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Buy High; Sell Higher!  That is the mantra of growth investors everywhere.  In their view, the best time to get on the boat is during a rising tide.

Just last week, James Samson of Lincoln Indicators pinpointed a rising share that had been dragged down by recent macroeconomic fears – Iluka Resources Limited (ILU). Samson noted: “After a big share price run, recent market weakness has created an opportunity for those that missed the boat to take up a position in this mineral sands producer. With supply contracts locked in at high prices, ILU presents investors with exposure to a unique niche within the resources sector.”

Since the column was written, market fears have subsided somewhat and ILU is again on the upswing – up 7.5% last week and 33% in just two weeks.  Below is a one month share price movement chart for ILU:

Once the share market got some positive news about a potential solution to the European debt crisis, ILU resumed the ride up that began at the end of 2010, making ILU one of the top performing shares on the ASX for 2011.  ILU graduated into the prestigious index of Australia’s 50 top publicly trading companies – the ASX 50 – in mid-September 2011.  Year to date has seen a 75% increase in ILU shares while the ASX 200 has seen a decline of approximately 11%.

Is there still time to get on the boat? Clive Briggs from RBS certainly thinks so, picking it as a buy in this week’s 18 Share Tips. “Following an update on zircon market dynamics in China, we’re confident that zircon prices will increase between $US200 and $US250 a tonne in the December quarter,” says Briggs. “Iluka remains one of our top picks in the resources sector.”

But does ILU truly represent an opportunity to buy high and sell higher? Let’s look at some numbers, beginning with some share market valuation ratios.

Market Valuation Ratios

  ILU ASX Materials Sector
P/E (Price to Earnings) 17.29 12.13 12.5
P/B (Price to Book) 5.98 1.49 1.37
P/S (Price to Sales) 7.06 1.99 2.44
P/EG (Price to Earnings Growth) .04 1.66 .49

The P/E indicates growth and the bargain basement P/EG says even better days may be ahead.  As of Friday 14th October 2011, ILU was trading at around $16.09, off a 52-week high of $19.46.  Financial analyst target prices for ILU range from a low of $16.16 to a high of $24.  Below are further analyst estimates – an average of 13 different analysts covering ILU:

Analyst Consensus Forecasts

ILU Fiscal Year 2010 (Actual) Fiscal Year 2011 (Estimate)    Fiscal Year 2012 (Estimate)
Revenue 951.3 ($m) 1,543 ($m) 2,381 ($m)
EPS .086 ($) 1.16 ($) 2.40 ($)
DPS .08 ($) .53 ($) 1.14 ($)

 

As you can see, on average, these 13 analysts expect ILU to more than double both earnings per share and dividends per share as well as more than $750 million in additional revenue.  Sometimes averages or means can be deceiving, especially if one analyst has an estimate at the extreme.  For Revenue in 2011, the highest estimate was $1.616 billion and the lowest was $1.403 billion.  For 2012 there is an extreme – the highest estimate was $3.03 billion while the lowest was $1.88 billion.

EPS (Earnings per share) estimates for 2011 range from a high of $1.3 to a low of $1.03.  For 2012 the estimates range from a high of $3.61 to $2.

Obviously, the analyst community sees a bright future for Iluka Resources.  One reason for their optimism is the company’s recent performance.  Iluka reports full year results at the end of December, 2011.  Here are some highlights from their recently released half-year report.

Performance measures for the Half Year 2011 compared to Half Year 2010:

•    NPAT (Net Profit after Tax) in 2011 was $145.9 million, compared to a loss of $6.6 million in 2010.

•    Net Operating Cash Flow for HY 2011 was $240 million, compared to only $49.9 million in 2010.

•    FCF (Free Cash Flow) went from a negative ($47.3) million to a positive $167.7 million.

•    CAPEX (Capital Expenditures) went down from $94.9 million in 2010 to $48.7 million in 2011.

•    Total Debt went down from $439 million in 2010 to $171 million in 2011.

•    Debt to Equity (Gearing) was reduced fro 28.8% in 2010 to 12.2% in 2011.

•    ROC (Return on Capital) rose from 6.1% in 2010 to 32.4% in 2011.

•    ROE (Return on Equity) in 2011 was 25.3% compared with .6% in 2010.

While these numbers represent a snapshot of a relatively brief moment in time, taken together they are what investor dreams are made of.  Expenses, debt, and gearing all went down.  Profit, cash flow, and shareholder return all went up.  

Some momentum and technical traders do not care at all how a company like ILU achieved these returns; only that the actual and anticipated returns are driving up share price.  However, other investors do have an interest in the fundamentals of what ILU does and how well the company does what they do. The good news is that in its 2011 Half Year report, Iluka returned to the black, bolstered by rocketing prices for products like zircon and rutile.

For those who haven’t researched much on Iluka, the company engages in the exploration, mining, concentration, and separation of mineral sands – producing and selling ilmenite, rutile, synthetic rutile, and other titaniferous concentrates, as well as zircon.

These products are used in consumer, lifestyle, and industrial applications, including pigment production for paints, plastics, papers, titanium metal production, welding electrodes, floor and wall tiles, sanitary ware, zirconium based chemicals, and zirconia metal applications.

Few investors know neither what mineral sands like ilmenite and rutile are nor how they are mined.  What is important to the investor is how these minerals are used and their supply and demand levels.  Right now prices for these minerals are rising due to increasing demand from emerging countries and diminished supply.  

All mining is price-sensitive and at some point it becomes inefficient to produce something whose price has decreased to the point there is no profit in production.  After the GFC some mining companies stopped their mineral sands operations and it is taking time to play catch up.  Some experts claim it will be 2014 before some of ILU’s competitors can get back on the playing field.  With continued supply limitations, prices should not see significant drops in the near term – providing there is no massive demand destruction.

ILU management sees no significant slowdown in growth in emerging markets for the products into which their mineral sands go.  What’s more, their recent performance was not solely due to rising prices, but also due to their moving into higher margin operations.  

With brokers bullish on the stock, a positive outlook and and the numbers looking good, then ILU is worth a look – if you believe growth in emerging markets will not evaporate. However beware volatile mining stocks, if the situation for miners worsens the stock could easily plunge below levels you could ever imagine.

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