merger of various Eurasian aluminium mining companies to form Rusal, the consolidation of smaller aluminium companies into Aluminum Corporation of China, the acquisition of Phelps Dodge Corporation by FreeportMcMoRan and the acquisition of Novelis by Hindalco. Most of these deals were financed by debt, meaning that the downturn in commodity prices in 2H 08 has left some base metal companies unable to service debt repayments. Moreover, poor demand-supply dynamics and high operating costs have given investors cold feet, with cash calls from firms such as Hindalco receiving lukewarm responses. Meanwhile, although Rio Tinto successfully raised USD15.2 bn from its equity offering in June 2009, our view is that investors were betting on its iron mining operations rather than its aluminium operations. Therefore, going forward, we believe that base metals firms will continue to find it difficult to attract investment, especially in relation to their ferrous metal counterparts. Page 57 Commodities Initiation Report 25-11-09 Exhibit 82: Major base metals deals over the last 5 years Transaction Types Acquisition Acquisition Acquisition Acquisition Public Offering Public Offering Acquisition Acquisition Total Transaction Value (USD m n) 43,561 25,900 6,033 1,272 1,265 1,240 1,150 1,125 1,057 Date Jul-07 Mar-07 Feb-07 Sep-05 Apr-09 Nov-03 Apr-07 Mar-06 Mar-07 Target/Issuer Alcan, Inc. Phelps Dodge Corporation Novelis Inc. Sifa China Zhongw ang Holdings Ltd. Rio Tinto Alcan, Inc. Noranda Alum inum , Inc. Asia Alum inum Holdings Ltd. Buyers/Investors Rio Tinto Group Freeport-McMoran Corp. Hindalco Industries Ltd. Pernod-Ricard SA N/A N/A Noranda Alum inum Hold Corp. N/A N/A Alum inum Corporation Of China Ltd. Public Offering Source: Capital IQ 5.5. Gold & Other Precious Metals & Minerals GOLD Precious metals differ from other commodities by virtue of their non-destructive nature and high recycling rate. While other commodities like base metals and fossil fuels are consumed and depleted over time, gold has little industrial use (around 85% of gold demand is accounted for by jewellery and investment).Therefore, of the 163,000 tonnes of gold ever mined, 98% is still available for use. Jewellery accounts for half of the world's above-ground gold stock, while investment and central bank holdings account for over one-third. The top 3 holders of gold are the US, Germany and the IMF. Exhibit 83: Average gold supply flow (2004-2008) Exhibit 84: Average gold demand flow (2004-2008) 14% 28% 18% 60% 68% 12% Jewellery Investment Industry Mined Production Sales Recycled gold (scrap) Net Central Bank Sales Source: World Gold Council Source: World Gold Council Loosening of South Africa's grip and the rise of China South Africa has been a hub of gold mining for over a century, contributing more than half of the world's current aboveground gold stocks. However, reserve depletion and rising safety standards have led to a slide in gold mining activity in South Africa. From over two-thirds in the early 1970s (around 1,000 tonnes per annum) South Africa’s share of world gold production has gradually fallen to 9.8% as of 2008 (232 tonnes), with mining companies shifting focus to other markets. China has now become the world's largest producer of gold, contributing 12.2% of global output in 2008 (288 tonnes). Page 58 Commodities Initiation Report 25-11-09 Counter-cyclical price movement Gold derives most of its economic value from its use as a hedge against uncertainties, attracting investment during times of political or economic disruption. For example, events of the 1970s (stagflation, the Islamic revolution in Iran, the later stages of the Vietnam war, oil crises in 1973 and 1979) caused gold prices to soar beyond USD800 per oz (USD2,000 per oz, adjusted for inflation) in 1980. However, as economic and political conditions stabilized, gold prices slumped, only to recover at the turn of the century to coincide with the collapse of technology stocks in 2002. The 2008 financial crisis, which has been referred to as the most severe economic crisis since the Great Depression, provided renewed momentum. Considering gold's apparent tendency for counter-cyclical growth, there may be a slide from current levels once the global economic outlook brightens. Exhibit 85: Spot gold price trend 1600 1400 1200 1000 800 600 400 200 0 1980 1984 1988 1992 1996 2000 2004 Nominal Real-Inflation Adjusted Source: Bloomberg Role of central banks Production from new mines has only partially offset falling output from Africa and the US, leading to lower overall gold production. Approximately 2,400 tonnes of gold is being mined per annum at present, and we expect the gradual trend in production to continue over the near-to-medium term. However, secondary supplies from recycling and sales of gold by central banks have been on the rise since the early 1990s. Therefore, despite falling gold production, overall gold supplies have remained relatively flat. Exhibit 86: Gold supply breakdown (Tonnes) 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 2004A Hedging 2005A 2006A 2007A Scrap recycling 2008A Mine Supply 2009E Central bank sales Source: Bloomberg 2008 Page 59 Commodities Initiation Report 25-11-09 Key players Generally, gold mining becomes viable at rates higher than 0.5 grams of gold per tonne of ore. Gold exploration typically involves long lead times, and depletion of existing mines has raised capital requirements for new exploration. Excluding exploration costs, the cost of mining gold varies from USD300 to USD600 per oz, depending upon ore quality and labor costs. At current prices (above USD1,000 per ounce) existing gold producers are enjoying EBITDA margins of approximately 50%. The top three gold mining companies, Barrick Gold Corporation, Newmont Mining Corporation and AngloGold Ashanti Limited, produced 239 tonnes, 162 tonnes and 155 tonnes respectively in 2008, amounting to 32.6% of global gold output, illustrating the strong concentration ratio in the gold mining industry. Exhibit 87: Key gold industry players (All figures except ratios in USD mn) Com pany Barrick Gold Corporation Goldcorp Inc. New m ont Mining Corp. Zijin Mining Group Co. Ltd. AngloGold Ashanti Ltd. New crest Mining Ltd. Kinross Gold Corporation Gold Fields Ltd. OJSC Polyus Gold Agnico-Eagle Mines Ltd. Source: Capital IQ Market Cap 40,928 30,224 24,038 15,311 15,147 15,127 12,983 10,577 9,913 9,003 EV 39,930 30,113 27,664 15,765 15,641 15,243 13,315 11,812 9,252 9,449 TTM Revenues 8,062 2,415 6,587 2,637 3,764 2,322 2,198 4,084 1,020 461 TTM EBITDA 3,071 1,077 2,628 739 237 944 975 1,551 426 177 EV/TTM Revenues 5.0x 12.5x 4.2x 6.0x 4.2x 6.6x 6.1x 2.9x 9.1x 20.5x EV/TTM EBITDA 13.0x 28.0x 10.5x 21.3x 65.9x 16.1x 13.7x 7.6x 21.7x 53.5x TTM P/E N/A 22.7x 30.3x 30.9x N/A 64.4x N/A 29.3x 228.1x 147.9x Industry transaction activity Recently, gold mining companies have raised significant amounts of capital through public offerings and private placements of new shares. Barrick Gold raised USD3.5 bn in a public offering in order to square off its hedging positions on gold contracts, taking advantage of rising spot prices. Newmont, raised more than USD2 bn in order to acquire a majority interest in its joint venture mine with AngloGold. No major merger or acquisition activities have taken place in the gold mining industry of late, although there has been a high degree of restructuring. Exhibit 88: Largest ten industry transactions in the past 12 months Target/Issuer Barrick Gold Corporation AngloGold Ashanti Ltd. New m ont Mining Corp. New m ont Mining Corp. Boddington Project, W. Australia Goldcorp Inc. Barrick Gold Corporation Moto Goldm ines Lim ited New crest Mining Ltd. Kinross Gold Corporation Lihir Gold Ltd. Western Goldfields Inc. Source: Capital IQ Transaction type Public Offering Merger/Acquisition Public Offering Public Offering Merger/Acquisition Private Placem ent Public Offering Merger/Acquisition Private Placem ent Public Offering Private Placem ent Merger/Acquisition Transaction Value (USD m n) Buyer/Investor 3,501 N/A 1,277 1,110 1,087 990 774 739 565 513 361 333 311 Paulson & Co. Inc. N/A N/A New m ont Mining Corp. N/A N/A AngloGold Ashanti Ltd N/A N/A N/A N/A Seller N/A Anglo Am erican plc N/A N/A AngloGold Ashanti Ltd. N/A N/A Electrum Strategic Holdings N/A N/A N/A N/A Page 60 Commodities Initiation Report 25-11-09 Investment trends Weakening dollar and attempts to diversify forex reserves may support gold prices The weakening of the US dollar and attempts by various governments to diversify their forex reserves could provide support to gold prices, even in the event of an economic recovery. While India has already purchased 200 tonnes of gold from the IMF, China has also shown an inclination to increase its gold reserves in order to diversify its USD2 tn forex reserves. If China were to allocate 10% of its forex reserves to gold at current prices, it would need to purchase approximately 9,000t of gold, absorbing roughly 4 years of primary gold production and tightening the demand-supply balance. Exhibit 89: Largest holders of gold as of 19 November 2009 Rank 1 2 3 4 5 6 7 8 9 10 Country / Organisation United States Germ any IMF France Italy China Sw itzerland Japan Netherlands India Gold (tonnes) 8,134 3,413 3,017 2,487 2,452 1,054 1,040 765 613 558 Gold as % of forex reserves 78.9% 71.5% N/A 72.6% 66.5% 0.9% 41.1% 2.2% 61.7% 6.0% Source: World Gold Council, IMF Improving economic outlook to diminish gold’s hedging value Gold prices jumped in 2H 08 as prospects for the global economy deteriorated amid the financial crisis and investors sought a safe haven in safer assets such as Treasuries and gold. The high degree of uncertainty in markets at the time is reflected in the CBOE's Volatility Index (VIX), shown below. However, prompt action by key governments and central banks has helped to restore a measure of liquidity to markets. Exhibit 90: VIX trend 90 80 70 60 50 40 30 20 10 0 May-06 May-07 May-08 May-09 Feb-06 Feb-07 Feb-08 Nov-06 Aug-06 Nov-07 Aug-07 Nov-08 Aug-08 Feb-09 Nov-09 Aug-09 ' VIX Index Source: Bloomberg Today, with a general consensus forming that the world economy has bottomed out and that a recovery is emerging, capital is beginning to exhibit risk-seeking behaviour. Therefore, we anticipate a shift in portfolio allocation from gold to other asset classes, primarily equities, over the near-to-medium term. In our view, therefore, gold prices will peak in the near term and slide over the next few years. Page 61 Commodities Initiation Report 25-11-09 Exhibit 91: Bloomberg price forecasts Investm ent Gold (USD/oz) Expected Return Silver (USD/oz) Expected Return S&P 500 Expected Return NASDAQ Com posite Return FTSE 100 Expected Return Nikkei 225 Expected Return Source: Bloomberg Current 1,145 18.53 1,095 2,157 5,267 9,549 2010 1,041 (9.1%) 16.00 (13.7%) 1,139 4.0% 2,220 2.9% 5,620 6.7% 10,739 12.5% 2011 1,000 (12.7%) 15.30 (17.4%) 1,103 0.7% 2,198 1.9% 5,588 6.1% 11,127 16.5% SILVER Silver trails gold in the bullion market due to its relatively abundant resource base. Gold has traded at over 60 times silver over the last 10 years, while the global silver supply stood at 25,174 tonnes in 2008, compared to 3,770 tonnes for gold. Gold comprises 4 parts per mn (ppm) of the earth's crust, while silver accounts for 75 ppm. Industrial applications, primarily in electronics and photography, account for two-thirds of silver consumption, while the balance is used in discretionary applications such as jewellery, silverware and numismatics. Peru, Mexico and China account for around 60% of global silver production, while China, India and the US are the leading consumers (70% of industrial demand). Supply has been relatively stable As with most other commodities, silver mining's centre of gravity has been shifting towards China, away from other regions. While silver production from Mexican mines, previously the biggest contributor, is on the decline due to depletion of reserves, production from China and Australia has been increasing due to development of new projects. During 19992008, primary silver production from mining increased at a CAGR of 2.0% to 680.9 Moz. However, growth in silver mining has been offset by a fall in secondary supplies (government sales and scrap recycling) of 4.3% CAGR over the same period. As a result, silver supplies have remained relatively flat over the past decade. Exhibit 92: Breakdown of silver supply (Moz) 1,000 900 800 700 600 500 400 300 200 100 0 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Recycling Government Sales Mine Source: Silver Institute Page 62 Commodities Initiation Report 25-11-09 Demand scenario Unlike gold, silver is widely used in industry, especially in electronics and photography, as well as seeing jewellery and investment demand. Silver compounds, such as silver bromide and silver halides, are used in development of colour films. However, with the advent of digital photography, silver usage in the photography sector has declined steadily, from 228 Moz in 1999 to 105 Moz in 2008. Exhibit 93: Silver demand trend (Moz) 1,000 900 800 700 600 500 400 300 200 100 0 1999 2000 2001 2002 2003 2004 2005 2006 2007 Investment Jewellery, Silverware & Coins Photography Industrial Application Source: Silver Institute However, silver consumption in other industries has increased from 339 Moz in 1999 to 447 Moz in 2008, driven largely by electronic appliances. Because it has higher conductivity than base metals, silver is used as a conductor in a wide range of devices, from televisions to computers. It is also used in the coating of storage disks (CDs and DVDs). Silver consumption is also expected to be lifted by the growing popularity of silver batteries, at the expense of lithium batteries. With the advent of new technologies such as Radio Frequency Identification (RFID) and consumer preference for mobile devices, we are optimistic about silver demand for use in the electronics industry. However, overall growth will be limited by falling consumption in the photographic sector (with the recent move away from photograph development to digital storage). Meanwhile, higher silver prices could dent discretionary silver demand for jewellery. Supplies are expected to rise in the future as a result of growth in production in China and a potential surge in secondary supplies, as investors book profits on silver bets and shift into other asset classes. Supply fundamentals are further weakened by the industry's fragmented nature and a lack of large specialist players. The top 5 silver mining companies together accounted for 23.1% (158 Moz) of global primary supply in 2008, while many of the large players in the industry, such as BHP Billiton, are diversified and derive a relatively low share of revenues from silver operations. With these players focusing their bargaining activity on commodities which generate greater shares of total income, bargaining power in the silver industry is weak and players tend to be price takers. DIAMOND Diamonds are carbon allotropes formed under high pressure, high temperature conditions over long periods. They are amongst the strongest and sharpest naturally occurring substances. The relatively small share of natural diamonds with specific colour and clarity (around 20%) tend to be used in jewellery, while less aesthetically pleasing diamonds are used in industry for cutting and grinding, because of their hardness, as well as for their electrical conductivity and thermal resistance. Supplies were monopolized by De Beers during the twentieth century, however the discovery of new diamond mines in varied locations such as Australia, Russia and Canada has wrested control from the diamond giant. The industry is now joined by a number of players such as BHP Billiton, De Beers, Rio Tinto and Russia's Alrosa, although De Beers still holds a market share of more than 40%. Geographically, the world's major diamond mines are concentrated in southern Africa, which contributes roughly half of global supply. Australia, Canada and Russia have emerged as new supply centres with the discovery of new mines. Meanwhile, polishing and trading are concentrated in Antwerp, Belgium. However, Surat in western India, with its abundant cheap labour, is emerging as a rival hub for diamond processing. The value of a diamond depends on its carat weight, colour, cut and clarity. Therefore, there is no reliable, comprehensive benchmark for diamond prices. However, average diamond prices are tracked and reported in industry 2008 Page 63 Commodities Initiation Report 25-11-09 journals such as the Rapport Diamond Report, Ajediam Antwerp Diamonds Monthly and The Gem Guide. Diamond demand and prices rose during 2003-2008 as growth in disposable income boosted discretionary spending on items such as jewellery. However, the onset of the economic downturn in 2H 08 has limited discretionary spending, with prices reacting accordingly (see chart below). We anticipate a rebound as the global economic recovery takes hold. Exhibit 94: Average of all diamond indices 160 150 140 130 120 110 100 90 80 Nov-02 Nov-03 Nov-04 Nov-05 Nov-06 Nov-07 Nov-08 May-03 May-04 May-05 May-06 May-07 May-08 May-09 0 Source: Polishedprices.com PLATINUM GROUP METALS (PGM) The PGM rubric refers to six metals: iridium, osmium, palladium, platinum, rhodium and ruthenium. They posses similar physical and chemical characteristics and generally occur together in small traces. They are rare, varying from 1 ppm to 5 ppm in concentration in the earth's crust, in comparison to 4 ppm for gold. They have specific uses in the electronics sector and as catalysts in the chemicals sector. Meanwhile, platinum and palladium are both used in the jewellery sector, as an alternative to gold. Exhibit 95: Palladium (rhs) and platinum (lhs) spot price trend (USD/oz) 2,500 2,000 1,500 1,000 500 0 600 500 400 300 200 100 May-04 May-05 May-06 May-07 May-08 May-03 May-09 Nov-03 Nov-04 Nov-05 Nov-06 Nov-07 Nov-08 Nov-02 Palladium Platinum Source: Silver Institute Outlook Gold prices have risen over the last few years to record levels and the metal appears to have regained its position as a store of value during the recent economic turmoil. Countries with large forex reserves such as China and India have started diversifying their reserves away from traditional assets such as US Treasuries and have accumulated physical gold, leading to a huge spike in prices. As the US dollar continues to depreciate, gold continues to rise in value. We expect this trend to continue over the near to medium, supporting rise in gold prices. However, we believe that gold and silver have moved above their long term fundamentals, and expect prices to slide over the medium-to-long term after the Nov-09 Nov-09 Page 64 Commodities Initiation Report 25-11-09 halt in dollar decline and completion of Chinese diversification of its forex reserves. Meanwhile, we expect prices for PGM commodities to stagnate over the next few years. Exhibit 96: Bloomberg price forecasts (USD/oz) Com m odity Gold Silver Platinum Palladium Source: Bloomberg Current 1,145 18.5 1,443 367 2010 1,041 16.0 1,362 273 2011 1,000 15.3 1,450 325 2012 975 14.0 1,375 375 2013 900 13.0 1,350 435 6. Case Study: Junior Mining & Exploration Prices of gold, silver, platinum and other precious metals soared after 2002, before being hit by the effects of the financial crisis. With recovery taking hold, prices have risen once again, driven by high demand and limited global mine supply. Junior exploration companies stand to benefit most from this trend. Junior mining companies explore for new deposits of precious metals, base metals, coal and oil and gas, targeting properties that are believed to have significant potential. The typical business model of a junior mining company is to acquire land, explore and produce or sell its assets to a larger mining company. Junior exploration companies are an important source of future capacity, as they identify potentially mineral rich properties, prove the resources and facilitate the ramping-up of new production. Employing geologists, geophysicists and engineers, junior mining companies are able to measure the economic viability of a mining property. They play a critical role at the beginning of the E&P value chain, bridging the long gestation period between striking of new deposits and bringing them into production. Junior mining companies depend almost entirely on capital markets and private sources for exploration financing, as their cash requirements are significant and they are unable to generate revenues until production begins, much later. Although they tend to be a risky investment for this reason, they also have the potential to deliver very high returns if they are able to locate rich new deposits. The Joint Ore Reserves Committee (JORC) and National Instrument 43-101 (NI 43-101) play an important role in ensuring a flow of investment to junior mining companies. These instruments contain a set of rules and regulations for stating and making available information regarding mineral properties owned or explored by junior mining companies. Compliance with these instruments reassures investors and lenders regarding the viability of a company's mineral projects. Key factors underlying investment rationale For potential investors, it is important to examine the company’s portfolio of mining projects and understand the nature of each project in the pipeline. Several particularly important factors are discussed below. Property/project location Location is vital. Prospects located near currently or formerly operating mines are usually considered safer investments than purely greenfield projects, where deposits have never been found. Moreover, this kind of location will typically have ready access to road, rail, water and electricity infrastructure, further enhancing a project's viability. Weather is also a key factor; for example, the exploration season can be short in northern Canada due to severe winters, whereas mining may be carried out year-round in Mexico. Quality of management Junior mining companies generally have very small management teams; therefore, the calibre of the management team is of utmost importance. The team should comprise geological engineers with plenty of experience in the precious metals sector. Investor conviction rises where the management team has worked together in the past and has a proven track record of success. Junior mining being a very capital intensive proposition, proven management ability to negotiate deals and successfully raise capital is another crucial factor. Page 65 Commodities Initiation Report 25-11-09 