London listed Sirius Minerals PLC is a UK based fertilizer development company focused on the development and operation of a polyhalite mine in North Yorkshire. Sirius Minerals mine when complete will be the world’s largest and highest grade polyhalite resource. Polyhalite is a multi-nutrient fertilizer which can be used as a source of Potassium, Sulphur and Magnesium. Production from Sirius’s mine is expected to start in 2021, initial production will come in at 2mt per annum but is expected to increase steadily potentially rising to 20mt per annum by 2029. This morning Sirius Minerals announced the signing of two major construction contracts and a revised capital estimate for the Company’s North Yorkshire project.

The company has entered into design and build contracts for the remaining tunnel drives and the mines materials handling facility. The signing of these contracts means that almost all procurement is now complete. The part of today’s announcement which might cause concern for shareholders is the revised capital estimate, capital costs and hence stage 2 financing requirements are expected to be $400 – $600 million higher than previous estimates and now come in at $3.4- $3.6 billion. The cost increase is due to the contract for the remaining 2 tunnels drives being $603 million higher than previous estimates, partially offset by savings made in others areas.

Since the Original estimate provided in the DFS for the tunnel drives, the Company’s understanding of the geotechnical characteristics of the area within which the drives will be excavated has increased following further ground investigation and seismic work. This exercise has led to a refinement of the parameters set out in the geotechnical baseline report upon which the tunneling contract has been determined. The cost increase is driven by a combination of the following factors:

  • Optimisation of the tunnel design including an increase in the planned internal diameter of the tunnel from 4.3m to 4.9m and an increase in lining thickness from 250mm to 350mm.
  • A decrease in advance rates from 25m per day to 17m per day.
  • A commercial risk allocation which transfers construction and delivery risk to the contractor STRABAG.

Commenting on the cost increase CEO and Managing Director Chris Fraser stated:

“The expected increased funding requirement coming from this process reflects an optimisation of the MTS tunnel design and a significantly improved risk allocation for Sirius to support the senior debt financing.  The Project’s economics remain extremely compelling and we are confident they support the expected additional funding requirement.”

One important thing to note from today’s announcement is that Sirius Minerals has stated that it will not look to increase senior debt funding from phase 2 financing to raise the extra funds, the company has provided the below financing options which will be considered instead:

  • Strategic partner financing to provide capital at either the asset or Project level.
  • Completion support from potential stakeholders or financial investors to provide contingent funding for the purposes of mitigating cost overrun risk.
  • Alternative sources of structured capital including subordinated debt and leasing providers.
  • Accessing the capital markets through convertible notes or new equity where the value proposition is appropriate for all capital providers (existing and new).

With Sirius Minerals market cap currently sitting at around £1.34 billion accessing the capital markets to issue convertible loan notes or new equity has to be the least preferred option as dilution to existing shareholders would be significant. Analysts at Liberum have stated that the extra funding requirement will reduce NPV from £1.08 to between £0.75 – £1.00 depending on which financing method is used. The £0.75 NPV is a worst case scenario where the full $600 million is raised through new equity at a price of 26p. The reduction in NPV is disappointing but the project is now significantly de-risked and with procurement mostly complete the likelihood of further cost increases is significantly reduced. The shares opened sharply lower this morning but have settled at 29p, at this price the shares are still significantly lower than the worst case scenario NPV and with the new reduced risk profile the shares are certainly worth considering and this mornings drop provides an attractive entry point.

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