Regulatory environment Certain countries are more mining-friendly than others. Political pressures can force governments to impose populist restrictions and penalties. Therefore, junior companies possessing mineral-rich reserves in mining-friendly locations with lower regulatory burdens are to be preferred. Supply/demand conditions and mineral prices Share prices of junior mining companies can be volatile due to the inherent risks associated with their business model, as well as their links to commodity market supply/demand and pricing conditions. Diverse factors impact on precious metal prices; gold, for example, affected by macroeconomic expectations, inflation, the strength (or weakness) of the US dollar and holdings of physical gold by central banks. Rising investor interest Junior mining companies which meet the criteria listed above present highly attractive investment opportunities. Therefore, stock prices for such firms can increase rapidly on announcement of a new discovery or speculation of an acquisition. Junior mining companies are a significant component of the London Stock Exchange's AIM, and have attracted great interest, with trading volumes growing from GBP4.9 bn in 2001 to GBP75.0 bn in 2007, before falling to GBP49.2 bn in 2008. These trends mirror the overall commodities market, and helped the AIM index to rise from 600 in December 2002 to more than 1,200 by 2006. Exhibit 97: Junior mining companies trading on AIM 80 70 60 50 40 30 20 10 0 Trading Turnover (GBP bn) Source: The London Stock Exchange Exhibit 98: The London Stock Exchange AIM Index movement 1200 1000 800 600 400 200 0 2002 2003 2004 2005 2006 2007 2008 2009 AXX index Source: Bloomberg Oct-09 2001 2002 2003 2004 2005 2006 2007 2008 Page 66 Commodities Initiation Report 25-11-09 Here are a few examples of AIM-listed junior mining companies which have experienced rapid share price movement, and the potential risks involved: • Oriel Resources PLC (AIM:ORI): the company’s share price leapt from GBp40.5 to GBp99.25 on 03 March 2008, driven by speculation that Russian mining giant Mechel was considering a bid. Mechel eventually placed a bid on 03 March 2008, at a 13.7% premium to the 29 February 2009 closing price. Minco Plc (AIM:MIO): the company's share price appreciated from GBp9 on 18 December 2003 to GBp35.25 on 09 February 2004 on receiving a licence for the La Laguna Silver Project. The resource was estimated to contain 55 Moz of silver and 130,000 Oz of gold. Toledo Mining Corp Plc (AIM:TMC): the share price jumped from Gbp126.5 on 21 November 2006 to Gbp475 on 07 June 2007 on speculation that the company would be taken over as nickel prices rallied. Highland Gold (AIM:HGM): this share appreciated from GBp175 on 04 December 2008 to GBp248 on 11 January 2008, after an announcement that Roman Abramovich was to take a 40% stake in the company. • • • Canada's TSX-Venture exchange shows similar trends. The chart below shows the TSX-Venture index nearly tripling since 2002, until the end of the commodity price boom. Exhibit 99: TSX-Venture exchange movement since 2002 3500 3000 2500 2000 1500 1000 500 0 2002 2003 2004 2005 2006 2007 2008 SPTSXVEN Index Source: Bloomberg During this period, many junior mining stocks on TSX-Venture saw rapid share price appreciation, with several examples given below: • Aurelian Resource (TSX:ARU): this junior gold mining company's discovery in Fruta del Norte, Ecuador, in April 2006 led to a jump from CAD0.20 to CAD10 in just eight months. The company was eventually acquired by Kinross Gold Corporation in October 2008 for CAD1.2 bn (USD1.1 bn), which represented a 63% premium to Aurelian's 20 day volume-weighted average price on as of 24 July 2008. Afriore Limited (TSX:AFO): this stock traded at CAD0.29 in July 2004, rising to CAD8.72 by May 2007, driven by a platinum discovery in South Africa. AFO was bought out by Lonmin for CAD8.75 a share. Virginia Gold Mine (TSX:VIA): this share leapt from CAD1 to CAD13 during 2004-2006, driven by positive reaction to major discoveries in Eleonore, Quebec, in 2004. Goldcorp announced that it would acquire the Eleonore project for a 43% premium to VIA's 10-days share price as of 05 December 2005. • • Other mining-heavy stock exchanges have exhibited similar trends, but Canada's TSX leads all exchanges in terms of the number of listed mining companies. However, growth in such listings has been led by AIM, due to its relative liquidity and depth, which is conducive for facilitating significant capital raisings, as well as a relatively lenient regulatory framework. 2009 Page 67 Commodities Initiation Report 25-11-09 Industry transaction activity Between 2002 and 2008, the junior mining sector witnessed significant investment, reflecting strong growth in demand for metals and high prices. However, following the onset of the economic crisis in 2H 08, many hedge funds and retail investors have pulled funds, forcing many to file for bankruptcy. Junior mining companies were hardest hit because of their exceptionally high capital requirements and long payback periods. Acquisitions of junior mining companies saw a similar trend, with transaction numbers rising strongly between 2002 and mid-2008, but easing since. In the case of gold, the number of below-USD250 mn acquisitions rose from 42 in 2002 to 195 in 2007, but tailed off thereafter. Exhibit 100: Junior gold acquisitions (deals below USD250 mn) Year No of transactions Source: Capital IQ 2001 42 2002 43 2003 72 2004 80 2005 126 2006 187 2007 195 2008 176 Oct-09 136 However, we believe that the onset of an economic recovery will reignite investor interest and capital flows towards junior mining companies. The return of capital inflows should facilitate growth in exploration activity, leading to new discoveries. With demand for minerals set to rise yet again, fundamentally strong junior mining companies will attract interest from large mining companies, in a bid to prop up their depleting reserves, generate better economies of scale and enhance bargaining power. Junior mining transaction activity on the LSE Main Market and AIM Private placements Private placements are a common tool for junior mining companies, with more than 500 such deals below USD250 mn during 2003-2008. Private placement deals in junior mining companies on AIM and the Main Market have grown by 49.5% CAGR in value over the same period. Transaction values peaked in 2007, at an average of USD20 mn each, falling to an average of USD13.2 mn in 2008. Diversified metal ore juniors were the target of the greatest number of deals, representing 37 out of 112 deals to date in 2008, followed by oil and gas exploration juniors with 29 deals. Exhibit 101: Private placement of junior mining & exploration companies on the LSE Main market and AIM 140 120 100 2500 2000 60 40 20 0 1000 500 0 No of Deals <USD250 mn Total transaction value of private placements (USDmn) Source: Capital IQ Oct-09 2003 2004 2005 2006 2007 2008 USD mn 80 1500 Page 68 Commodities Initiation Report 25-11-09 Exhibit 102: Largest 10 junior mining & exploration company private placements below USD250 mn from 2003-Oct 2009 Target Artum as Group Inc. (OB:AGI) Polo Resources Lim ited (AIM:PRL) European Nickel plc (AIM:ENK) Griffin Mining Ltd. (AIM:GFM) Serica Energy PLC (AIM:SQZ) Nautilus Minerals Inc. (TSX:NUS) Leed Petroleum Plc (AIM:LDP) Faroe Petroleum plc (AIM:FPM) Polo Resources Lim ited (AIM:PRL) Chariot Oil & Gas Lim ited (AIM:CHAR) Source: Capital IQ Total Transaction Value (USDm n) Buyers/Investors 170 N/A 158 155 152 113 99 98 93 88 88 N/A N/A Citadel Lim ited N/A N/A N/A N/A N/A N/A Industry Classifications Oil and Gas Exploration and Production Gold Diversified Metal Ores Diversified Metal Ores Oil and Gas Exploration and Production Diversified Metal Ores Oil and Gas Exploration and Production Oil and Gas Exploration and Production Gold Gold Merger and acquisition deals After a 78% y-o-y jump in M&A activity in 2007, and tepid transaction levels on AIM towards the end of 2008, interest from potential acquirers is gradually rising in the junior mining space. Some of the more recent transactions include the acquisition of Strategic Natural Resources by Atlantic Coal and of Roxi Petroleum by Roditie N.V. in August 2009. 7 transactions have already taken place as of October 2009 and 5 more have been announced so far this year. Exhibit 103: Largest 10 junior mining & exploration company M&A deals below USD250 mn from 2003-Oct 2009 Total Transaction Value (USDm n) Buyers/Investors 27 N/A 23 23 20 13 12 12 9 N/A European Nickel plc (AIM:ENK) UFG Capital Partners Kulczyk Holding S.A. Cam brian Mining plc N/A Paladin Capital Lim ited (JSE:PLD) Gasol Plc Prior to Reverse Merger w ith African LNG Holdings Ltd. N/A Target GCM Resources Plc (AIM:GCM) Falkland Oil and Gas Ltd. (AIM:FOGL) Toledo Mining Corp. (AIM:TMC) Trans-Siberian Gold plc (AIM:TSG) Aurelian Oil and Gas Plc (AIM:AUL) Xtract Energy plc (AIM:XTR) Brinkley Mining Plc (AIM:BRM) Petm in Lim ited (JSE:PET) Industry Classifications Coal and Consum able Fuels Oil and Gas Exploration and Production Diversified Metal Ores Gold Oil and Gas Exploration and Production Gold Coal and Consum able Fuels Gold Gasol Plc (AIM:GAS) 7 Oil and Gas Exploration and Production Brinkley Mining Plc (AIM:BRM) 6 Coal and Consum able Fuels Source: Capital IQ Page 69 Commodities Initiation Report 25-11-09 Exhibit 104: Junior mining & exploration company M&A deals below USD250 mn announced in 2009 Total Transactio n Value (USD m n) N/A 28.65 20.90 11.82 3.71 Target/Issuer Beacon Hill Resources Plc (AIM:BHR) Archipelago Resources PLC (AIM:AR) Island Oil & Gas plc (AIM:IOG) Hidefield Gold plc. (AIM:HIF) Vatukoula Gold Mines plc (AIM:VGM) Buyers/Investors Tasm ania Magnesite NL PT Rajaw ali Corporation San Leon Energy Plc (AIM:SLE) Minera IRL Lim ited (AIM:MIRL) Canadian Zinc Corp. (TSX:CZN) Industry Classifications Diversified Metal Ores Gold Oil and Gas E&P Gold Precious Metals and Minerals Source: Capital IQ Public offerings Capital markets are another key source of funds for junior miners, but there were few public offerings in 2008 due to a lack of interest in risky junior ventures. In 2009, there has been renewed interest as close to seven public offerings have been completed, with three - Discovery Metals Ltd, Finders Resources Limited and Meridian Petroleum plc - announced. Junior mining companies tend to approach the equity market more than once to satisfy their cash requirements. Exhibit 105: Largest 10 public offerings below USD250 mn during 2003-Oct 2009 Target Nam akw a Diam onds Ltd (LSE:NAD) Central Rand Gold Lim ited (LSE:CRND) Ithaca Energy Inc. (TSXV:IAE) Ithaca Energy Inc. (TSXV:IAE) Antrim Energy Inc. (TSX:AEN) Antrim Energy Inc. (TSX:AEN) Ithaca Energy Inc. (TSXV:IAE) Antrim Energy Inc. (TSX:AEN) Artum as Group Inc. (OB:AGI) Xcite Energy Lim ited (AIM:XEL) Source: Capital IQ Total Transaction Value (USDm n) 184 158 102 71 49 45 44 43 31 31 Industry Classifications Precious Metals and Minerals Gold Oil and Gas Exploration and Production Oil and Gas Exploration and Production Oil and Gas Exploration and Production Oil and Gas Exploration and Production Oil and Gas Exploration and Production Oil and Gas Exploration and Production Oil and Gas Exploration and Production Oil and Gas Exploration and Production Page 70 Straight plc (STT: AIM) Sector: General Industrials 25-11-2009 Appendix – Profiles of Commodities companies listed on London Stock Exchange/AIM Commodities Initiation Report 25-11-09 Methodology of company selection We have defined the Commodities sector to include the primary energy commodities and the metals group, and have excluded agricultural commodities and commodity chemicals for the purposes of the main report. We have adopted the following criteria to arrive at the list of companies profiled in this report: − − Our universe includes commodities companies traded on the LSE/AIM in the Oil & Gas Producers, Oil Equipment, Services & Distribution, Mining, and Industrial Metals & Mining sectors. As exploration & development companies are a key focus area, we did not apply a revenue minimum in selecting the companies to be profiled, as many of these companies are at early stages of the exploration process and are yet to generate revenues. We then considered the following factors to arrive at the final shortlist: (a) Near-equal representation by the constituent industries within the selected groups. (b) Market cap range of GBP1 mn – GBP160 mn. (c) Ideally, a free float of at least 25% of total outstanding shares. (d) Limited current analyst coverage. − Consequently, we have covered the following 19 companies in our report. following comprehensive interaction with the majority of the companies' management. Companies profiled in the report Arian Silver Corporation Chaarat Gold Holdings Ltd.* China Biodiesel International Holding Co., Ltd. Emerging Metals Ltd.* Empyrean Energy plc* Fortune Oil Plc Getech Group plc Maple Energy plc Max Petroleum plc* Metals Exploration plc * We did not receive input from company management on the published company profiles. Minco plc Providence Resources plc Sirius Exploration plc Sovereign Oilfield Group plc* Strategic Natural Resources plc Toledo Mining Corporation plc Uranium Resources plc* Velosi Ltd. Xtract Energy plc Page 72 Arian Silver Corporation (AGQ: AIM) Sector: Mining Sub-sector: Platinum & Precious Metals 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M AGQ (31.5) 3M (25.0) 12M 4.2 64.4 GBp3.00 GBp2.5- GBp4.88 258.1 million (mn) N/A 108,815 Company description Arian Silver Corporation (Arian Silver) is a junior exploration and development company, with silver, gold and base metal projects in Mexico. It focuses on “brownfield” projects, enabling access to considerable infrastructure and knowledge of probable additional resource areas. Arian Silver owns/has rights/options to purchase 39 mineral concessions and has 3 major projects: – San Jose project (66.7% ownership and 2% NSR): Located in Zacatecas, the project is spread over 6,280 Ha and comprises 11 concessions. The company will gain 100% ownership on payment of its final instalment of USD0.5 mn, due Dec 09. It also has the right to purchase the Net Smelter Royalty (NSR) for USD1.5 mn, upto Dec 09. After an independent preliminary scoping study, Arian Silver identified three mining blocks expected to sustain an approximate 4yr lifespan using contract mining and milling to yield 125,000t per year. The company estimates 500,000t resource production at San Jose to yield about 2.15 Moz of silver, 1,800t of lead and 3,100t of zinc over the 4yr lifespan. As of June 2009, the company identified JORC/NI43-101 compliant Inferred resources of 11.2 Mt grading 93.8 g/t silver, 0.39% lead and 0.83% zinc and Indicated resources of 2.2 Mt grading 127.7 g/t silver, 0.51% lead and 0.88% zinc at the San Jose Property. The company identifies that these resources are contained within 10% of the known strike length of the San Jose Vein within the Property, and that it anticipates a probable significant upside for additional . resources – Tepal project (100% ownership and 2.5% NSR): Located in Michoacan, Tepal is a polymetallic porphyry project with gold and copper as its main metals. It covers 13,843 Ha and comprises six individual concessions. The company has two payments of USD0.9 mn and USD2.3 mn due in Jun 2010 and Jun 2011 respectively. Failure to meet these may lead to the loss of the entire rights to the Property. As of June 2009, the company identified JORC/NI43-101 compliant Inferred resources at Tepal of 54.9 Mt grading 0.41 g/t gold and 0.22% copper and Indicated resources of 24.9 Mt grading 0.54 g/t gold and 0.27% copper. – Calicanto project (100% ownership and 3% NSR): The Calicanto project located in Zacatecas covers 80 Ha and consists of seven individual and contiguous concessions. Management has not yet identified any JORC/NI43-101 compliant resources at the project but expects to yield more than 50 Moz of silver plus gold and base metals. Exhibit 1: Key financials GBP7.74 mn GBP13.31 mn N/A FTSE AIM ALL Share Index (3.0) 15.3 12-m onth price volum e perform ance 4 3 2 1 0 N D J F M A M J J A S O N Stock Price Volume Major shareholders Name Grafton Resource Investment Ltd. Management Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst: Managing analyst: DOR: Source: Company data, Bloomberg Capital 42% 4% 54% 100% AGQ VGG0472G1063 Grant Thornton UK LLP Hayw ood Securities (UK) Ltd National Westminster Bank Plc PKF (UK) LLP Charles Russell LLP British Virgin Islands United Kingdom Mexico http://w w w .ariansilver.com Shazia Naik Somatish Banerji Satish Betadpur, CFA Volume (thousands) Stock price (GBp) 5 1,400 1,200 1,000 800 600 400 200 0 All figures in USD '000, FY FY unless specified 2007A 2008A Revenues 0 0 Operating incom e (4,955) (3,720) Net incom e (4,893) (3,689) Fully diluted EPS (USD) (0.05) (0.03) Net cash 3,134 753 P/E N/A N/A Source: Company data, IIIR research estimates FY 2007-08 (%change) N/A 24.9% 24.6% 40.0% (76.0%) Page 73 Arian Silver Corporation (AGQ: AIM) Sector: Mining Sub-sector: Platinum & Precious Metals 25-11-09 SWOT Strengths JORC/NI 43-101 compliant resources – Estimated Indicated and Inferred resources of 80 Moz silverequivalent at San Jose based on 43 Moz silver, 125 Mlbs of lead and 250 Mlbs of zinc; and Indicated and Inferred resources of 2.55 Moz gold-equivalent at Tepal, based on 1.2Moz gold and 413 Mlbs of copper. Strong concession portfolio – The company owns/has rights/options to purchase 39 mineral concessions spread over 21,691 hectares. Experienced Management team – The company has a strong Management team, with the CEO having more than 25 years of international mining and exploration experience and the Chairman with 30 years international mining industry experience. Advantages offered by Brownfield projects – The strategy of using previously mined sites offers the advantage of ready infrastructure and knowledge of probable resource locations. Weaknesses Cash crunch faced by the company – As of Aug 09, the company had USD0.2 mn in cash and concession related payments of USD1.0 mn due 2H 09. It also had a short term loan from investment partner Grafton of USD0.8 mn due Oct 09. The company also needs cash for its capex and working capital needs. Although one of the concession related payments of USD0.5 mn has been made and the Grafton loan repayment date renegotiated at no cost to 31 Dec 09, lack of funding remains a key issue. No measured resources or proven reserves yet – The company has not yet identified any reserves or measured resources, recognition of which is highly valued by the market. Cash generation delayed – Lack of funds resulted in no meaningful work being carried out in the half year ended Sept 09, in all projects including San Jose, where production in the three identified blocks was due to begin in 4Q 09, delaying prospective cash generation. Opportunities Resources, the potential cash generators – Resources and reserves act as potential cash generators as they attract investors. The company can also generate cash by selling the final product or respective concessions. Tepal Transaction – Sale of the Tepal Property or JV formation will ease liquidity conditions for the company. Unravelling of Grafton Transaction – As part of a share swap in 1Q 09, Arian Silver exchanged its shares with that of Grafton's with the agreement that Grafton would sell its shares on behalf of Arian Silver and raise money. However, this did not happen, resulting in a cash crunch for the company. Management is currently working on unravelling the Grafton transaction which if successful could generate approximately USD5.2 mn. Current high silver prices may attract investors and ease the fund-raising process Threats Threat of bankruptcy/ concession sale – Failure to arrange funds may lead to the company being a potential bankruptcy candidate or lead to the forced sale of lucrative concessions. Failure of Tepal Property transaction – Failure of the transaction may result in less favourable terms for Arian Silver if it is unable to meet payback deadlines. Key recent news 05 November 2009: Confirmed an agreement with Geologix Exploration Inc. (Geologix) for the prospective sale of Tepal. If successful, this will lead to a total cash infusion of USD3.0 mn (inc. USD0.5 mn already paid) by February 2011. Failure may lead to repayment of the USD0.5 mn or formation of a JV with Geologix for the Tepal Property. In the event of a JV formation, Geologix will take a 51% stake in lieu of additional cash payment/shares and be the JV operator. Management Jim Williams, Chief Executive Officer: A professional geologist with more than 25 years international mining and exploration experience and a Fellow of UK IMMM (FIMMM), a CEng and a CGeol. He is also a Eur. Ing. and Eur. Geol. Tony Williams, Chairman: He has 30 years experience in the international mining and investment banking industry and is the founder of the Dragon Group, a finance and project management organization. The company has reviewed a draft of this profile and factual amendments have been made Page 74 Chaarat Gold Holdings Ltd (CGH: AIM) Sector: Mining Sub-sector: Gold Mining 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M CGH FTSE AIM ALL Share Index -3.6% 2.8% 3M 21.0% 11.4% 12M 12.4% 25.1% GBP 29.1 mn GBP 26.2 mn 0.0% GBp 25.8 GBp 8.5 - 27.8 112.9 million (mn) 0.0 99,604 Company description Chaarat Gold Holdings (CGH) is engaged in the exploration and development of gold in the western part of the Krygyz Republic. The company explores and develops the Chaarat license area, 604 square miles located in the mountainous area of the Sandalash River valley, on the western border of Kygyzstan. The company has a 100% interest in the exploration license area. The company was listed on London’s Alternative Investment Market (AIM) on 8 November 2007. – Three Project Areas: There are three known areas of gold occurrences or “clusters”. They are Chaarat, Minteke and Kashkasu. The Chaarat Gold Project is the only area in which extensive prospecting has been conducted. The Chaarat Project is located at the central part of the Sandalash License Area and sericiticaly altered sulphiderich lodes occur in three mineralized zones: the Main Zone, the Contact Zone and the Tukkubash Zone. Exploration: The company is in its sixth exploration season for the Chaarat project. By the end of the 2008 season, a total of 221 diamond drill holes were completed for a total of 46,631 meters drilled; 8,505 meters of prospecting trenches were excavated. At the end of the 2008 season, the drilling delineated a JORC-compliant mineral resource of 3.34 Moz Au at an average grade of 4.30 g/t gold. A prefeasibility study, which should determine the costs and benefits of a potential mine, is now expected to be completed in the first half of 2010. CGH has not yet started exploration with the Minteke and Kashkasu projects. The License: Chaarat Gold has a two-year license with the State Agency of Geology and Mineral Resources (SGMR). The license gives The Chaarat Group exclusive rights to conduct geological prospecting and exploration for commodities including gold and other metals in the 605 square kilometre license area. This license was issued in December 2002 and most recently was renewed until December 2010. The company is then entitled to apply for a further license period of two years, or until 2012. 12-m onth price volum e perform ance – 30 25 20 15 10 5 0 ND J F MAM J J A S SO Stock Price Major shareholders Name Management China Nonferrous Cazenove Other Total Shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst(s): DOR: Source: Company data, Bloomberg Capital 29.2% 19.9% 10.1% 40.8% 100.0% CGH VGG203461055 Canaccord Adams Limited Canaccord Adams Limited Royal Bank of Scotland International GRANT THORNTON LLP Watson, Farley & Williams British Virgin Geneva, Kyrgyz Republic Erin Smith, CFA James Kelleher, CFA http://w w w .chaarat.com Volume 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 Volume (thousands) Stock price (GBp) – Exhibit 1: Key financials All figures in USD '000, unless specified Revenues Operating incom e Net incom e Diluted incom e per share (USD) Net cash P/E FY 2007-08 FY 2007A FY 2008A (%change) 0 (6,925) (6,540) (0.1) 13,128 N/A 0 (11,493) (11,912) (0.2) 1,375 N/A N/A (66.0%) (82.1%) (47.8%) (89.5%) Source: Company data, Argus Research estimates Page 75 Chaarat Gold Holdings Ltd (CGH: AIM) Sector: Mining Sub-sector: Gold Mining 25-11-09 SWOT Strengths License and geographic area – CGH’s exploration area is situated within the Tien Shan gold belt, one of the most-prolific gold producing areas in the world. The company’s license grants exclusive rights for CGH to explore this underdeveloped area for gold and metals. Independent study – A recent independent study by SRK of Johannesburg confirmed there is considerable potential mining opportunity in certain regions of the Chaarat Project. Weaknesses License expiration – The company has had a license from the State Agency of Geology and Mineral Resources since 2002. The current license expires in December 2010, with an option to renew for only one more two-year period. After December 2012, Chaarat must apply for a mining license. – There is risk related to the company’s ability to receive a mining license. Income decline – Income will likely decline as anticipated revenue from antimony is not likely to materialize. Opportunities The Chaarat Gold Project – This is the only project with extensive exploration activity. CGH expects five million ounce resources by the end of 2010 and expects initial gold production of over 200,000 ounces p.a. by 2012. The Minteke & Kashkasu projects – There are future exploration and mining opportunities from these projects. Previous prospecting found pyrite, chalcopyrite and stibnite in the Minteke region and gold mineralization in the Kashkasu region. Threats Global economy & impact on funding – In 2009, due to the weak economy, one of CGH’s shareholders was forced to sell -- and this pushed the share price down. CGH needed additional funds but was unable to secure the full amount via a secondary offering. The company subsequently found another investor, which diluted existing shareholders. This sequence could be repeated. Weather – Exploration activity can be stalled by poor weather. Typically, there is less exploration activity during the first months of the year due to weather. Key recent news 29 October 2009: Appointment of Chinese Directors – The Board appointed Tao Lua and David Tang as Non-Executive Directors. CGH has an agreement with China Nonferrous Metals International Mining Co. Ltd., whereby CNMIM has the right to appoint two directors as long as their interest in CGH does not fall below 10%. Currently CNMIM has a 19.9% interest. 07 September 2009: Drill Results – CGH reported encouraging results from four drill holes in the Chaarat Project. The results demonstrated the continuity of thickness and grade of mineralization that should allow the company to establish a low-cost mining operation. Management Christopher David Palmer-Tomkinson, Non-Executive Chairman: From 1963, he worked at Casenove, serving as Partner from 1972 until 2001 and as Managing Director of Corporate Finance until May 2002. He was a Director of Highland Gold Mining Limited from 2002-2008. Dekel Golan, Chief Executive Officer: Previously, he served as President of Apex Asia LDC, a subsidiary of Apex Silver Mines Limited. He has extensive experience in promoting and developing businesses in both emerging economies as well as the developed world. Page 76 China Biodiesel International Holding Co., Ltd. (CBI: AIM) Sector: Alternative Energy Sub-sector: Alternative Fuels 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M CBI (28.1) 3M (29.4) 12M 52.0 58.6 GBP4.49 mn GBP5.79 mn 0.08 GBp9.88 GBp2.38- GBp19.00 45.4 million (mn) N/A 130,725 Company description China Biodiesel International Holding Co., Ltd. (CBI), was incorporated in 2005 and listed on AIM in June 2006. In 2006, the company took over the entire share capital of Longyan Zhuoyue New Energy Development Co Ltd (ZYNE) which had started operations in 2001. CBI is engaged in research and development, production, and marketing of biodiesel. CBI has developed some unique, production techniques, which are protected by patents. The company produces different types of biodiesel including B1, B2 and B3 which can be used in various applications. While B1 and B2 can substitute petrochemical products in manufacturing industries, B3 can substitute conventional fuel. The company is focusing on increasing the share of B1 and B2 in its total sales as the pricing cap set by the Chinese government on diesel is not applicable to these products. Also, B1 and B2 are priced higher and return higher margins in comparison with B3. CBI primarily sells its products in China though it is gradually entering new markets such as Europe, East Asia and North America. It also provides consultation services in the bio-energy sector. The company primarily uses used cooking oil and plant acid oils as feedstock and sources them mainly from China. However, the company is diversifying its sources of feedstock supply and has started importing feedstock from Southeast Asian countries. CBI has two core production bases, at Longyan and Xiamen in Fujian Province in southern China. – FTSE AIM ALL Share Index (3.2) 16.9 12-m onth price volum e perform ance 18 16 14 12 10 8 6 4 2 0 N D J F M A M J J A S O N Stock Price Major shareholders Name Huodong Ye Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Volume 3,500 3,000 2,500 2,000 1,500 1,000 500 0 Volume (thousands) Stock price (GBp) Longyan production base: The annual capacity at Longyan base was expanded to 50,000t in August 2007 from 20,000t previously and "Postdoctoral R&D Working Station" was set up in March 2009 to focus on further scientific progress. Xiamen production base: This is a relatively new base where operations started in June 2008 at one production line with an annual capacity of 50,000t. This base also acts as the main repository for exports. Capital 72% 28% 100% CBI VGG211791097 Evolution Securities Limited Evolution Securities Limited N/A BDO McCabe Lo Limited Reed Smith LLP, Richards Butler in association w ith Reed Smith LLP British Virgin China – In total, CBI currently has an annual capacity to produce 100,000t of biodiesel. It expects to start its second production line with a capacity of 50,000t at its Xiamen plant in the near future. Further, it has plans to install a new plant in a neighbouring province (like Guangdong Province). The company also has a technical centre located in Longyan focusing on converting waste animal and plant oil to biodiesel. Exhibit 1: Key financials Country of incorporation: Head Office location: All figures in RMB '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (RMB) Net cash P/E FY 2007A 124,590 17,031 16,554 0.37 3,846 9.71 FY 2007-08 FY 2008A (%change) 164,199 5,891 4,104 0.09 (20,858) 3.83 31.8% (65.4%) (75.2%) (75.1%) N/A China Principal area of operations: Company w ebsite: http://w w w .chinabiodiesel.cn Analyst: Managing analyst: DOR: Puneet Bhasin Sonia Bakshi Shubhashish Dubey Source: Company data, Bloomberg, Pipal Research Source: Company data, Bloomberg, Pipal Research Page 77 China Biodiesel International Holding Co., Ltd. (CBI: AIM) Sector: Alternative Energy Sub-sector: Alternative Fuels 25-11-09 SWOT Strengths Expanding production base – The company’s annual production capacity has increased five times from 20,000t in 2006 to 100,000t in 2008, enabling it to cater to the fast growing biodiesel demand in China besides achieving economies of scale. Proprietary technology – The company’s proprietary technology (protected by patents) to produce biodiesel from a variety of feedstock, including lower grade waste oils, gives the company a competitive advantage. The company was a pioneer in China’s biodiesel industry and has received many awards and accreditations for its technical expertise. Favorable change in sales product mix – The company has successfully increased the proportion of its B1 and B2 products (which carry higher price and margin besides being free from government price cap) in its total sales over the last few years. From ~27% in 2005, the combined share (by volume) of B1 and B2 in the company’s total sales has risen to 90% in 2008 and 97% in 1H 09. Weaknesses Geographical concentration in China – Although the company is gradually entering new markets including Europe, East Asia and North America, the majority of its revenues are derived from China, thereby exposing the company to the risk of any unfavourable change impacting the Chinese biodiesel sector. Dependence on government grants and subsidies – CBI's profitability is significantly dependent on government subsidies and grants. The company received RMB19.7 mn and RMB16.0 mn in 2008 and 1H 09, respectively, in the form of financial grants and subsidies from the government. These grants helped the company cover up its losses and register a net profit of RMB4.1 mn in 2008 and RMB6.0 mn in1H 09. Opportunities Rapidly-growing Chinese biodiesel market – China’s growing energy needs coupled with increasing focus on clean sources of energy are providing thrust to the demand for biodiesel. China is expected to become the largest consumer of biodiesel in the world by 2020 (as per a Cleantech Group press release of 30 June 2007). Government support – Preferential tax polices – In 2008, the Chinese government allowed biodiesel companies using waste animal and vegetable oils as feedstock to avail refund of VAT. Both of CBI's plants are qualified for this concession which would strengthen the company’s bottom-line going forward. – There are other incentives, such as 10% deduction in taxable income available to an entity using waste biomass oil or waste lubricant as 100% feedstock. Threats Volatility in feedstock prices and biodiesel demand – The prices of feedstock used by CBI closely track the movement in oil prices and hence are quite volatile. As a result, the company’s profitability is significantly exposed to risk from volatility in feedstock prices. – Further, the demand for biodiesel products is also closely related to oil prices, such that when oil price fell in 2H 08, the company’s biodiesel sales volumes also contracted. Shortage of biodiesel feedstock in China – The biodiesel sector in China faces a shortage of supply stock in general, which could impact the company’s future feedstock supply. To counter this probable issue, CBI is safeguarding its feedstock supply by expanding its procurement network to additional areas within China as well as identifying supply channels from outside China, primarily Southeast Asian countries. Key recent news 21 September 2009: Announced interim financial results for 1H 09. While sales volumes increased 11.9% to 15,018t from 13,418t in 1H2008, revenues declined 33.9% to RMB59.2 mn owing to decline in product selling prices. Net margin in 1H 09 improved marginally to 10.1% from 9.3% in 1H 08 primarily owing to higher government grants. Management Huodong Ye, Chairman: He is the founder of ZYNE Co. which was later acquired by CBI and is also a consultant for the Ministry of Science & Technology. He has received various rewards from the government including "An Honorable Citizen" and "An Outstanding Youthful Entrepreneur". Jian Lu, Chief Operating Officer: He joined the group as chief operating officer in 2002. Prior to that, he worked as a senior manager at two state owned enterprises, Longyan Forestry Car Manufacture Plant Limited and Longyan Forestry Holding Company. The company has reviewed a draft of this profile and factual amendments have been made Page 78 Emerging Metals Ltd (EML: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M EML FTSE AIM ALL Share Index -17.3% -2.1% Company description EML Emerging Metals Limited (Emerging Metals) is focused on investing in metals and bulk commodities where there is an 330.8 million (mn) anticipated imbalance in supply and demand. GBp 7.1 GBp 2.5 - 9.5 0.0 1,142,129 – GBP 23.6 mn GBP 19.8 mn 0.0% 3M -1.0% 17.6% – 12M – 54.0% 53.7% 12-m onth price volum e perform ance 10 30,000 25,000 20,000 15,000 10,000 5,000 0 N D J F M A M J J A S S O Stock Price Volume Major shareholders Name Vidacos Nominees Ltd. Roy Nominees Ltd. James Mellon Other Total Shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Country of incorporation: Head Off ice location: Principal area of operations: Company w ebsite: Analyst(s): DOR: Source: Company data, Bloomberg Capital 31.22% 16.35% 8.53% 43.90% 100.00% EML VGG3032P1036 Blomf ield Corporate Finance Ltd Fox-Davies Capital Ltd Conister Trust KPMG AUDIT Kerman & Co. LLP, Harney British Virgin Isle of Man Af rica w w w .emergingmetals.com John Eade James Kelleher, CFA – Stock price (GBp) 8 6 4 2 0 – – Initial Investment: The company’s initial investment was the Tsumeb Slag Stockpiles Project in Namibia, where Emerging Metals is working to potentially extract germanium, zinc and gallium. Diversification: More recently, Emerging Metals diversified its exposure by acquiring an interest in a company focused on the development of the recently discovered Rossing South Uranium Project in Namibia. Acquisitions: The company plans to acquire strategic stakes in publicly traded companies that have a focus on investment metals in addition to pursuing its strategy of investing in minor metals and minor metal projects. Target Metals: The investment metals that the company plans to target include all metals other than base metals (such as copper and lead) and bulk commodities metals (such as iron, potassium and aluminium). Strategy: The company’s exposure to investment metals will be achieved by the purchasing of physical quantities of such commodities for the trading portfolio, the acquisition of additional complementary investment metals projects and the acquisition of strategic minority stakes in publicly traded companies with a focus on investment metals. Trading: The company may acquire, hold, store, market and trade physical quantities of investment metals. The Directors believe that current market conditions will provide good opportunities for a positive return from the Trading Portfolio. The Directors intend to undertake the initial assessments internally with additional independent technical advice as required from time to time and on a case-by-case basis. The acquisition and disposal of investment metals to and from the Trading Portfolio will be carried out through established metals traders engaged from time to time. Volume (thousands) Exhibit 1: Key financials All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Diluted incom e per share (GBP) Net cash P/E FY 2008-09 FY 2009A (%change) 11,057.0 9,739.0 10,005.9 0.03 3,757.96 245.61 14,076% N/A N/A N/A (58.5%) FY 2008A 78.0 (1,673.0) (1,498.6) (0.03) 9,056.10 N/A Source: Company data, Argus Research estimates Page 79 Emerging Metals Ltd (EML: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 SWOT Strengths Flexibility – The company has shown the ability to alter its strategy as industry conditions change. In April, the Board amended its business strategy to allow for a broader range of investments. The company subsequently purchased stakes in Kalahari Minerals Plc and Extract Resources Ltd., with a focus on uranium. Weaknesses Change in the executive suite – Former Chief Executive Officer Mitch Alland stepped down over the summer, and the position is currently filled by two directors. The current structure is not likely to be sustainable over the long term, and the company will eventually need to recruit and hire a new CEO. Declining cash position – During FY 2009, the company’s cash position decreased from GBP9 mn to GBP3.8 mn. In order to fully take advantage of attractive mineral company asset values, the company could benefit from a deeper war chest. Low operating costs – Management has been successful in keeping costs under control. In FY 2009, operating expenses came in as budgeted at GBP973,230, down 42% from the previous year. Opportunities Growth in emerging markets – The BRIC nations – Brazil, Russia, India and China – are expected to post GDP growth of 5.3% on average in 2010, well ahead of expected growth in the 2% range for industrialized nations. These emerging markets are expected to have substantial demand for metals. Threats Outlook for precious metals – As the US dollar declines, hard asset prices – including metals – are expected to rise. We think the price of gold can increase another 30% into 2010. However, if central banks start to increase short-term interest rates, the metals rally could be subverted. Attractive asset prices – In 2008, the company was reviewing numerous possible opportunities for investments in minor metals, but prudently held off as prices were high. Since the onset of the global recession in the fall of 2008, prices have come down sharply. Emerging market balance sheets – Historically, emerging market nations have maintained deep current account and budget deficits, which have threatened currency levels and long-term economic stability. Key recent news 14 July 2009: The company announced that Chief Executive Officer Mitch Alland has stepped down from his position to become a Non-Executive Director of the company. Stephen Dattels and James Mellon have taken on the roles of Executive Co-Chairmen. 08 July 2009: The company announced its final results for the year ended 31 March 2009. Highlights included a 93% increase in equity shareholder funds, the acquisition of 8.04% of Kalahari Minerals Plc, healthy cash reserves of GBP3,757,960 and net profit of GBP10,005,933. Management Stephen Roland Dattels, Executive Co-Chairman: Mr. Dattels has founded and/or financed a number of mining ventures over the past 20-plus years. He recently sold UraMin Inc. to Areva, the French government-owned uranium company. He also was an executive at Barrick Gold Corp., and completed financings for Apollo Gold Corp., Royal Standard Minerals Inc., Guyana Goldfields Inc., Red Dragon Resources, and others. James Mellon, Executive Co-Chairman: Mr. Mellon has been a fund manager for 20 years. He is the principal shareholder of Burnbrae Ltd. and participates in a number of markets, including stock markets of emerging nations. He is currently co-chairman of Regent Pacific Group Ltd. Denham Eke, Chief Financial Officer: Over the last 15 years, Mr. Eke has held directorships of a large number of companies, principally involved in equity investments, property ownership and management, where he has been tasked with rationalising and restructuring operations to enhance profitability. Page 80 Empyrean Energy Plc (EME: AIM) Sector: Oil and Gas Producers Sub-sector: Exploration and Production 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) Company description GBp15 GBp24.75 - GBp3.13 121.8 million (mn) N/A Empyrean Energy Plc (Empyrean) was established with the aim to identify, analyse and finance rewarding projects in the fields of exploration, development and production of energy resources around the world. It primarily focuses on traditional Oil & Gas sector exploration and production activities in geopolitically 1,408,885 stable environments like the US and Germany. Empyrean currently generates revenues from oil and gas sales from two of its three prospects in Texas, US. The company was GBP18.3 mn incorporated in the UK in March 2005 and was listed on the AIM GBP18.0 mn in July 2005. The company’s main assets are as follows: N/A – Sugarloaf Hosston Project (Texas, US): Wells are located in Blocks A and B. Empyrean has a 6% pre-farm-out working interest across the entire Block B and a 7.5% working 1M 3M 12M interest in Block A wells. Sugarloaf Block B has 3 existing (3.2) 27.7 (11.8) EME horizontal wells Kennedy-1H, Kowalik-1H and Weston-1H, FTSE AIM ALL Share Index 0.2 (3.1) 64.7 and a vertical well, Sugarloaf-1, which have been drilled. A 12-m onth price volum e perform ance total of five wells have been drilled on Block A of the Sugarloaf Hosston prospect: TCEI JV Block A-1, A-2, A-3, A25 15,000 4, A-5. The latest production figures released by Texas Rail 20 12,000 Road Commission for Block A show a total 15,621 barrels of oil and 113.693 mmcf of gas for the month of March 2009. 15 9,000 – Margarita Project (Gulf Coast, Texas, US): Empyrean has 10 6,000 a 44% working interest in this prospect. Of the six wells 5 3,000 drilled here, three have been commercially successful. Currently one well is producing gas while the other two have 0 0 been suspended indefinitely. Since July 2007, Dona Carlotta J D J F M AM J J A SO N has produced gas at approximately 100 mmcf per day with Stock Price Volume an estimated life of 3.363 years based on pressure drawdown measurements. Major shareholders – Eagle Oil Pool Development Project (California, US): Name Capital Empyrean has a 48.5% working interest in this project. 11.8% TD Waterhouse Nominees Following suspension of the Eagle North-1 well, which had 11.0% Barclays Stockbrokers Limited reported a successful drilling attempt, no new wells have 9.5% Halifax Share Dealing (Nominees) been drilled. However, the company intends to have a new 6.8% Squaregain (Nominees) well drilled as soon as possible on the Eagle prospect. 6.8% – Glantal Gas Project (Germany): Empyrean holds a 40% Thomas Kelly (Commercial Director) 4.2% Wills & Co Stockbrokers working interest in this prospect. Following the unsuccessful 3.1% WH Ireland drilling and consequent plugging and abandonment of the Glantal-1 well, no new drilling activity will be undertaken on Other 46.8% the prospect until the risk of volcanic activity is minimized. 100% Total shares Empyrean and its operating partner, Pannonian International EME TIDM code: Ltd, now plan to embark on the Lautertal prospect to the GB00B09G2351 ISIN number: northeast of Glantal. Stock price (GBp) Astaire Securities Plc Nominated advisor: Astaire Securities Plc Broker: N/A Bankers: Chapman Davis LLP Auditors: Law yers: Kerman & Co LLP Country of incorporation: England and Wales Australia Head Office location: Principal area of operations: US, Germany Company w ebsite: w w w .empyreanenergy.com Analyst: Meera Patil Managing analyst: Ritw ik Bhattacharjee DOR: Satish Betadpur, CFA Source: Company data, Bloomberg Volume (thousands) Exhibit 1: Key financials All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (GBp) Net cash P/E Source: Company data FY 2008-09 FY 2008A FY 2009A (%change) 525 724 37.9% (1,307) (1,548) (18.4%) (1,153) (1,494) 29.6% (2.30) (2.53) (10.0%) 1,510 291 (80.7%) N/A N/A N/A Page 81 Empyrean Energy Plc (EME: AIM) Sector: Oil and Gas Producers Sub-sector: Exploration and Production 25-11-09 SWOT Strengths Near term volume visibility – Two of the three projects located in the US are successfully producing oil and gas to market and the company expects volumes to increase in 2H 09 with the remaining drilled wells beginning to generate revenues or being reworked. Credible reputation with above average success rate – Empyrean has achieved commercial production from 11 of the 18 exploratory wells drilled in the last four years. This translates into a success rate of 61%, which the company expects to increase to 72% soon. Empyrean has identified that it has achieved a 'wildcat' well success rate of 22% while the industry average is 8.3%. Weaknesses Unsuccessful development activities have hurt bottom-line – Unsuccessful exploration, development and production attempts have resulted in bottom-line taking a significant hit. As a junior exploration company more such failed attempts could result in erosion of shareholder value. – Watering out of the Dos Dedos well on the Margarita prospect and plugging and abandonment of the Bondi Prospect resulted in an impairment loss of GBP168,000, while suspension of the Milagro and Agavero wells led to an impairment charge of GBP300,000 in FY 2009. Limited cash resources – Limited cash resources make every delay or abandonment of exploration and development activity critical for the company’s prospects, mitigating progress to larger operational businesses. As of 31 March 2009, Empyrean’s cash and cash equivalents stood at GBP291,000 compared to GBP1.51 mn a year ago. Opportunities Industry holds significant growth potential – The EIA predicts global energy demand to rise by 33% over 2010 - 2030 with oil and gas accounting for nearly one-third and one-fourth of the world energy supply respectively. Presence in heavy energy consumers US and Germany – Empyrean’s operational activities are centered in the US and Germany, two of the largest consumers of energy. As of 2007, the US stood 1st while Germany stood 7th in terms of world oil consumption (source: CIA World Factbooks). Riverbend Project in Texas could begin to contribute to revenues soon – Multiple and significant gas flares were recently encountered during the drilling of Quinn 3H well. As the well is already connected to a pipeline, if the horizontal drill and flow tests are completed successfully, it will begin to contribute to the company’s top-line. Threats Volatile commodity demand and price environment could pose a challenge to capital raising – Empyrean’s future investments are dependent on sufficient funding to undertake exploration and development activity. Raising funds, either through debt financing or equity, is highly sensitive to oil prices. Reduced demand and a volatile price environment, as witnessed in the 2008-2009 period of global financial crisis, greatly affect the company's ability to raise capital. Sector threat from growing demand for renewables – The EIA estimates that by 2030, global renewable energy consumption will increase by 63% and form 11% of global energy supplies, with wind and solar power growing the fastest. With depleting traditional energy resources and rising fuel prices, rapid growth in demand for renewable energy could adversely impact demand and prices of traditional oil resources. Key recent news 10 November 2009: Empyrean announced the encounter of multiple gas fractures and flares as high up as over 100 ft and one over 200 ft during the drilling process at the Quinn 3H well being drilled at its Riverbend project in Texas, US. The number of fractures and flares has exceeded the expectations of Krescent Energy Co LLC, the operator. Management Patrick Cross, Non Executive Chairman: With over 33 years of experience in corporate finance, organization structures, marketing and JV operations, he has held major positions at BP, Cable & Wireless-Japan and BBC World Ltd. Frank Brophy – Technical Director: A petroleum geologist with over 44 years experience in exploration, development and production for companies including Maurel & Prom, Ampolex Ltd, Elf Aquitaine Australia and Peko Oil Ltd. His work has crossed regions including Australia, Asia, Europe, the US and the Middle East. Page 82 Fortune Oil Plc (FTO: LSE) Sector: Oil & Gas Producers Sub-sector: Exploration & Production 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity 1 Price perform ance (%) 1M FTO (5.3) 3M 15.1 12M 16.8 58.6 GBP161.28 mn GBP201.50 mn N/A GBp8.33 GBp3.80- GBp9.70 1936.2 million (mn) N/A 930,813 Company description Fortune Oil Plc (Fortune Oil) operates in oil and gas supply and related infrastructure projects in China. The company also has contractor rights for coal bed methane (CBM) block in Shanxi Province in China. The CBM project is part of the company’s strategy to grow into an independent integrated gas company with presence across the value chain. The company listed on the Main Market of the London Stock Exchange in 1993. Fortune Oil’s gas business is grouped under Fortune Gas Investment Holdings Limited (Fortune Gas). In 2008, Wilmar International Limited, one of the largest companies listed on the Singapore Stock Exchange, acquired a 15% stake in Fortune Gas. The gas business includes the following: – Natural gas distribution: This comprises retail and wholesale natural gas supply infrastructure including city gas companies, four spur pipeline companies, one compressed natural gas (CNG) wholesale station (among the largest CNG stations around Beijing), two liquefied natural gas (LNG) production plants, CNG retail stations and a fleet of CNG trucks. – CBM: Fortune Liulin Gas Co. Ltd. (FLG) has a production sharing contract (PSC) with the government-owned China United Coalbed Methane Corporation (CUCBM) for Liulin CBM block. CUCBM has recently made an application for reserves certification of the northern section of the block, defining FLG as an exploration company. The company’s operations in oil business include: – West Zhuhai Products Terminal: Located at the western entrance of the Pearl River Delta, the terminal distributes refined products and has a capacity to handle 80,000 deadweight tonnes (dwt) ocean-going tankers. The terminal has 240,000 cubic metres of storage capacity for gasoline and diesel. Fortune Oil holds a 37% stake in the terminal. – Maoming Single Point Mooring (SPM): Maoming SPM, in which the company has a 56% stake, supplies crude oil to Sinopec's Maoming refinery (southern China’s largest refinery) through a 15km sub-sea pipeline. Maoming SPM can handle tankers up to 300,000 dwt. – Trading: It includes trading of unregulated petroleum products (like fuel oil and lube base oil), two gasoline stations in Beijing and a storage facility in Shantou. – South China Bluesky Aviation Oil Company: This is a joint venture between Fortune Oil, BP (each holding a 24.5% stake) and China National Aviation Fuel Company (51% stake) supplying jet fuel to 15 airports in central and southern China. It had a 13% share in China’s jet fuel market in 2008. Exhibit 1: Key financials FTSE AIM ALL Share Index (3.2) 16.9 12-m onth price volum e perform ance 10 8 6 4 2 0 N D J F M A M J J A S O N Stock Price Volume Major shareholders Name First Level Holdings Ltd Vitol Energy (Bermuda) Ltd Others Total shares TIDM code: ISIN number: Nominated advisor: Broker Bankers: Capital 37% 8% 55% 100% FTO GB0001022960 Oriel Securities Limited Oriel Securities Limited Industrial and Commercial Bank of China Oversea-Chinese Banking Corporation Limited, Standard Chartered Bank (Hong Kong) Limited Auditors: Deloitte LLP Law yers: X. J. Wang & Co. Solicitors, Reed Smith LLP, Clifford Chance United Kingdom United Kingdom Volume (thousands) 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 Stock price (GBp) Country of incorporation: Head Office location: All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (GBp) Net cash FY 2007A 72,688 9,700 8,202 0.25 (5,925) FY 2007-08 FY 2008A (%change) 132,136 17,649 14,175 0.49 5,597 81.8% 81.9% 72.8% 96.0% N/A China Principal area of operations: Company w ebsite: http://w w w .fortune-oil.com Analyst: Managing analyst: DOR: Puneet Bhasin Sonia Bakshi Shubhashish Dubey Source: Company data, Bloomberg, Pipal Research P/E 28.71 12.72 Source: Company data, Bloomberg, Pipal Research Page 83 Fortune Oil Plc (FTO: LSE) Sector: Oil & Gas Producers Sub-sector: Exploration & Production 25-11-09 SWOT Strengths First mover advantage – The company’s more than 16 years of experience in China and as it is amongst the first few foreign and private players to enter China’s oil and gas sector will aid the company to accelerate its expansion in China’s oil and gas sector. Potential upside from Liulin CBM project – The company’s Liulin CBM project was declared a State Pilot Project in February 2009 owing to the quality of its CBM resource and the favourable location of Liulin as a logistics centre. This will expedite exploration and development in the block. Weaknesses Geographic concentration – All the company’s operations are located in China. This exposes the company to any unfavourable change in the regulated (although liberalising) oil and gas sector in China. Opportunities Surging energy demand in China – As the fastest growing economy, the demand for energy resources, including transportation fuel and natural gas, will continue to grow in China. This growing demand will provide Fortune Oil with new opportunities in coming years. Expanding natural gas supply opportunities – Natural gas, being cheaper and cleaner than other conventional fuels, is fast gaining popularity. Considering the large natural gas reserves in China and its current low penetration (only 3% of China's energy demand is met by natural gas compared with 25% in Europe), the natural gas market in China is expected to grow significantly. In addition, only ~20% of the connectable urban population in China has been connected to the city gas network, reflecting the vast growth potential in retail gas sales. Huge untapped coal seam gas reserves – China has huge undeveloped reserves of coal seam gas (over 30 trillion cubic meters as per government estimates) which can be extracted as CBM. This provides significant opportunities for Fortune Oil’s gas production activities. Threats Volatility in oil prices – The company takes title to jet fuel in case of Bluesky project. Consequently, inventory at Bluesky project is exposed to pricing risk owing to fact that prices for major transportation fuels like gasoline, jet fuel and diesel are regulated by the government agency National Development and Reform Commission (NDRC). – In December 2008, NDRC decreased oil prices significantly, including a 32% reduction in jet fuel prices, following the trend in global oil prices. This resulted in significant inventory losses in Bluesky joint venture owing to which the division contributed negatively (negative GBP3.0 mn) to the company’s net results in 2008. Increasing competition – The city gas distribution sector, in which Fortune Oil operates, is facing increasing competition from governmentcontrolled oil & gas companies. Key recent news 16 November 2009: Announced the acquisition of 26.1% interest of Molopo Energy Limited in Liulin CBM block for USD6 mn. This increases Fortune Gas’ share of the foreign contractor rights in the block to 100%. Earlier, on 14 October 2009, the company announced new gas reserves estimates at Liulin CBM block which put the possible gas reserves at 84.8 billion standard cubic feet compared with 29.7 billion standard cubic feet announced in March 2008. Management Qian Benyuan, Non-executive Chairman: Qian has been the company’s chairman since 1997. Prior to joining Fortune Oil, he was the president and CEO of China National Electronics Import and Export Corporation. Daniel Chiu, Executive Vice-Chairman: Daniel has been a director of the company since August 1993 and was appointed as executive vice-chairman in October 1994. Previously, he was the company’s chief executive officer. LI Ching, Chief Executive Officer: Ll has been the company’s CEO since April 2001. She was the company’s nonexecutive director from August 1993 to June 1998. John Pexton, Deputy Chief Executive: John joined Fortune Oil in 2004. Prior to that, he was a director and head of Asia Project Finance for Deutsche Bank in Hong Kong. He worked for 10 years as a chartered chemical engineer in the downstream oil industry. 1 The company has net cash position The company has reviewed a draft of this profile and factual amendments have been made Page 84 Getech Group plc (GTC: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M GTC FTSE AIM ALL Share Index 3M 12M -36.7% -28.2% -2.7% -10.0% GBP 5.1 mn GBP 3.4 mn 0.0% GBp 17.5 Company description GETECH Group plc (GTC) is a leading petroleum and minerals consultancy. It provides Services, Data and Studies to assist its GBp 15.5 - 28.0 clients in making informed and efficient exploration decisions. It 29.2 million (mn) is able to provide integrated solutions across a broad range of 3.4% disciplines, involving both geological and geophysical contributions. 4,663 – Services: GTC’s services include the following: Gravity and Magnetic Data Processing and Interpretation; Data Compilation and Management; Training; GIS Services; R&D; Multi-Disciplinary Geology Studies; Airborne Gravity and Magnetic QC/QA; and Remote Sensing. Data Licenses: Oil, gas and mining companies license GTC’s data and studies when they are evaluating new exploration areas and/or when they wish to expand their current exploration activities into neighbouring regions. GTC believes it has acquired the largest commercially available library of global gravity and magnetic data – it currently has data from almost every country in the world. Petroleum Systems: In 2004, GTC established the Petroleum Systems Group, which has now grown to include a very broad range of geological skills, including, structural geology, geochemistry, petroleum geology, palaeodrainage, palaeogeography, sedimentoloy and stratigraphy. Helped by the synergies with the original geophysics side, this has now grown to become the major part of the business. The existing geophysics capabilities combined with the unparalleled datasets enable it to provide very comprehensive integrated studies to its clients. Competition: While there are competitors that provide similar service projects and products as GTC, they do not provide them in the same way. GTC believes its wide range of geosciences skills, combined with its global gravity and magnetic data, provide it with an integral advantage. The company also believes its comprehensive, integrated product offering incorporates more skills and proprietary data than do competitive offerings. – -3.8% 6.4% 12-m onth price volum e perform ance 30 20 15 10 5 0 N D J F M A M J J A S S O Stock Price Volume Volume (thousands) Stock price (GBp) 25 160 140 120 100 80 60 40 20 0 – Major shareholders Name Professor J D Fairhead IP Group plc Invesco Perpetual Other Total Shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst(s): DOR: Capital 30.42% 21.42% 9.50% 38.67% 100.00% GTC GB00B0HZVP95 WH Ireland Group plc WH Ireland Group plc National Westminster Bank plc GRANT THORNTON LLP Walker Morris UK Leeds, UK Global http://w w w .getech.com/ Philip H. Weiss, CFA, CPA James Kelleher, CFA – Exhibit 1: Key financials All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Diluted incom e per share (GBp) Net cash P/E FY 2008-09 FY 2008A FY 2009A (%change) 4,126 822 602 2.17 1,688 3,306 (646) (372) (1.30) 580 N/A (19.9%) N/A N/A N/A (65.6%) Source: Company data, Bloomberg Source: Company data, Argus Research estimates Page 85 Getech Group plc (GTC: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 SWOT Strengths Gravity and magnetic imaging database – GTC believes its database is the largest commercially available, providing an informational competitive advantage. Weaknesses Client size – GTC’s business is not well-established among smaller independent exploration and production companies. Petroleum geology studies – GTC has a wide range of highly skilled people who can produce integrated studies reflecting considerable perspectives and inputs. Dependence on the petroleum market – GTC’s business is largely dependent on the petroleum market (~95%). Major legislation restricting oil and natural gas use could limit future prospects. Client base – GTC’s client base largely consists of very strong, established oil companies, and major integrated oil companies. Sensitivity to oil price volatility – In 2009, GTC’s customers have limited capital spending, causing a drop-off in the company’s business. Should significantly lower oil prices return, its business could once again be negatively impacted. Opportunities Extend business scope/scale – GTC can provide more-focused studies, which will expand the range of services beyond what is currently offered and could be attractive to a wider range of oil and gas company clients. Its historic focus is on large-scale projects, which have been of most interest to larger clients. Threats Legislation or technology impact on oil demand – GTC’s business would be negatively impacted if there were a corresponding decline in exploration activity. Technological advancement – A disruptive technology could damage GTC’s business. Increased involvement in data acquisition – Historically, GTC has not gathered data itself. Retention of key personnel – GTC relies on a team of highly skilled people and will have to manage carefully to retain them. US domestic market – GTC could expand its involvement in the US oil and gas market, particularly onshore. Key recent news 27 October 2009: Released preliminary financial results for the 12-monh period ended 31 July 2009. 10 September 2009: A loan facility of GBP1 mn was made available to the company; it is secured by a fixed and floating charge over all the company’s assets. Management Peter Stephens, Non-Executive Chairman: He is a founding shareholder of Desire Petroleum plc and is a Non-Executive Director of Tristel plc. Dr. Derek Fairhead, President: He is the Founder of GTC and has been Manager and Managing Director of GTC for over 14 years. He is also the Professor of Applied Geophysics at Leeds University. Raymond Wolfson, Chief Executive Officer: He has created and been a Director of various spin-out companies from the University of Leeds, a significant number of which have raised funding and/or been sold. Most recently, he has been responsible for managing the intellectual property created at the university. The company has reviewed a draft of this profile and factual amendments have been made Page 86 Maple Energy Plc (MPLE: AIM) Sector: Oil & Gas Producers Sub-sector: Integrated Oil & Gas 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M VELO FTSE AIM ALL Share Index (23.6) (3.2) 3M (43.7) 16.9 12M (47.2) 58.6 GBP67.8 mn GBP76.9 mn 0.05 GBp76.00 Company description Maple Energy Plc (Maple) was founded in 1986 and listed on AIM in July 2007. Maple is an integrated oil & gas company GBp330.00- GB75.00 operating in Peru, engaged in E&P of crude oil, natural gas, and 89.2 million (mn) natural gas liquids; refining, marketing and distribution of N/A hydrocarbon products; and development of an ethanol project. Maple’s principal operations include the following: 21,240 12-m onth price volum e perform ance 350 300 250 200 150 100 50 0 N D J F M A M J J A S O N Stock price Volume Major shareholders Name Interline Enterprise S.L.U. Tony Hines Rex Canon AFP Integra Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Capital 10.6% 9.2% 7.7% 7.2% 65.3% 100.0% MPLE IE00B1FRPX03 Jefferies International Limited Mirabaud Securities Limited and Jefferies International Limited Banco de Crédito del Perú and Scotiabank Ernst & Young Vinson & Elkins R.L.L.P., Muñiz, Ramírez, Pérez-Taiman and Matheson Ormsby Prentice Ireland Peru Peru Nipun Jain Sonia Bakshi Shubhashish Dubey http://w w w .maple-energy.com 1,000 800 600 400 200 0 Crude oil production and development: Maple operates and has a 100% working interest in crude-oil producing properties including Blocks 31-B (Maquia), 31-D (Agua Caliente) and 31-E (Pacaya). Moreover, Maple intends to develop additional wells in Blocks 31-B and 31-D. – Oil and gas exploration: Maple’s principal exploration interest lies in Block 31-E, which comprises 3 oil prospects, and Block 31-C, which has a potential gas prospect. – Refining, marketing and distribution operations: Maple’s main source of revenues is its refining and marketing operations. It operates the Pucallpa Refinery and Sales Plant which has the capacity to process either (a)3,400 bpd of crude oil producing a Residual 5 fuel oil, (b)3,000 bpd of crude oil producing a Residual 6 fuel oil or (c)4,100 bpd of natural gasoline. Its main products include gasoline, diesel, kerosene, solvents, aviation fuel, naphtha, and residual fuel oil which are marketed in the Central Peruvian jungle and highlands, and the Lima area. – Ethanol Project: Maple is developing one of the first ethanol projects in Peru which will use sugarcane as feedstock. The project, currently under construction, is located in the Piura Region on the northwest coast of Peru and has an estimated development cost of USD222 mn (ex. VAT). Maple has acquired 10,000 ha of contiguous land with sufficient water resources for this project. Most of has not been planted previously and does not compete with food crops. The project, expected to employ over 600 people, enjoys a favourable climate and market access and is backed by an experienced management team. – Aguaytia Energy: This is an integrated natural gas and electric power generation and transmission project in Peru. In June 2009, Maple completed the sale of all of its interests in Aguaytia Energy in order to focus on its exploration, oilfield development and ethanol initiatives. Maple continues to make significant progress in its core areas of operations. In 2008, it re-activated its Pacaya oilfield, started its 22 well development drilling programme in the Maquia and Agua Caliente oilfields and also worked on the assembly of a 2,000 horsepower heli-transportable drilling rig. Exhibit 1: Key financials – Stock price (GBp) Volume (thousands) Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst: Managing analyst: DOR: All figures in USD '000, unless specified FY 2007A Revenues 80,717 Operating incom e (970) Net incom e (1,990) Fully diluted EPS (cents) (3) Net cash 28,435 P/E N/A FY 2007-08 FY 2008A (%change) 95,290 18.1% (5,330) (449.5%) (7,078) (255.7%) (8) (133.7%) (1,916) N/A N/A Source: Company data, Bloomberg, Pipal Research Source: Company data, Bloomberg, Pipal Research Page 87 Maple Energy Plc (MPLE: AIM) Sector: Oil & Gas Producers Sub-sector: Integrated Oil & Gas 25-11-09 SWOT Strengths Operational efficiency through vertical integration and ownership of rigs – Vertically integrated operations provide favourable feedstock costs for refining and in turn better margins for Maple. – Maple maintains a fleet of 3 work-over rigs and 2 well-service rigs which enable Maple to reduce its third-party contractor supply cost and avoid time constraints in the execution of its shallow drilling and work-over programmes. Favourable location – Maple’s crude oil production sites are close to its refining assets which are well connected to surrounding markets thus providing Maple with logistical advantages. Weaknesses Concentration of operations in Peru – All of the company’s operations are located in Peru. This exposes the company to any unfavourable changes in the oil and gas sector of Peru. Opportunities Rapidly growing ethanol market in Peru – As per Peru’s Ministry of Agriculture, the country’s ethanol mandate requires 7.8% ethanol content in gasoline by Jan 2010. The demand for ethanol in Peru is expected to reach 20 to 25 mn gallons per year. Further, Peru has one of the world’s highest yields per ha for sugarcane (one of the best feedstocks for ethanol), creating a favourable environment for Maple's ethanol project. Growing spending and production in oil and gas sector – Peru’s oil & gas sector offers great growth opportunities for Maple. The government agency that hands out licenses for hydrocarbon exploration and development in Peru plans to offer 17 new lots in 2010. Oil production in the country is expected to nearly triple to 400,000bpd by 2015 reflecting the country’s surging oil demand. – Although Maple currently faces stiff competition in oil production (from larger players such as Pluspetrol controlling around 69% of the country’s crude oil production) as well as in refining (from state entities) growing oil demand in the country holds immense opportunities to expand its business. Threats Exploration and development risk – The company is exposed to the general exploration and development risks including estimates of potential reserves, and unexpected operating problems that could make projects economically unviable, resulting in loss of investment. Oil price volatility – Oil price volatility is a big threat for companies like Maple as it brings margins under pressure. Besides, it could render certain exploration activities commercially unviable. – Maple’s sales of goods declined 43.9% y-o-y in 1H 09 primarily due to the decline in average sales price in line with lower international oil prices. Political risk – Peru has emerged from a long period of civil disturbance and guerrilla-led violence which dominated the 1980’s and early 1990’s. Criminal gangs still operate in the country, funded largely by the proceeds of cocaine production. This poses a general threat to the company’s operations. Key recent news 05 November 2009: Announced that it has entered an agreement with YA Global Master SPV Ltd, an affiliate of Yorkville Advisors LLC, which has agreed to provide Maple with USD30 mn against the company’s ordinary shares. Maple can draw down the funds at its discretion over the next 30 months. 18 August 2009: Announced financial results for 1H 09 recording a 43.9% decline in sales of goods to USD25.8 mn compared with USD46.1 mn in 1H 08. Net loss (before the extraordinary charge related to the sale of the interest in Aguaytia Energy) was USD5.2 mn compared with a net profit of USD1.2 mn in 1H 08. Management Jack W. Hanks, Chairman and Executive Director: He founded Maple in 1986 in the US and has since held the post of president or chairman in the company. Prior to founding Maple, he served as a partner in the Washington office of the law firm Akin Gump Strauss. Rex W. Canon, Chief Executive Officer, President and Executive Director: He has been with Maple since 1987 and has worked in several positions before being promoted to president and chief executive officer in 1997. Prior to 1987, he served as controller and later as vice president of finance for an investment and venture capital firm. The company has reviewed a draft of this profile and factual amendments have been made Page 88 Max Petroleum plc (MXP: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M MXP FTSE AIM ALL Share Index -11.1% 3M 28.0% 12M 48.4% -28.2% GBP 61.6 mn GBP 163.7 mn 57.6% GBp 15.0 Company description Max Petroleum (MXP) is an independent oil & gas exploration and production company operating in the Pre-Caspian Basin in GBp 1.7 - 31.8 Western Kazakhstan. As of 31 March 2009, it owned a 100% 410.6 million (mn) interest in the Blocks A&E and Astrakhanskiy oil and gas license 0.0 areas, covering 13,500 km². 4,691,516 – Strategy: MXP’s strategy is to apply new, exploratory 3D seismic technology to the proven, highly prolific PreCaspian Basin to develop a high-quality portfolio of drillable pre-salt and post-salt exploration prospects. Productive reservoirs are found in the shallow, “post-salt” section and deeper, “pre-salt” strata. Max Petroleum’s first discovery, the Zhana Makat Field, on its Blocks A&E license, produces from the post-salt section. Licenses: MXP’s two large licenses contain numerous prospects for both the deeper, pre-salt and shallow, postsalt play types. The Group is applying cutting-edge technology as well as extensive analysis of historical exploration activity on a regional scale to help understand and unlock the potential of its exploration acreage. Acreage: The onshore acreage position contains significant resource potential in both post-salt and pre-salt structures. MXP currently has one discovery on Block E -the Zhana Makat Field, which commenced production in August 2007. As of 31 March 2009, the field had estimated proved and probable reserves of 5.8 mn barrels of oil. Drilling Plans: Max Petroleum expects to resume drilling in autumn 2009 with two shallow development wells in the Zhana Makat Field, after which it will immediately begin drilling an exploration portfolio of 10 to 15 post-salt prospects on its Blocks A&E license. This exploration drilling program will extend throughout 2010. The Group will retain a 100% working interest in its post-salt portfolio, which is expected to be highly accretive -- with strong economic returns on invested capital, if successful, due to the low drilling cost of shallow and intermediate wells. The deeper and higher risk pre-salt portfolio is being offered for farm-out to larger companies seeking high-risk, high-return prospects. – -3.8% 6.4% 12-m onth price volum e perform ance 35 30 25 20 15 10 5 0 ND J FMAMJ J A S SO Stock Price Major shareholders Name G Kachshapov Lynchw ood Nominees Limit The Bank of New York (Nominees) Ltd Other Total Shares TIDM code: ISIN number: Nominated broker/advisor: Broker: Bankers: Auditors: Law yers: Head Office location: Principal area of operations: Company w ebsite: Analyst(s): DOR: Volume Volume (thousands) 40,000 35,000 30,000 25,000 20,000 15,000 10,000 5,000 0 Stock price (GBp) – – Capital 12.43% 6.90% 4.58% 76.09% 100.00% MXP GB00B0H1P667 WH Ireland JPMorgan Cazenove Ltd N/A PRICEWATERHOUSE COOPERS Akin Gump Strauss Hauer UK London Kazakhstan Philip H. Weiss, CFA,CPA James Kelleher, CFA http://w w w .maxpetroleum.com Exhibit 1: Key financials All figures in USD '000, unless specified Revenues Operating incom e Net incom e Diluted incom e per share (USD) Net cash P/E FY 2008A 27,470 (35,777) (36,984) (0.11) (77,169) N/A Fy 2008-09 FY 2009A (%change) 39,195 (4,842) (9,862) (0.04) (102,139) N/A 42.7% 86.5% 73.3% 67.3% (32.4%) Country of incorporation: Source: Company data, Bloomberg Source: Company data, Argus Research estimates Page 89 Max Petroleum plc (MXP: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 SWOT Strengths Experienced Management team – MXP’s Management team has considerable experience in the oil & gas exploration industry. Proven, prolific hydrocarbon basin – MXP’s licenses are in a basin whose deeper pre-salt discoveries include some of the largest oil and gas fields found in the last 35 years. Post-salt portfolio – The probability of exploration success in these wells is relatively high; the portfolio is expected to provide strong economic returns on invested capital. Weaknesses Financial position – MXP has a relatively weak balance sheet; it had to restructure its debt in order to survive the recent sharp downturn in commodity prices. Geopolitical risk – MXP’s licenses are in Kazakhstan. The local government has a history of changing the tax regime, which could negatively impact cash flow. Volatility of prices for oil and gas – The supply, demand and prices for oil and gas are volatile and are influenced by factors beyond MXP’s control. Opportunities Pre-salt portfolio – Consists of at least two different play types, with a range of expected mean recoverable reserve potential of 100 mn -500 mn boe each. Potential farm-out could reduce risk – The deeper and higher risk pre-salt portfolio is being offered for farm-out to larger companies. Ability to export oil – MXP can realize higher prices by exporting oil outside Kazakhstan. Threats Legislative action – The passage of meaningful legislation limiting hydrocarbon emissions could negatively impact MXP. Volatility of prices for oil and gas – Supply, demand and prices for oil and gas are volatile and are influenced by factors beyond MXP’s control. Exploration risk – Exploration for, and development of, hydrocarbons is speculative and involves a high degree of risk. Sufficient resources to exploit its properties may not be found. Key recent news 31 October 2009: Drilling commenced on the ZMA-AN2 development well in the Zhana Makat Field on its Blocks A&E licence area. After completion of the ZMA-AN2 well, the rig will drill a second development well in the Zhana Makat Field before moving on to drill the Borkyldakty exploration well. 21 October 2009: Reported results of its final 2009 prospect review based on its interpretation of proprietary 3D seismic data. To date, the Group has matured 12 drillable post-salt prospects, ranging in estimated size from 9 mn to 48 mn bbl of oil, with an estimated range of geological chance of success between 25% and 60%. The Group’s pre-salt portfolio now includes 15 mapped leads and prospects consisting of two distinct play types. Management Michael B. Young, President and CFO: Mr. Young has served as Max Petroleum’s Chief Financial Officer since September 2006, and was additionally appointed President in February 2009. He has over 17 years experience in various financial roles in the oil and gas industry. James A. Jeffs, Executive Co-Chairman: Mr. Jeffs is a senior executive with extensive experience as a director of oil & gas exploration and production companies, an investment banker, and multi-billion dollar trust fund management. Lee O. Kraus, Non-executive Director: Mr. Kraus is the Founder and President of Composite Capital, LLC, a financial advisory firm focused on clients in the oil and gas, mining, and chemicals sectors. Page 90 Metals Exploration Plc (MTL: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (A IM) Capitalization Market capitalization Enterprise value Net debt / equity Pr ice pe r for m ance (%) 1M MTL (23.2) 3M 0 12M 70.3 64.4 GBp15.75 GBp24.25- GBp6.25 269.7 million (mn) N/A 524,200 Company description Metals Exploration Plc's (MTL) stated principal activity is to identify, acquire and develop mining companies or projects with an emphasis on precious and base metal mining in the SouthEast Asia region. The company was founded in April 2004 and listed on the AIM in October 2004. Since then it has acquired 7 projects; Runruno, Dupax, Sulong, Puray, Worldwide and Capaz located in the Philippines, and Waigeo Island located in Indonesia. While Dupax and Sulong have received Exploratory Permits (EP), Puray, Worldwide, Capax and Waigeo are still at the application stage. The company is currently concentrating on its flagship project, Runruno, which recently received a Financial and Technical Assistance Agreement (FTAA) permit. The FTAA is a legal contract between MTL and the Philippine government, allowing the company the right to 100% ownership of the project and ensuring security of title for 25 years with an option to extend for a further 25 years. It also offers a tax holiday for up to 5 years after commencement of production until the company has recovered its pre-operating expenses and investment. Thereafter the government will receive a 'Government Share' representing 5% of net mining revenues. Runruno now has estimated total JORC compliant Measured, Indicated and Inferred mineral resources of 1.5Moz gold and 25.4Mlb Molybdenum (Mo), contained within 24.5 Mt at average grades of 1.91 g/t gold and 470 part per million (ppm) Mo. A scoping study released in November 2008 had estimated that Runruno could mine up to 3 Mt pa to produce an average of 183,000 oz of gold and 1.7 Mlb of Mo per year during an initial mine life of nine years, at a cash operating cost of USD285/oz net of projected Mo credits. At the time, the total capital cost of the project was estimated to be around USD208 mn which the company expected to be funded at a debt/equity ratio of 60:40. An independent technical review published on 19 November 2009 reported reduced resource estimates for Runruno, but with Measured and Indicated resources now representing 57% of the total resource, compared to 38% previously. To allow reworking for the revised resource figures, the Bankable Feasibility Study (BFS) will now be delayed beyond the original 1Q 10 target. Following delivery, MTL expects to secure funding and start construction on the project. Production is expected to commence at the end of 2011. Exhibit 1: Key financials GBP42.48 mn GBP39.20 mn 0.004 FTSE A IM A LL Share Index (3.0) 15.3 12-m onth price volum e pe rfor m ance 30 25 20 15 10 5 0 ND J FM AMJ J A S ON Sto ck Price M ajor s har e holde rs Name Solomon Capital Ltd Williams de Broe Baker Steel Capital Mngr A llianz Cornhill Insurance Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: A uditors: Law yers: Country of incorporation: Head Of f ice location: Principal area of operations: Company w ebsite: A nalyst: Managing analyst: DOR: Source: Company data, Bloomb erg Vo lume 5,000 4,000 3,000 2,000 1,000 0 Capital 44.10% 7.44% 6.73% 4.45% 25.48% 100.00% MTL GB00B0394F6 Hanson Westhouse Limited Hanson Westhouse Limited National Westminster Bank Plc Nexia Smith & William Kerman & Co LLP UK UK South East A sia Sanket Kulkarni Somatish Banerji Satish Betadpur, CFA w w w .metalsexploration.com All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (GBP) Net cash P/E FY 2007-08 FY 2007A FY 2008A (%change) 0 (2,092.0) (2,197.4) (2.81) 3,934.5 N/A 0 (3,259.9) (3,438.8) (3.55) 1,955.2 N/A N/A (55.8%) (56.5%) (26.3%) (50.3%) The figures identified are for the years ended 30 September 2007 & 2008. Subsequently, the reporting period has been realigned to end 31 December. Source: Company data Page 91 Metals Exploration Plc (MTL: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 SWOT Strengths Flagship project – With an estimated mineral resource of 1.5Moz gold and 25.4Mlb Mo, at average grades of 1.91 g/t gold and 470ppm Mo, and as mining is expected to be straightforward, Runruno offers scope for healthy returns. Received FTAA for Runruno – Indicating strong government support (with this only the 4th FTAA permit granted), the permit allows 100% ownership of the project. It ensures security of title for 25 years with an option to extend for a further 25 years. Solid local infrastructure at Runruno – The project's location, with established road infrastructure and power available directly from the national grid, places it at an advantage to many Greenfield projects. Support from Solomon Capital – Continued strong backing and an injection of funds from its major shareholder, Solomon Capital, which now holds 44.1% of the company. Weaknesses Current dependence on a single project – The Runruno project is currently the only focus area. The remaining six projects are on hold, of which most are yet to receive EP. Bankable Feasibility Study delayed – BFS is yet to be completed for Runruno, and has now been delayed to consider revised resource estimates. Until this is completed, commercial viability remains unproven. Funding challenges – 60% funding for Runruno project is to be through project finance. In the prevailing economic environment, this could be a challenge. Production is targeted to start at the end of 2011 only Opportunities Great potential from Runruno’s similarity with Cripple Creek – An independent study identified that Runruno has remarkable geological similarities with the mineral rich multimillion ounce Cripple Creek mining district located in Colorado, US. With less than 15% of Runruno explored, further exploration is therefore likely to lead to an increase in grades and tonnages. Government focus on mining sector – The government of the Philippines hopes to attract USD14.5 bn in investment in the mining sector by 2013. Threats Potential fall in gold prices – If gold prices decline to the extent that revenues are insufficient to cover exploration, construction and operating costs, the company could be forced to delay or abandon projects. Opposition from local community to Runruno Volatile Philippine tropical climate – The tropical climate and the site topography may present obstacles to exploration and development activities. Key recent news 19 November 2009: The company announced a revised independent resource estimate by Mining Associates Pty Limited (MA) on Runruno. While combined Measured and Indicated resources now comprise 56.7% of the total resource, compared to 37.8% previously, representing a strong conversion rate, both Indicated and Inferred resource estimates have been reduced significantly. Measured gold resource increased from 270,000oz to 560,000oz, Indicated gold resource reduced from 487,000oz to 290,000oz and Inferred gold resource reduced from 1,248,000oz to 650,000oz. As a result, finalization of the feasibility study will be delayed. 29 October 2009: The company announced the signing of its FTAA by the Philippine government for the Runruno goldMo project. Management Ian Holzberger - Executive Chairman: With over 35 years of experience in the mining industry, he was Managing Director of Highlands Pacific Limited from 1997 to 2007. He has extensive experience in the implementation of major project feasibility studies, equity raising, debt financing, government negotiations and all aspects of project development. Jonathan Beardsworth - Managing Director: A former head of Standard Bank’s mining and metals team, he has more than 12 years of experience in investment banking focused solely on the mining and metals sector. He is responsible for overall company strategy. Page 92 Minco PLC (MIO: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) Company description GBp3.38 GBp1.38- GBp4.88 170.2 million (mn) N/A 192,855 GBP5.74 mn GBP10.19 mn N/A 12M 93.1 64.4 1M 3M (20.5) (6.9) MIO FTSE AIM ALL Share Index (3.0) 15.3 12-m onth price volum e perform ance 6 3,000 2,400 1,800 1,200 600 0 J D J F M A M J J A S O N Stock Price Volume 4 3 2 1 0 Major shareholders Name Capital 13% Directors and Promoters 7% Barclayshare Nominees Ltd 6% Aran Asset Management 6% Midlothian Limited Thomas & Philomena O'Gorman 5% Others 64% 100% Total shares TIDM code: MIO IE0004678326 ISIN number: Nominated advisor: J&E Davy Broker: J&E Davy Bankers: Barclays Bank Ireland Plc Auditors: Deloitte & Touche Law yers: McEvoy Partners Ireland Country of incorporation: Head Office location: Ireland Principal area of operations: Ireland and Mexico http://w w w .minco.ie Company w ebsite: Rupainka Rajan Analyst: Ritw ik Bhattacharjee Supervising analyst: Satish Betadpur, CFA DOR: Source: Company data, Bloomberg Volume (thousands) 5 Minco PLC (Minco) is an Irish incorporated metals exploration & development company with zinc exploration projects in Ireland and zinc-silver investments in Mexico. The company is primarily focused on its Pallas Green project in Ireland, and is involved in the zinc-silver projects Bilbao and Laguna in Mexico through Toronto exchange listed Xtierra Inc (Xtierra), a 60% subsidiary. – Pallas Green project: Located on the southern boundary of the Irish Midland Orefield between Limerick and Tipperary, the Pallas Green zinc-lead project is a joint venture between Minco (23.6% stake) and Xstrata Zinc (76.4% stake). Minco has identified four distinct lenses of massive zinc-lead sulphide mineralization at Castlegarde, Srahane West, Caherconlish and Tobermalug. The company estimates that the Caherconlish and Tobermalug sites currently have the potential for resources of 16.2 Mt at an average grade of 10.0% zinc and 1.7% lead. During 1H 09, a JORC compliant Inferred resource estimate of 11.3 Mt grading 10.2% zinc and 1.9% lead was released for the Tobermalug deposit. Minco estimates that 60% of the Pallas Green license area remains unexplored, reflecting tremendous potential for an increase in resources. The project is currently undergoing a preliminary scoping study and drilling after an extensive drilling program in FY 2008. Minco aims to increase the resource size at the project, with an extensive drilling program scheduled in FY 2010. – Bilbao Project: This zinc-silver project, located in Zacatecas (Mexico) is spread over 1,407 ha and comprises 9 concessions. In 2008, Xtierra released a NI 43-101 compliant Indicated resource estimate of 3.6 Mt grading 3.53% zinc, 2.75% lead, 0.29% copper and 88.23 g/t silver and an Inferred resource estimate of 2.4 Mt grading 2.52% zinc, 2.79% lead, 0.28% copper and 83.08 g/t silver. The ongoing first phase of the feasibility study is expected to be completed by 4Q 09 followed by completion of the second phase of the feasibility study in 1H 10. – La Laguna Pedernalillo (Laguna) Tailings Project: This is a silver-gold-mercury tailings reprocessing project for which a bankable feasibility study was completed in 2006 by Micon International Ltd (Micon). Thereafter, Micon determined a revised reserve estimate of 6.8 Mt in the Proven and Probable category grading 57.92 g/t silver, 0.31 g/t gold and 328.92 g/t mercury in 2008. On 19 November 2009, it was announced that Xtierra had entered an Option and Sale Agreement for the deposit. Exhibit 1: Key financials Stock price (GBp) All figures in USD '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (USD) Net cash P/E Source: Company data FY 2007-08 FY 2007A FY 2008A (%change) 0 0 N/A (857) (2,502) (191.9%) (2,766) (2,195) 20.6% (1.69) (1.27) 24.9% 2,472 2,367 (4.2%) N/A N/A Page 93 Minco PLC (MIO: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 SWOT Strengths JORC and NI 43-101 compliant resource estimates – Existence of 11.3 Mt JORC compliant Inferred resources at Tobermalug deposit in Pallas Green; NI 43-101 compliant resource estimates of 3.6 Mt (Indicated) & 2.4 Mt (Inferred) at the Bilbao project and 6.8 Mt Proven and Probable reserves at Laguna project is highly valuable. Pallas Green’s similarities with Lisheen and Galmoy mines – The company has identified that the geological composition of deposits discovered at Pallas Green are similar to those at its existing, productive Lisheen and Galmoy mines. Experienced Management team – The company has a strong Management team with the Chairman, CEO, and CFO having approximately 35, 40 and 20 years of experience in the mining industry respectively. Solid support from Juno Ltd and relationship with Xstrata – While its relationship with Xstrata (which also strengthens technical expertise) will ease Pallas Green funding pressure, the assurance of adequate financial support for all projects from Juno Ltd, a shareholder of Minco, is a major benefit. Weaknesses Production has not yet commenced at Minco’s key projects – Minco’s key projects have not yet commenced production, leaving revenue and cash generation prospects uncertain. Limited measured resources/proven reserves – Measured resources are of limited quantity so far, as a result of which the asset-based valuation is weak, presenting limited upside to planned production. Liquidity risk – Since the company has not yet started generating cash from operations, it relies significantly on equity financing for its projects. Inability to raise further adequate funds would hamper further development of its projects. Opportunities About 60% of the Pallas Green license area unexplored – Nearly 60% of the Pallas Green license area remains unexplored, indicating potential scope for a significant upside in resources. Scope for diversification and growth in the event of acquisition of El Dorado gold project – If Xtierra exercises its option to acquire a 100% interest in the El Dorado property in Mexico, high grade gold will be added to Minco’s portfolio, resulting in further diversification. Threats Volatility in prices of zinc, silver and lead – Significant volatility in prices of zinc, silver and lead may negatively impact investor interest in the company’s projects. Changes in government regulations – Changes in existing government regulations governing Minco’s operations may have significant material impact on the company as it may increase exploration expenses, production overheads and other project expenses. Key recent news 19 November 2009: Minco’s subsidiary, Xtierra, announced an Option and Sale agreement with Indo Gold Limited for the option and sale of the Laguna tailings deposit, the successful implementation of which will provide Xtierra with initial cash and a steady stream of revenue over the life of operations at Laguna. 04 November 2009: Announced update on Metallurgical Studies, part of the Phase One Feasibility Study at Xtierra's Bilbao Project, which suggested good metal recoveries from the oxide mineralization, with scope for improvement in recoveries with optimization in progress. The final metallurgical report will be released by mid-December 2009. Management John Kearney, Executive Chairman: With over 35 years mining experience, he is currently a director or senior officer of several mining ventures and also serves as a director of the Mining Association of Canada. He was previously the CEO and President of the Northgate Group based in Toronto. Terence McKillen, Chief Executive Officer: A professional geologist with 40 years mining experience, he is a founding director of Minco and has been instrumental in the development of Minco’s portfolio of Irish projects. He previously served as Vice-President of Exploration of Northgate Exploration Limited and Westfield Minerals Ltd. He is also President and CEO of Xtierra Inc. Danesh Varma, CFO & Company Secretary: With over 20 years experience in the mining finance industry, he also serves as CFO of several other mining companies. The company has reviewed a draft of this profile and factual amendments have been made Page 94 Providence Resources Plc (PVR: AIM) Sector: Oil & Gas Producers Sub-sector: Exploration & Production 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M PVR 3M 8.7 12M 57.0 58.6 GBP120.70 mn GBP180.72 mn 8.85 GBp4.13 GBp2.10- GBp4.93 2,922.4 million (mn) N/A 888,525 Company description Founded in 1997 from the de-merger of Arcon International Resources Plc’s hydrocarbon assets, Providence Resource Plc (Providence) is an international upstream oil and gas company operating in exploration, appraisal, development and production of oil and gas. The company has recently entered gas storage and trading activities by exercising the option to acquire a 40% interest in the Kinsale Head Area assets (offshore Ireland) from Petroliam Nasional Berhad (PETRONAS). The acquisition is expected to complete by the end of 1Q 10. Providence has a portfolio of offshore and onshore assets in Ireland, UK, US and Africa (Nigeria). To mitigate its risks, the company has invested in these assets in partnership with established industry players including ExxonMobil, Chevron, Chrysaor, Star Energy and PETRONAS The company plans to increase its production rate to 5,000 boepd by end of 2011 and to 10,000 boepd by end of 2014 from 2,000 boepd in 2008, through further development of its portfolio. Providence has a portfolio of assets under appraisal and development, including 5% interest in Nigeria’s Aje field, 56% interest in the Spanish Point (Ireland), 72.5% interest in southern and central region of Celtic Sea Area (Ireland) and 25% interest in Dragon Gas field located in St George’s Channel Basin (Ireland). The company also has numerous assets under exploration of which a significant portion is located in Ireland. Having invested significantly in a portfolio of onshore and offshore prospecting assets, the company embarked on the strategy to acquire interests in producing assets to reduce its risk profile and generate cash flows. The majority of Providence’s interests in producing assets, located in UK and US, have been acquired during the last few years. Singleton field (99.125% interest) – onshore asset located in West Sussex, UK - registered a production rate of 750 boepd in 2008 (with another 200 boepd of gas being flared but awaiting completion of gas-to-wire project). The company is undertaking numerous activities including facilities de-bottlenecking, drilling of a new production well to increase the production from this field to 1,500 boepd in 2012. Producing assets located in the Gulf of Mexico include High Island (5% interest) and the recently acquired Triangle portfolio (varying interests), with a combined production of ~1,300 boepd in 2008 which the company aims to increase up to 3,500 boepd by 2012 via re-instatement of production impacted by hurricanes in 2008, increasing production rate and new drilling and acquisition activities. Exhibit 1: Key financials FTSE AIM ALL Share Inde (3.2) 16.9 12-m onth price volum e perform ance 5 20,000 15,000 10,000 5,000 0 ND J FMAMJ J A SON Stock Price Volume Stock price (GBp) 4 3 2 1 0 Major shareholders Name Sir Anthony O’Reilly JP Morgan Asset Management UK Limited Artemis Investment Management Limited Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst: Managing analyst: DOR: Capital 34% 8% 3% 55% 100% PVR IE0001390784 Cenkos Securities Limited Cenkos Securities Limited, J&E Davy BNP Paribas, Macquarie Bank Limited, Allied Irish Banks P.l.c., DnB NOR KPMG Matheson Ormsby Prentice, Morisons Solicitors Republic of Ireland Republic of Ireland Ireland, UK, US Volume (thousands) All figures in EUR '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (cents) Net cash P/E FY 2007-08 FY 2007A FY 2008A (%change) 4,333 5,185 569 0.02 2,257 358.33 24,814 (42,211) (51,193) (2.06) (79,676) N/A 472.7% N/A N/A N/A N/A w w w .providenceresources.com Puneet Bhasin Sonia Bakshi Shubhashish Dubey Source: Company data, Bloomberg, Pipal Research Source: Company data, Bloomberg, Pipal Research Page 95 Providence Resources Plc (PVR: AIM) Sector: Oil & Gas Producers Sub-sector: Exploration & Production 25-11-09 SWOT Strengths Diversified portfolio of assets – The company has a well diversified portfolio of exploration, development and production assets, including both offshore and onshore assets. It has also recently diversified into gas storage activities in Ireland, strengthening its near- to midterm cash generation prospects. Further, Providence’s presence is spread across four countries – UK, US, Ireland and Nigeria – mitigating its location risk to some extent. Potential upside from exploration and development assets – Providence’s oil and gas production is expected to receive a major boost in the coming years from some recent favourable exploration results, such as those at Dragon (Ireland) and Aje (Nigeria). Strategic partnerships with established industry players – Providence has entered strategic partnerships with established oil and gas companies, such as ExxonMobil, Chevron, Chrysaor and PETRONAS, which helps mitigate overall risk and leverage its partners’ skills and expertise. Weaknesses Increased debt-to-equity ratio owing to compressed equity and higher debt – The company’s equity compressed significantly in 2008 on the back of an impairment charge of EUR49.7 mn arising primarily from the poor drilling outcome at the two wells in the Celtic Sea (Hook Head and Dunmore) which were considered sub-economic following the drilling results. – The decline in equity coupled with higher debt levels resulted in significant increase in the company’s debt-to-equity ratio which rose to 11.0x as at 30 June 2009 from a mere 1.1x as at 30 June 2008. Opportunities Ireland’s energy security needs – Given Ireland’s growing energy consumption and its high oil import dependence (~89% in 2007), focus on domestic oil production is increasing, thus providing thrust to Providence’s exploration & development operations in Ireland. Opportunities in the gas storage sector – There exist huge opportunities in the Irish and UK gas storage sector. The Irish government has identified gas storage as a strategic requirement to ensure uninterrupted energy supplies. Currently, only ~3% of Ireland’s annual gas consumption can be stored in its existing gas storage facilities. Similarly, the UK has storage capacity of only ~4% of its annual gas consumption. – The European Union requires countries to have storage facilities to ensure 3 months of gas supply to meet unexpected supply disruptions. Threats Exploration and development risk – The company is exposed to the general exploration and development risks including estimates of potential reserves and unexpected operating problems that could make projects economically unviable, resulting in loss of investment. Oil price volatility – Although Providence hedges part of its production for volatility in oil and gas prices, there still exists significant exposure to oil price volatility. Further, decline in oil prices beyond a level that could render certain exploration activities economically unviable. Natural calamities – Providence’s production from its Gulf of Mexico sites was significantly impacted by hurricanes which struck in August 2008. The company’s producing assets in this region remain susceptible to such natural disasters. Key recent news 30 September 2009: Announced interim financial results for 1H 09. Revenues declined 6.9% to EUR10.5 mn in 1H 09 compared with EUR11.2 mn in 1H 08 owing to lower oil and gas prices and decline in production caused by hurricanes in the Gulf of Mexico. The company reported net loss of EUR5.6 mn in 1H 09 against net profit of EUR3.3 mn in 1H 08 primarily due to higher finance expenses and one-off expenses including costs related to hurricanes. Management Dr Brian Hillery, Non-executive Chairman: He has been the chairman of the company since its incorporation. He is also a non-executive chairman of Independent News & Media PLC and is a director of the Central Bank of Ireland. Tony O'Reilly, Chief Executive Officer: He is the founder of the company and has been its CEO since 2005. Previously, he worked in mergers and acquisitions at Dillon Read and in corporate finance at Coopers and Lybrand, where he advised natural resource companies. The company has reviewed a draft of this profile and factual amendments have been made Page 96 Sirius Exploration PLC (SXX: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 Com pany data Stock data as of 19-11-09 Price GBp 7.25 Company description Sirius Exploration Plc (Sirius) is a diversified mining and exploration company with exploration leases for salt and potash 52-w eek range GBp15.50 - GBp0.75 mining assets in Australia and the US. In addition to mining, Shares outstanding 606.7 million (mn) Sirius intends to use salt caverns created during mining to store Dividend yield N/A electricity and hydrocarbons. Although Sirius also has minority stakes in metal mining assets, Management intends to focus on Last-12-month average daily 2,071,156 potash and storage of energy, natural gas and carbon dioxide trading volume (AIM) over the coming years. The company followed a major Capitalization acquisition program in 2009, funded through the issuance of Market capitalization GBP 43.98 mn equity, which has led to a surge in its equity base from 102.2 mn Enterprise value GBP 44.46 mn in January 2009 to 606.7 mn on 04 November 2009. Effective Net debt / equity 0.08 06 April 2009, ADRs have been traded on the Pink OTC Markets under the ticker SRUXY. The company's mining assets Price perform ance (%) 1M 3M 12M are: SXX (38.3) 11.5 723.9 – 5,000 acres of exploration leases in North Dakota: The acquisition of Dakota Salts LLC in January 2009 granted FTSE AIM ALL Share Index (2.4) 17.8 59.9 control of 5,000 acres of potash salt deposits in Williston 12-m onth price volum e perform ance Basin. The land is adjacent to Canada's Saskatchewan province, which possesses high quality potash salt 16 11,600 deposits. 14 10,100 – Potash mining assets in Australia: The company has 12 8,600 established a firm foothold in Australia through recent 10 7,100 acquisitions, now holding leases for exploration and mining 8 5,600 of potash salt deposits in Queensland (640 sq km) and the 6 4,100 Kimberley region of Western Australia (1,250 sq km). 4 2,600 – Metal mining assets in China and Macedonia: Sirius 2 1,100 owns gold and copper exploration assets in Macedonia. It 0 -400 also now owns a minority stake in IMG Group which ND J F MAMJ J A SON manages the iron ore business of CIC Mining Resources Ltd and is expected to be listed in 1H 10. IMG Group owns Stock Price Volume iron ore production assets in China and exploration leases in Africa and Latin America. Major shareholders Sirius plans to develop salt caverns as a medium to store Name Capital energy and natural gas through the Compressed Air Energy Global Opportunities Breakaw ay Limited 7.6% storage (CAES) process. Also, as the windiest state in the US, Transparent Holding Limited 4.0% there is significant potential in North Dakota to harness wind Others 88.4% energy for electricity generation, with Sirius’s salt caverns wellTotal shares 100% placed to store such electricity. Sirius also plans to exploit its proximity to gas intake points to store natural gas. To further TIDM code: SXX build on CAES potential, the company acquired three GB00B0DG3H29 ISIN number: companies developing carbon dioxide sequestration and energy Nominated advisor: Beaumont Cornish Limited storage technology and their patents in October 2009. Broker Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst: Managing analyst: DOR: Source: Company data, Bloomberg Rivington Street Corporate Finance Limited UBS AG Nexia Smith & Williamson Pinsent Mason United Kingdom London Australia, US Ashish Tripathi Ritw ik Bhatacharjee Satish Betadpur, CFA w w w .siriusexploration.com Volume (thousands) Stock price (GBp) Exhibit 1: Key financials All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (GBP) Net cash P/E Source: Company data FY 2007-08 FY 2008A FY 2009A (%change) 0 (303) (676) N/A 4 N/A 0 (339) (533) (0.00) (59) N/A N/A (11.9%) 21.2% N/A N/A Page 97 Sirius Exploration PLC (SXX: AIM) Sector: Mining Sub-sector: General Mining 25-11-09 SWOT Strengths Potash assets in North Dakota – The Williston basin site is expected to contain significant amounts of potash, in line with the high potash content found in Saskatchewan. Initial volumetric analysis estimates the mines contain high grade potash deposits in the range of 2.1 Mt-5.2 Mt per sq km. These deposits are also close to railway lines, providing established logistical support. Australian assets with high potash deposit potential – Sirius holds leases to explore large tracts of potential salt deposits in Australia. Historical data from preliminary exploration in nearby deposits points to large scale deposits. Right to patent applications on capture, storage and use of carbon dioxide in CAES – The acquisition of companies with patent applications for methods to capture and store carbon dioxide in salt caverns and subsequently to use carbon dioxide in CAES in place of compressed air, places Sirius at the forefront of technology developments likely to become increasingly economically viable as carbon capture gains ground. Weaknesses Cash crunch – Although Sirius has strengthened its cash position, since it was reported at GBP8,553 as of March 2009 (net current liabilities were GBP0.5 mn) by approximately GBP3.9 mn, through raising additional funds and gaining the liquid assets of acquired companies, its cash position remains inadequate to meet the capex required to develop its potash assets. Long gestation period – Development of Greenfield potash projects takes 5-7 years. CAES plant build time is 2-3 years. The long gestation period, coupled with volatile commodity prices and uncertain outcome from CAES, could prevent Sirius from finding the investment that it needs. No measured resources or proven reserves that meet current compliance standards – Although available data from historical exploration activities points towards an abundance of potash resources in the company’s mines, Sirius has not yet identified any reserves or measured resources in today's compliance standards, recognition of which is highly valued by the market. Opportunities Proximity to gas pipelines and wind energy provides ready customers for energy storage – North Dakota is the windiest state in the US and the current administration aims to tap wind energy for electricity generation. As the flow of wind can’t be controlled, Sirius plans to use its salt caverns to store electricity in the form of CAES during off peak hours, transmitting it back to the grid during peak hours. Sirius also intends to use the salt caverns as storage for natural gas from proximate gas pipelines. Potential sale of metal assets to generate cash flow – As Management plans to focus on potash and alternative energy, it has the option to raise capital through the sale of its metal mining assets. The probable listing of IMG Group in 1H 10 provides the opportunity to encash metal assets. Threats A prolonged downturn in commodity prices could thwart potential investment – An extended period of depressed commodity prices, particularly of crude oil and potash, would lessen appetites for stock in the fertilizer and alternative energy sectors. Despite its long history, CAES technology as a commercial proposition is at a relatively early stage – Although the small number of CAES plants in operation have proven successful, the technology has not yet been widely implemented. Any obstacles arising to commercial viability, or failure of the technology currently pending patents, would hamper application of CAES, delaying Sirius’ energy and carbon dioxide storage plans. Key recent news 23 October 2009: Sirius acquired a 100% stake in Derby Salt Pty Ltd in an all share deal of 100 mn shares. Derby holds mineral leases to explore 125,000 hectares in the Kimberley region of Western Australia. Management Richard Poulden, Executive Chairman: He began his career in merchant banking, moving on to management consultancy, working in Arthur D Little's European strategy practice and co-founding the Financial Industries Group. He has a wide range of natural resource project experience in the US, South America, the Middle East and Central Asia. Jonathan Harrison, Finance Director: A chartered accountant, he has previously held positions in Intercontinental Hotels Corporation, Boddington Group, Country Hotels Group plc and Topnotch Health Clubs plc. He has led management buyins, refinancing programs, overseen listings and the sale of a company. He is also FD for World Mining Services Ltd and Non-Executive Director of Fundy Minerals Ltd. The company has reviewed a draft of this profile and factual amendments have been made Page 98 Sovereign Oilfield Group Plc (SOGP: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 Company description Sovereign Oilfield Group Plc (SOGP), established in 2003, GBp10.50 provides fabrication and drilling services to oil and gas GBp7.00- GBp19.00 companies and contractors in the UK and overseas through 10 17.3 million (mn) N/A 46,754 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M SOGP (32.3) 3M 5.0 12M N/A 64.4 GBP1.82 mn GBP34.62mn N/A FTSE AIM ALL Share Index (3.0) 15.3 12-m onth price volum e perform ance 1 Stock price (GBp) 18 15 12 9 6 3 0 M J J A Stock Price S O Volume 500 400 300 200 100 0 Major shareholders Name Directors and Promoters Brew in Dolphin Securities Rensburg Sheppards Investment Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Capital 30% 5% 5% 59% 100% SOGP GB00B0K9D075 Charles Stanley Securities Charles Stanley Securities Merrill Lynch International subsidiaries. It operates through two divisions: – Sovereign Fabrication Services: This division operates through subsidiaries Caledonian Petroleum Services Ltd, Cooltime Engineering Services Ltd, Forfab Ltd, Labtech Services Ltd, OIL Engineering Ltd, OIL Engineering Middle East LLC, RDT Precision Engineers Ltd and Sovereign Dimensional Survey Ltd, with fabrication facilities in the UK and Abu Dhabi. These subsidiaries provide onshore and offshore fabrication, manpower, project management, installation/spooling/repairs and site services; manufacture well service and packaged equipment; fabricate pipework and subsea structures; and design and manufacture bespoke pressure vessels, storage vessels, silos, site erected storage tanks, heat exchangers, columns, preassembled units condensers, evaporators, containerised and skid mounted equipment as well as purpose built air conditioners used in extreme environmental conditions. As of FY 2009, this division accounted for 70% of total revenues. – Sovereign Drilling Services: This division comprises subsidiaries MaxWell Downhole Technology Ltd (MaxWell) and Serco SA (Serco). MaxWell develops and manufactures high technology instrumentation for the drilling industry, with North America, Europe, India and China as its major target markets. Serco supplies down-hole tools and services to drilling and fishing operations, with key clientele including French drilling companies and global oilfield operators across Southern Europe, North Africa and West Africa. SOGP is focused on developing its core business and reducing its considerable debt. As a result, and as a condition of continued support from its lending consortium, SOGP sold its non-core subsidiaries; Diamant Drilling Services SA, in Mar 2009 for a cash consideration of EUR0.2 mn, with a further EUR0.3 mn due subject to meeting performance criteria; and Vertec Engineering Ltd, along with the rental cabin assets of Labtech Services Ltd in Jun 2009, for GBP5.45 mn. The company also proposed the sale of Prodrill Engineering Limited (Prodrill) for GBP2.25 mn and sale and leaseback of its Sovereign House headquarters for GBP1.58 mn in Aug 2009, which was approved by shareholders. The Prodrill sale was completed in Sep 2009. SOGP expects to use the proceeds from these disposals to reduce debt and improve its working capital. Ernst & Young LLP Exhibit 1: Key financials CMS Cameron McKenna LLP All figures in GBP m n, Country of incorporation: United Kingdom unless specified Head Office location: United Kingdom Revenues Principal area of operations: Global Operating incom e/(loss) Company w ebsite: http://w w w .sovereign-oil.eu/ Net incom e/(loss) Analyst: Rupainka Rajan Fully diluted EPS (GBP) Supervising analyst: Ritw ik Bhattacharjee Net cash Satish Betadpur, CFA DOR: P/E Source: Company data, Bloomberg Source: Company data Volume (thousands) FY 2008-09 FY 2008A FY 2009A (%change) 80.2 82.8 3.2% 1.2 (6.5) N/A (7.4) (13.1) (77.0%) (0.43) (0.78) (79.1%) (32.8) (32.5) 0.9% N/A N/A Page 99 Sovereign Oilfield Group Plc (SOGP: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 SWOT Strengths Diversified services and equipment provider – The company is a diversified services and equipments provider catering to a wide range of oil and gas industry requirements. Diverse customer base – The company caters to a wide range of customers including global oil and gas companies such as Total SA, national companies such as Dubai Petroleum as well as oilfield engineering (eg: Wood Group Plc) and specialized service companies. Weaknesses Negative net worth position – As of FY 2009, SOGP's net worth position was negative, reflecting significant accumulated losses. High net debt position – The company is highly leveraged with a net debt position of GBP32.5 mn at the end of FY 2009. Although this has been reduced by divestments, debt remains extremely high, which will limit the company’s ability to procure additional funds and capitalize on other business opportunities. Furthermore, in the process of complying with lending consortium conditions the company may be compelled to take certain decisions which may be unfavourable to its existing business. Opportunities Increased exploration and drilling activities – Increased exploration and drilling activities resulting from low oil reserves and rising oil consumption, particularly in emerging markets, provides huge scope for upside in demand for oil and gas service providers in the long term. Threats Volatility in oil prices – Volatility in oil prices affects exploration and drilling activities which in turn impacts demand for oil and gas services. Political, social and economic instability – The company derived 21% of FY 2009 revenues from regions outside the UK and Europe, including the Middle East, West Africa and Latin America. Any political/social/economic instability in these regions may significantly impact the company’s operations. Key recent news 04 November 2009: Christopher McGeehan, Chief Operating Officer of Sovereign Oilfield, resigned with effect from 31 December 2009 but will remain as a Non-Executive Director of the company. 16 September 2009: Sovereign Oilfield completed the sale of Prodrill Engineering Ltd to Claymore Investments Ltd for GBP2.3 mn as part of the company’s efforts to reduce debt and improve its working capital facilities. 07 September 2009: The company reported FY 2009 preliminary results. FY 2009 revenues increased 3.2% y-o-y to GBP82.8 mn while net loss increased from GBP7.4 mn to GBP13.1 mn. Management Graham Burgess, Executive Chairman: Prior to co-founding SOGP in 2003, he was CEO of MOS International Plc. His noteworthy experience includes serving as the head of Drilling & Subsea Engineering for Texaco North Sea until 1989 and also as worldwide Operations Manager for Premier Oil Plc. until 1994. Julie Cowie, Group Finance Director: A qualified account with 17 years of experience in the oil & gas sector, she has worked with oil & gas companies including Chevron UK Limited, Premier Oil & Gas Plc and Abbot Group Plc. Please note that trading on AIM was suspended in September 2008 pending completion of FY 2008 annual and interim report and accounts. Trading was restored effective 18 May 2009 following publication of 2008 annual and interim report and accounts. 1 Page 100 Strategic Natural Resources Plc (SNRP: AIM) Sector: Mining Sub-sector: Coal 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity 1 Price perform ance (%) 1M SNRP 41.9 3M 22.0 12M (27.4) 58.6 GBP11.4 mn GBP11.8 mn N/A GBp15.25 Company description Strategic Natural Resources Plc (Strategic) was founded in 2004 as a vehicle to develop, own and manage natural resource GBp21.00- GBp7.50 extraction enterprises in South Africa. The company is 74.9 million (mn) headquartered in London, UK and was admitted to AIM on 07 N/A August 2007. 78,468 FTSE AIM ALL Share Index (3.2) 16.9 12-m onth price volum e perform ance 25 9,000 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 N D J F M A M J J A S O N Stock price Major shareholders Name Southern Cape Corridor Pow er (Pty) Limited Coal of Africa Limited Hanover Nominees Limited Pershing Nominees Limited Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst: Managing analyst: DOR: Volume The company currently engages in mining and exploration of coal in South Africa through its subsidiary, Elitheni Coal (Pty) Limited (Elitheni). The principal asset of Elitheni is phase 1 and 2 prospecting rights granted in 2005, which cover over 9,200 ha of coal prospecting area near Indwe in Eastern Cape, South Africa. Subsequent to 2005, the company has increased its prospecting rights area from 9,200 ha granted under phase 1 and 2 area, to 190,000 ha and demarcated it into 5 phases. The company received its prospecting rights to Phase 3 (approximately 28,000 ha) in December 2007. The applications to phase 4 and 5 areas were accepted by the South African Department of Minerals and Energy and prospecting rights are expected to be signed before 2009 end. The company has full mining licence to access all the coal in its phase 1 and 2 prospecting rights area which was initially estimated to contain approximately 15 Mt of coal, but further drilling has raised the resource to approximately 92.7 Mt (only 5.0% of the area under license has been drilled so far). Of this, extractable coal is conservatively estimated at 52 Mt. 20 15 10 5 0 In October 2008, Elitheni signed a coal supply contract with Indwe Power (Pty) Ltd, a subsidiary of IPSA Group PLC, to supply 1 Mt of coal per annum for 25 years to Indwe Power’s 250MW electrical power plant to be located at the mine mouth of Elitheni’s coal deposit at Indwe. The plant is due to be commissioned in 2011. In the meantime, Elitheni is targeting brickyards, metallurgical markets and the local heating market Capital for supply of coal locally. Towards this, Elitheni has established 18.8% 20 small depots in the local area to sell coal and is planning to 15.0% set up a further 80 depots. 9.1% 6.2% 50.9% Volume (thousands) Stock price (GBp) 100.0% SNRP GB00B1VQ5F36 Allenby Capital Limited Religare Hichens, Harrison plc Royal Bank of Scotland plc Grant Thornton UK LLP Hammonds United Kingdom United Kingdom South Africa http://w w w .snrplc.co.uk/ Nipun Jain Sonia Bakshi Shubhashish Dubey Strategic is also making inroads into the industrial boiler market, having entered into strategic partnerships with contractors and designers to convert existing boilers into fluidised bed boilers that can use Elitheni’s coal. Strategic reckons there are around 300 boilers in the Western and Eastern Cape regions that could save up to 20% per annum in fuel costs by making the switch. Exhibit 1: Key financials All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (GBp) Net cash FY 2008A N/A (730) (667) (1.11) 1,351 FY 2008-09 FY 2009A (%change) N/A N/A (664) 1,699 2.74 287 9.0% N/A N/A (78.8%) P/E N/A 4.38 Source: Company data, Bloomberg, Pipal Research Source: Company data, Bloomberg, Pipal Research Page 101 Strategic Natural Resources Plc (SNRP: AIM) Sector: Mining Sub-sector: Coal 25-11-09 SWOT Strengths Favourable location of the Elitheni project – Elitheni is the sole coal mine active in the Eastern Cape region of South Africa (the country’s coal industry is predominantly based in the North Eastern part). This gives Elitheni an advantageous position to meet the coal requirements of power plants and industrial market coming up in the Eastern Cape region. Coal supply contract with Indwe Power – Elitheni has a secure supply contract in place for its coal by way of the 25-year supply contract with Indwe Power (Pty) Ltd for supplying 1 Mt of coal to Indwe Power’s upcoming 250MW power plant at mine mouth of Elitheni’s coal deposit. Weaknesses Lack of secured financing – Strategic has been facing financing problems over the last year with its GBP4.2 mn loan note due from Black Economic Empowerment Partners, led by Vuwa, standing unpaid. In addition, the recent economic crisis has aggravated the company’s financial woes. – However, recently the company has raised GBP650,000 through the issue of 6,500,000 new ordinary shares at 10 pence per share, to meet its general working capital requirements. Opportunities Expected rise in coal demand in South Africa – In 2008, about 48% of South Africa's coal was sold to Eskom for power generation, 18% was used to make synthetic fuels and 25% was exported. With expected expansion in Eskom's and Sasol’s electricity generation capacity, coal demand in South Africa is slated to rise many-fold. – Further, coal exports to Asia from South Africa are expected to rise significantly on the back of rising coal demand in Asia from booming economic activity in the region. Upcoming power plants and industrial market in Eastern Cape region – The Eastern Cape region of South Africa is likely to witness increased demand for low cost coal from the upcoming coalbased power generation projects, including a few projects by IPSA Group plc and a power station near Emalahleni. This, together with the expected growth in the region’s industrial market, will create a considerable market for Elitheni’s coal. Threats Competition from established players – The South African coal mining industry is highly consolidated with the top four players controlling most of the country’s coal resources. Such competitive conditions could exert pressure on the margins of smaller players like Strategic, besides making it difficult for smaller companies to build market presence. Increasing focus on renewable energy sources – While the progress towards renewable energy generation in South Africa has been slow so far, increasing focus on renewable energy could prove to be a potent threat for Strategic’s coal mining operations in the long run. In addition, environmental regulations, particularly those related to reducing harmful effects of mining and controlling carbon emissions, could impact Strategic’s current and future operations and profitability. Key recent news 04 November 2009: Announced that it has raised GBP650,000 through the issue of 6,500,000 new ordinary shares at 10 pence per share. The funds raised under the placing will be used for general working capital purposes. 29 October 2009: Announced interim financial results for 1H 010, reporting sales of GBP72,000 against nil sales in 1H 09. Operating loss declined to GBP137,000 compared with GBP189,000 in 1H 09 (excluding profit on the sale of 26% interest in Elitheni). Management Richard Latham, Non-executive Chairman: He has worked for 27 years with companies in the upstream oil and gas sector at various positions. He also serves as chairman of Northern Petroleum Plc. Previously, he served as deputy chairman of Aberdeen Petroleum Plc, chairman and managing director of Claremount Oil and Gas Limited, and nonexecutive director of Atlantis Resources Limited. He did his MBA at Cranfield University. Jeremy Peter Metcalfe, Chief Executive Officer: Previously, he served as chairman of Minmet plc, Connary Minerals plc, Crediton Minerals plc and Tiger Resource Finance plc. He was also involved in arranging early funding of Golden Prospect plc and of Tiger Resource Finance plc. 1 The company has net cash position The company has reviewed a draft of this profile and factual amendments have been made Page 102 Toledo Mining Corp Plc (TMC: AIM) Sector: Industrial Metals & Mining Sub-sector: Nonferrous Metals 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) Company description GBp31.5 GBp7.75- GBp48.5 41.5 million (mn) N/A 391,937 GBP13.29 mn GBP10.64 mn N/A 12M 110.0 64.4 1M 3M (18.2) (6.7) TMC FTSE AIM ALL Share Index (3.0) 15.3 12-m onth price volum e perform ance 50 4,200 3,600 3,000 2,400 1,800 1,200 600 0 J D J F M A M J J A S O N Stock Price Major shareholders Name Daintree Resources Limited European Nickel PLC Fevamotinico SARL Others Total shares TIDM code: ISIN number: Nominated advisor: Broker: Bankers: Auditors: Law yers: Volume 40 30 20 10 0 Capital 24% 14% 10% 53% 100% TMC GB00B0CRWC45 Ambrian Partners Limited Ambrian Partners Limited Coutts & Co Saw in & Edw ards Thring Tow nsend Lee & Pembertons Toledo Mining Corporation Plc (Toledo) is a nickel exploration and development company with operations on Palawan Island in the Philippines. The company estimates combined pre-JORC resources in excess of 300 Mt grading 1.3% nickel. It reported 563,280 wet-Mt of ore production and shipped 418,350 wet-Mt in FY 2009. Details of the projects in which the company has major interests are as follows: – Berong Deposit: Toledo has a 56.1% interest in Berong Nickel Corporation (BNC), which owns nickel laterite deposits in Berong, Moorsom and Long Point, collectively known as the Berong Deposit. The company identifies 140 Mt of pre-JORC resource grading 1.41% nickel and a JORC resource estimate of 10 Mt grading 1.55% nickel at Berong. It identifies pre-JORC resource of 120 Mt grading 1.25% nickel at Long Point and Moorsom together. Limited mining was commenced at Berong in 2007 and a long term contract signed to supply the Yabulu nickel refinery with 300,000t500,000t of ore per year. That contract, due to expire in August 2012, has now been terminated. – Ipilan Deposit: The company has a 52% stake in Ipilan Nickel Corporation which owns the Ipilan deposit. The deposit has a pre-JORC resource estimate in excess of 46 Mt grading 1.25% nickel, with a JORC resource estimate of 30.6 Mt grading 1.36% nickel for a portion of the total deposit area. Toledo has an option to acquire 40% of venture partner, Brookes Nickel Ventures Inc.'s 24% stake at USD5 mn up to the time of decision to mine and an option to acquire 40% of Celestial Nickel Mining Exploration Corp's 24% stake in the deposit at USD8 mn within a year from the commencement of commercial production. Exercising its options would take Toledo's stake in the Ipilan Deposit to 71.2%. Ipilan is part of the broader Celestial Deposit, the rest of which is owned by MacroAsia Corp, with which Toledo has a MOU for possible joint development of adjoining properties. Toledo estimates a combined pre-JORC resource of over 100 Mt for the combined entity. The company also has an MOU with Jiangxi Rare Earth and Rare Metals Tungsten Group Co., Ltd (JXTC) for the construction of a plant on Palawan. Exhibit 1: Key financials Stock price (GBp) Volume (thousands) All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (GBp) Net cash P/E Source: Company data FY 2008-09 FY 2008A FY 2009A (%change) 981 515 1,003 3.36 5,458 31.08 1,190 1,394 1,640 5.48 2,883 4.50 21.3% 170.7% 63.4% 63.1% (47.2%) Country of incorporation: United Kingdom Head Office location: United Kingdom Philippines Principal area of operations: Company w ebsite: http://w w w .toledomining.com Analyst: Shazia Naik Managing analyst: Somatish Banerji DOR: Satish Betadpur, CFA Source: Company data, Bloomberg Page 103 Toledo Mining Corp Plc (TMC: AIM) Sector: Industrial Metals & Mining Sub-sector: Nonferrous Metals 25-11-09 SWOT Strengths Vast resource base – The company estimates combined pre-JORC resource of 300 Mt grading 1.3% nickel across all its projects. Its identified JORC resource base consists of 10 Mt grading 1.55% nickel at Berong and 30.6 Mt at 1.36% nickel at Ipilan. Experienced Management team – The company has a strong Management team, consisting of experienced personnel and former Management of mining companies, including European Nickel Plc and Larco Plc, as well as experienced personnel from financial companies. Strong balance sheet – As of August 2009, the company is debt-free and has a bookvalue per share of GBp91, reflecting potential upside over its current stock price. Presence of ready mining deposit – Unlike many junior mining companies, Toledo has a ready mining deposit at Berong. Although the company has ceased production until March 2010, it can be restarted at the discretion of Management. Weaknesses JORC compliance pending for a majority of resources – Of the currently identified over 300 Mt of pre-JORC resource, the company has reported only 41 Mt of JORC compliant resource. Repayment of loans & receivables dependent on project viability – Despite an apparently strong balance sheet, approximately 45% of the company's assets were in the form of loans and receivables extended to venture partners as of August 2009, repayment of which is linked to the successful commercial exploitation of the Berong and Ipilan deposits. Dependence on barge transport restricts shipments – The company depends on barge shipment of ore to offshore ships, which are dependent on local weather and tidal conditions, restricting shipments between the months of October and March. Opportunities Leaching plant MOU reflects intention to vertically integrate – The company's plan to construct a leaching plant, the next step from Direct Ore Shipping (DOS), will strengthen its position in the mining value chain. Presence of unexplored territory – Exploration is still pending for the better part of Ipilan and the broader Celestial deposit as well as for parts of Berong. Government focus on mining sector – The government of the Philippines hopes to attract USD14.5 bn in investment in the mining sector by 2013. Potential upside in nickel prices from resurgence in Chinese construction/infrastructure sector Threats Termination of contract for supply to the Yabulu refinery – The long term contract provided Toledo with a steady client, subject to meeting supply agreements, up to mid 2012, and termination of the contract, assuming BNC's challenge to the termination fails, leaves the company with a worrying client gap. Downward movement in nickel prices will negatively impact commercial viability of projects and operations Key recent news 11 November 2009: The company announced that BNC has received a notice from Queensland Nickel Pty Ltd. for the termination of its contract to supply nickel to the Yabulu nickel refinery. 07 July 2009: The company announced the successful placement of 12,000,000 shares for GBP3.36 mn, for planned exploration at Berong, permit compliance expenses at Ipilan and working capital requirements until the end of 2010. Management Reginald Eccles, Chairman: Has vast experience in the mining industry in areas of planning, strategy and finance. Mr. Eccles has previously worked at major mining companies including Anglo American Corporation and Consolidated Goldfields Plc and served as the Head of Global mining equities for UBS and ABN AMRO. Page 104 Uranium Resources plc (URA: AIM) Sector: Industrial Metals and Mining Sub-sector: Nonferrous Metals 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Company description GBp 2.0 GBp 0.5 - 2.8 Uranium Resources plc (Uranium Resources) is an exploration and development company focused on acquiring and developing resources within intermediate-term development Shares outstanding 291.0 million (mn) cycles. The company seeks to increase its acreage, acquire Dividend yield 0.0 precious metals projects and use its expertise to build a multiLast-12-month average daily trading 406,972 commodity portfolio. volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price perform ance (%) 1M URA FTSE AIM ALL Share Index -3.8% 3M 6.4% 12M 70.6% -28.2% 16.0% -2.4% GBP 5.8 mn GBP 4.6 mn 0.0% – Core Team: Uranium Resources has assembled a core team with a strong track record in resource project evaluation, development, management and financing. Projects: Currently, Uranium Resources is involved in multiple development projects in Tanzania. The company is evaluating a number of other projects in Tanzania as well as in other jurisdictions that fit its investment criteria. Licenses: Along with development partners, Uranium Resources holds uranium licenses for a net 12,700 sq. km. in what it regards as the highly prospective Karoo Basin in Southern Tanzania. – – 12-m onth price volum e perform ance 3 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 N D J F M A M J J A S S O Stock Price Volume Major shareholders Name BNY (OCS) Nominees Limited Hugh Warner Ronald Bruce Row an Other Total Shares TIDM code: ISIN number: Nominated broker/advisor: Broker: Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company w ebsite: Analyst(s): DOR: Capital 14.43% 8.49% 8.42% 68.66% 100.00% URA GB00B068N088 Ambrian Capital Ambrian Capital Barclays Bank PLC UHY HACKER YOUNG Watson, Farley & UK UK Africa James Kelleher, CFA James Kelleher, CFA w w w .uraniumresources.co.uk Stock price (GBp) 3 2 2 1 1 0 Volume (thousands) Exhibit 1: Key financials All figures in GBP, unless specified Revenues Operating incom e Net incom e Diluted incom e per share (GBp) Net cash P/E FY 2007A 0 (1,634,071) (1,590,231) (0.64) 2,071,367 N/A FY 2007-08 FY 2008A (%change) 0 (172,954) (60,656) (0.02) 1,810,971 N/A N/A 89.4% 96.2% 96.9% (12.6%) Source: Company data, Argus Research estimates Source: Company data, Bloomberg Page 105 Uranium Resources plc (URA: AIM) Sector: Industrial Metals and Mining Sub-sector: Nonferrous Metals 25-11-09 SWOT Strengths Prices – The company participates in a commodity with fastappreciating prices. Based on the growing popularity of nuclear as a source for generating electricity in the emerging world, uranium prices are up four-fold since the 1990s. Investor base – The company was established with a strong investor base from public and private offerings. The group should be able to satisfy the Going Concern basis for the foreseeable future. Partnering – URA has lain off some risk, in our view, by partnering with Rio Tinto to develop coal resources on properties it controls. Weaknesses Early-stage status – Uranium Resources is an early-stage company that has primarily used farm-in partners for its exploration activity. It is now in the process of buying out its main partner, Indago Partners. Not profitable – Uranium Partners has not yet earned revenue and is thus not profitable. The group is reliant on support from existing and future shareholders, and operations are being financed by funds raised in earlier offerings. Exploration risk – Should the pace or results of exploratory activities disappoint, existing and prospective investors could withdraw/defer future funding. Opportunities Uranium demand – Uranium Resources is primarily focused on mining for uranium, which we believe will continue to grow in demand as global electricity needs approximately double by 2030 Location – By establishing a focus in stable and mineral-rich Tanzania, Uranium Resources has a chance to emerge as a major player in an untapped area. Other minerals – Uranium Resources has the opportunity to develop, alone or mainly in partnership, rights to other minerals on its properties. Threats Financially powerful competition – As an early-stage development company, Uranium Resources is at risk from financially stronger and more established companies that can potentially outbid it for lucrative properties. Use of nuclear energy in the developed world – While the emerging world is promoting nuclear solutions, nuclear development in the developed world, and particularly in key nations such as the US, is moribund. Tanzanian infrastructure – While the Tanzanian properties appear promising, the potential lack of development infrastructure could compromise profitable extraction. Key recent news 30 October 2009: Reached agreement with Tanzanian JV partner Indago Resources Ltd. and its group companies to acquire Indago’s interest in the Karoo Basin project. Agreement is conditional on Uranium Resources raising cash and issuing new shares by late December 2009. 22 January 2009: Signed agreement with Rio Tinto whereby Rio Tinto has exclusive right to explore for coal at 2,938 km of Uranium Resources’ exploration license areas in Southern Tanzania. The option relates to all coal contained within the Mtonya and Ruhuhu farm-in license areas, and is in addition to URA’s current uranium farm-in agreement with Indago and its group companies. Management Alex Gostevskikh, Managing Director: A geologist with more than 20 years experience in international mining and exploration for such commodities as gold, silver, and non-ferrous and base metals. He has extensive corporate experience through his involvement with listed companies on the TSX and NYSE. Page 106 Velosi Limited (VELO: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 Com pany data Stock data as of 19-11-09 Price GBp93.00 Company description Velosi Limited (Velosi), incorporated in March 2006, is the holding company for Velosi Group. The Group, founded in 1982, 52-w eek range GBp115.50- GBp35.50 provides asset integrity management, health, safety and Shares outstanding 46.8 million (mn) environment services, which cover quality assurance and quality Dividend yield 0.71% control services, to a number of leading national and multinational companies, primarily in the oil and gas sector. The Last-12-month average daily 62,680 Group’s principal services are: trading volume (AIM) – Asset Integrity Management Services: These involve Capitalization ensuring that people, systems, processes and resources Market capitalization GBP43.5 mn are in place, in use and will perform when required over the Enterprise value GBP37.9 mn whole lifecycle of the asset. 1 Net debt / equity N/A – Project verification service: The Group manages Price perform ance (%) and controls quality, right from purchasing and construction 1M 3M 12M through to commissioning, on behalf of the asset owner. These services include reviews of project designs, VELO (0.5) 2.8 61.7 implementation and operation of quality management FTSE AIM ALL Share Index (3.2) 16.9 58.6 systems, auditing and monitoring of contractor quality 12-m onth price volum e perform ance procedures and on-site supervision of contractors. 140 3,000 – Maintenance quality management services: The Group 120 enables asset owners to safeguard capital investments and 2,500 take steps to ensure that production output is not disrupted. 100 2,000 These services comprise corrosion monitoring and 80 1,500 consultancy services, CCTV services, tube inspection, 60 1,000 lifting equipment inspection, rig inspection, high definition 40 laser surveying and risk based inspection. 500 20 0 0 – Certification services: The Group is accredited to international technical authorities to certify plant and N D J F M A M J J A S O N equipment for international quality standards. Equipment Stock Price Volume which the Group is approved to certify includes pressure Major shareholders equipment, heavy lifting equipment (including cranes) and boilers. Name Capital Velosi (M) SDN BHD Statutory inspection services: There are certain statutory 14.4% – requirements which require asset owners and operators to Raptor Worldw ide Limited 11.4% have their equipment certified on a regular basis so that the Chee Peck Kiat 11.1% equipment are sold or operated in accordance with local or Mohamed Ashari Bin Abas 4.8% international legislations. Others 58.3% The Group operates globally through four principal offices in the Total shares 100.0% US, UK, Malaysia and UAE and has operational or TIDM code: VELO representative offices in more than 30 countries worldwide. Its ISIN number: GB00B19H9890 key customers include multinational companies, public utilities, Nominated advisor: Strand Partners engineering contractors, manufacturing facilities, and small fabrication workshops. Some of the Group’s major clients are Broker: Charles Stanley & Co Limited BP, Enppi, ExxonMobil, Qatar Petroleum, Transco and Shell. Bankers: Auditors: Law yers: Country of incorporation: Head Office location: Principal area of operations: Company Analyst: Managing DOR: The Hongkong and Shanghai Banking Corporation Limited Mazars LLP Stephenson Harw ood Jersey UK Global http://w w w .velosi.com/ Nipun Jain Sonia Bakshi Shubhashish Dubey Volume (thousands) Stock price (GBp) Exhibit 1: Key financials Source: Company data, Bloomberg, Pipal Research All figures in USD '000, FY 2007-08 unless specified FY 2007A FY 2008A (%change) Revenues 116,997 182,072 55.6% Operating incom e 11,159 14,389 28.9% Net incom e 9,756 11,654 19.5% (cents) 18.20 19.60 7.7% Net cash 2,393 15,784 559.6% P/E 13.02 2.85 Source: Company data, Bloomberg, Pipal Research Page 107 Velosi Limited (VELO: AIM) Sector: Oil Equipment, Services & Distribution Sub-sector: Oil Equipment & Services 25-11-09 SWOT Strengths Long term contracts giving good visibility on future revenues – Around 38.0% of Velosi’s long term contracts had over three years to run as of 2008-end, providing good visibility on the Group’s future revenues. Diversified business – Velosi not only provides a broad range of services but is also geographically well diversified. The Group is increasingly winning one-stop centre contracts to provide services to individual companies in a number of markets. Consistent revenue growth – Velosi Group has registered impressive revenue growth (159.3% over a two-year period from 2006 to 2008), on the back of organic expansion coupled with acquisitions. The company is constantly looking to increase its market share through organic and inorganic growth. In 2008, the Group signed14 new contracts of which 6 contracts were in new markets. It also acquired PSC Europe Srl, adding significantly to its portfolio of inspection and expediting services. Weaknesses Falling margins – Velosi has witnessed some compression in its margins in the past two years. The company’s operating margin declined to 9.5% in 2007 from 10.9% in 2006, and further to 7.9% in 2008. The significant compression in the margin in 2008 was primarily the result of tougher operating environment in the oil and gas sector off the global economic crisis. Though the margin has improved to 8.04% in 1H 09, it is still below the previous years’ levels. Opportunities Growing emphasis on asset integrity and quality control – Regulatory pressures and increasing focus by oil and gas companies to ensure safety and protection of people, systems, processes, resources and the environment worldwide has led to increased investment on asset integrity and quality control. Companies are increasingly spending to ensure that everything is safeguarded to the highest standards, thus creating increasing demand for Velosi’s services. Expansion opportunities in new geographies – Increasing oil and gas activity in certain new regions, such as Kazakhstan, West Africa, Australia and Brazil, presents significant expansion opportunity for Velosi. Threats Hindrance to growth from weak global economy – Velosi’s growth initiatives have been hindered to some extent by the weakening of the global economy which has caused many oil and gas companies to cancel or delay some of their projects besides cutting expenditure on asset integrity, quality management and certification. Competition from larger players – The Group’s global competitors include international quality certification companies, such as Bureau Veritas, Moody International Group, Lloyd’s Register Group and AIB Vincotte International. These large global players create stiff competition for Velosi. However, Velosi has an edge since it is more flexible in its offerings than these large players. Key recent news 03 November 2009: Announced that Velosi has reached an agreement with the beneficiaries of Richard Ogunmakin’s estate to acquire shares in Velosi Nigeria and Velosi Angola owned by them. 21 September 2009: Announced financial results for 1H 09, recording 15.4% rise in sales to USD89.2 mn against USD77.3 mn in 1H 08. Pre-tax profit increased 10.4% to USD7.9 mn compared with USD7.2 mn in 1H 08. Management John Anthony Hogan, Non-executive Chairman: He was appointed non-executive chairman of Velosi in August 2006. He has 30 years experience in the oil and gas industry and also serves as chief executive of Argos Resources Limited, chairman of PanGeo Inc, and deputy chairman of Noreco ASA, a Norwegian exploration company. Dr Nabil Abdul Jalil, CEO: He founded the Velosi Group in 1982 and was appointed chief executive officer of Velosi Ltd. in August 2006. Previously, he worked as a research officer with the Malaysian Tun Ismail Atomic Research Centre. Ooi Soon Teik (Dan), Group Finance Director: He is a certified public accountant and was appointed group finance director of Velosi in March 2006. He also acted as a consultant to Velosi from November 2004 to March 2006. 1 The company has net cash position The company has reviewed a draft of this profile and factual amendments have been made Page 108 Xtract Energy Plc (XTR: AIM) Sector: Oil and Gas Producers Sub-sector: Exploration and Production 25-11-09 Com pany data Stock data as of 19-11-09 Price 52-w eek range Shares outstanding Dividend yield Last-12-month average daily trading volume (AIM) Capitalization Market capitalization Enterprise value Net debt / equity Price pe rform ance (%) Company description GBp2.98 GBp5.03 - GBp0.60 751.8 million (mn) N/A Xtract Energy Plc (Xtract) is primarily focused on identifying and investing in early stage technologies and businesses in both the conventional and unconventional energy sectors. The company’s current activities include various oil and gas exploration and production interests in Australia, Turkey, Morocco, Central Asia, Denmark and the Netherlands. The 3,948,484 company was established in October 2004 as Resmex Plc and was listed on AIM in March 2005. The company is organised into two main operating divisions: – GBP22.4 mn GBP19.2 mn N/A 12M 163.7 64.4 1M 3M (27.8) (17.2) XTR 16.9 FTSE AIM ALL Share Index (3.2) 12-m onth price volum e pe rform ance 6 5 4 3 2 1 0 ND J F MAM J J ASON Stock Price 54,000 48,000 42,000 36,000 30,000 24,000 18,000 12,000 6,000 0 Volume Oil & gas exploration, evaluation and development: Principal activities of this division are Xtract’s oil and gas exploration and production interests in the Danish North Sea through holdings in Elko Energy Inc, in Turkey through Extrem Energy (a joint venture with Merty Energy) and in Kyrgyzstan through subsidiary, Xtract International Ltd. Xtract owns approximately 36.8% of the issued share capital of Elko Energy Inc which holds an 80% interest in 26 offshore blocks in a 5,400 sq km exploration and production license in the Danish North Sea and a 60% operating interest in gas-bearing P1 and P2 license blocks in the Dutch North Sea. Xtract owns 34% of the issued share capital of Extrem Energy, which holds a portfolio of seven oil and gas exploration and production licenses in Turkey, including a significant potential prospect at Candarli Bay in south-west Turkey. Xtract holds a 25% stake in Zhibek Resources Ltd, which owns a 72% interest in the Tash Kumyr and Pishkoran exploration licenses in the Kyrgyz Republic. Oil shale exploitation: Activities in this division revolve around the development of a proprietary supercritical technology for the commercial extraction of liquid hydrocarbons from oil shale, and the development of the company’s oil shale resources in Australia through wholly owned subsidiary Xtract Oil Ltd. Through Xtract Energy (Oil Shale) Morocco SA (XOSM; a joint venture with Alraed Ltd Investment Holding Company WLL in which Xtract holds a 70% interest), it is also planning to evaluate and possibly develop oil shale deposits in Morocco. – M ajor s hare holde rs Name Capital 45.3% Cambrian Investment Holdings Ltd 9.3% Lynchw ood Nominees Ltd 45.4% Others 100% Total shares XTR TIDM code: ISIN number: GB00B06QGC5 GB Nominated advisor: Smith & Williamson Corporate Broker: Smith & Williamson Corporate The Royal Bank of Scotland Bankers: Deloitte and Touche LLP A uditors: Law yers: Trow ers & Hamlins Country of incorporation: United Kingdom United Kingdom Head Of f ice location: Turkey Principal area of operations: Company w ebsite: w w w .xtractenergy.co.uk A nalyst: Meera Patil Managing analyst: Ritw ik Bhattacharjee DOR: Satish Betadpur, CFA Source: Company data, Bloomb erg Exhibit 1: Key financials All figures in GBP '000, unless specified Revenues Operating incom e Net incom e Fully diluted EPS (GBP) Net cash P/E Source: Company data FY 2008-09 FY 2008A FY 2009A (%change) 0 (4,592) (788) (0.11) 6,362 N/A 0 (3,532) (18,101) (2.41) 3,182 N/A N/A 23.1% (2,197%) (2,091%) (50.0%) Page 109 Xtract Energy Plc (XTR: AIM) Sector: Oil and Gas Producers Sub-sector: Exploration and Production 25-11-09 SWOT Strengths Healthy and diverse portfolio of license interests – Xtract holds seven oil and gas exploration and production licenses in Turkey, exploration and production licenses in gas-bearing license blocks in the Dutch North Sea and an interest in offshore oil blocks in the Danish North Sea. Support for oil shale from Moroccan government – As a major oil importer, Morocco is seeking to increase its energy self-sufficiency through exploitation of its oil shale deposits, which contain in excess of 50 mmbbl of oil. Presence in politically stable economies – Xtract Energy’s existing operational projects are present in the politically stable economies of the Netherlands, Denmark, Turkey and Morocco. Weaknesses Current asset holdings are illiquid in nature – Post the sale of stakes in MEO Australia Ltd and Wasabi Energy Ltd, Xtract no longer holds any interest in publicly listed companies, making its assets/investments illiquid in nature. A significant portion of assets yet to be monetized – Apart from the Sarikiz-2 oil well in Turkey, which is expected to begin commercial operations in the last quarter of 2009, other assets are yet to be monetized. Opportunities Industry growth potential for conventional and unconventional oil resources exploitation – The EIA predicts global energy demand to rise by 44% over the next 20 years with petroleum accounting for nearly onethird of the world energy supply. – Increasing crude oil prices make development of oil shale deposits more viable. The EIA predicts world production of unconventional oil resources to grow fourfold to 13.4 mmbbl/day by 2030, accounting for 13% of total global petroleum supplies. Interest in entering clean coal technology – The company has stated that it is interested in acquiring coal assets and developing clean coal technology, such as Coal Gasification. Worldwide gasification capacity is projected to grow 70% by 2015, with 80 % of the growth occurring in Asia (source: GTC). Threats Regulatory impositions on shale oil extraction in Australia – In August 2008, the State of Queensland announced a 20year moratorium on a proposed oil shale development in the Whitsunday region and a two-year review period on all oil shale development activities in the state. Although it does not impact existing mining rights, it restricts new mining activity in the state, pushing Xtract Oil’s oil shale business activity and work on a proprietary technology into a state of hibernation. Financial viability and existing environmental impact issues – Commercialization of shale oil has met with failures in the past as a result of lack of financial viability arising from the need to employ expensive technologies. Concerns over the environmental impact of the oil shale extraction process, such as acid drainage, entry of metals into surface and ground water, increased erosion, and greater green-house gas emissions compared to traditional fossil fuels could also prove an obstacle to the success of this division. Key recent news 16 November: Xtract released preliminary results for FY 2009. The company reported a loss of GBP18 mn for the year, primarily attributable to loss on disposal of available for sale assets and impairment of intangibles. 06 November 2009: Xtract announced the suspension of testing work on the Alasehir-1 well, which had been re-entered in September 2009, as conditions encountered were worse than expected and several attempts to repair the cement bonds were unsuccessful. Reports by the independent expert firm commissioned to make an initial evaluation on the concession areas estimated the recoverable oil from Sarikiz field at 13 mmbbl, considerably lower than Extrem Energy’s previously published estimate of 74 mmbbl. On a positive note, the company stated that work at Sarikiz-2 is progressing well and the oil well is being prepared to begin commercial production in the last quarter of 2009. Management Andrew Morrison, Chief Executive Officer: With over 25 years of experience in the energy and related services industry, he has served in strategic and business development roles at the BOC Group, BG Group and Shell. John Newton – Executive Chairman: An investment advisor and consultant involved in the Australian and International financial sector. He has been the director of many listed companies in Australia and Canada. The company has reviewed a draft of this profile and factual amendments have been made Page 110 Commodities Initiation Report 25-11-09 Disclaimer This report has been prepared under the PSQ Analytics service (“PSQ”), which comprises three research providers – Argus Research Company; Pipal Research, whose group company Firstsource Solutions UK Limited is regulated and authorised by the Financial Services Authority; and Independent International Investment Research Plc, whose subsidiary Pronet Analytics.com Limited is regulated and authorised by the Financial Services Authority. The research providers (“Research Providers”) are responsible for the publication of this report. 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