The major highlights in the "production part" of ALROSA’s trading update for the first quarter of 2015 were the miner’s growing output due to its new diamond fields (Botuobinskaya and Karpinski-1), as well as the signs that the Mir mine would finally reach its long-awaited full production capacity. In terms of diamond sales, ALROSA avoided to oversaturate the market from January to May, giving a respite to its customers and having improved the product mix put up for sale to offset the effect of lower prices.
PRODUCTION
ALROSA Group increased diamond production in the first quarter of 2015 by 6% on an annualized basis driving it to 8.4 million carats. This production growth was due to the performance of the Mir underground mine, as well as due to the contribution of Botuobinskaya commissioned last March, also helped by higher delivery from Karpinski-1 (owned by Severalmaz). The first quarter provided 22% of the output planned by ALROSA for 2015 - 38.2 million carats (an increase of 5.5%).
ALROSA handled 5.5 million tonnes of ore (vs. 5.4 million in the previous year), its diamond grade rising to 1.52 ct/t compared with 1.47 ct/t in the first quarter last year.
Compared with the previous quarter, ALROSA’s output decreased by 21% in January-March 2015. This decrease was mainly due to the scheduled overhaul started last January at Concentrating Plant No. 8 processing ore coming from the Group’s underground mine Aikhal. The overhaul will continue until June 2015.
In the first quarter, 74% of ALROSA's output was produced by open-pit mines, 25% by underground mines and 1% by diamond placers.
Once again, the Yubileynaya Mine turned to be the pacemaker in terms of carat output among ALROSA’s mining operations (Aikhal production division), accounting for 28% of the Group’s total yield. Yubileynaya produced 2.383 million carats, up 2% over the last year. The increase was attributed to mining the central ore column with a higher diamond grade. In the first quarter, Yubileynaya was yielding ore containing 1.1 grams of diamonds per one tonne (against 1.01 grams per tonne in the previous period).
The second place went to Nyurbinskaya Mine (Nyurbinski production division), which, however, decreased its output by 16% to 1.735 million carats in the reporting quarter. The share of Nyurbinskaya in the total production of ALROSA in 2014 reached 21%. The decline in production at Nyurbinskaya was due to the commissioning of a new diamond mine, which is Botuobinskaya, the latter being the source of ore fed to Concentrating Plant No. 16. In the first quarter of 2015, Nyurbinskaya was yielding ore having a diamond content of 5.71 g/t versus 5.02 g/t in the fourth quarter of 2014. Botuobinskaya had a diamond grade 6.66 g/t contributing 313,000 carats to the Group’s total output.
Internatsionalnaya Mine accounted for 17% of ALROSA’s production in the reporting period. In annual terms, the mine increased production by 6% driving it to 1.397 million carats due to the targeted increase in ore handling at Concentrating Plant No. 3. In the first quarter, Internatsionalnaya showed a lower diamond grade compared with the previous period - 8.17 g/t against 8.71 g/t one quarter earlier.
We should particularly mention the underground mine of the Mir diamond pipe, which was one of the contributors to the Group’s output growth. Its performance reached 488,000 tonnes, which is 9 times higher than a year earlier. The increase was due to the installation of additional drainage system to eliminate excessive flooding in the mine. The problem was caused by insufficient drainage capacity, which could not prevent the penetration of utility water into the mine, making it difficult to extract ore and posing a threat to operating safety. "Under these circumstances, we could not follow the schedule of bringing the mine to its nameplate capacity and thus we focused on solving the problems of water inflow", Igor Sobolev, First Vice President and Executive Director of ALROSA, told reporters last March. The new drainage system installed this year will permit to capture 90% of inflowing water. "Now in 2015, Mir will provide production of 750,000 tonnes of ore per year, and in 2016 the mine should reach its full capacity of one million tonnes of ore per year. We shall have to deal with the problem of water inflow during the whole period of developing the diamond deposit, but now we know how to cope with it, and we see no tragedy in this situation - any minefield is complicated by some factors," Igor Sobolev said.
In the future, mining in Yakutia will be maintained at a stable level. There are no plans to boost production, Igor Sobolev said. For example, the launch of Botuobinskaya (which is expected to produce 2 million carats of diamonds in the long term) will not lead to an increase in production because the ore from the new diamond pipe will replaces the ore of Nyurbinskaya, the adjacent diamond pipe, at the concentrator, thus there will be no significant changes in the total volume of ore processing. As planned, ALROSA will reach the output level of 41 million carats by 2019 envisaged by its long-term strategy due to the Undachny and Mir underground mines in Yakutia brought to their full capacity, as well as due to reaching a peak of production at Severalmaz.
Of all others, the main driver of growth in production will be Severalmaz (now accounting for 5% in the total output by ALROSA Group), which started to develop the second diamond pipe, Karpinski-1 at the end of last year. This year, the Arkhangelskaya and Karpinski-1 mines will ramp up their production to 2 million carats from 1.64 million, reaching 4 million by 2018 and 5 million per year at their peak. Despite the fact that the quality of the Arkhangelsk diamonds is inferior to those mined in Yakutia, ALROSA managed to make the project effective, Igor Sobolev said. "According to our estimates, Severalmaz will reach a breakeven point in terms of operating margin already this year rather than posting a loss, as in a few previous years... All the necessary investments in this project have already been made, the costs will not rise anymore, so a further growth in diamond production from 2 to 5 million carats will only improve the performance of Severalmaz," the first vice-president of ALROSA said. After 2018, Severalmaz will start producing ore of a higher grade, which is the core of this project.
SALES
Having produced 8.4 million carats, ALROSA sold 9 million carats in the first quarter of the current year. The level of sales is 17% lower qoq and 29% yoy due to weaker demand in the course of trading sessions in January, February and March, when customers were given a chance to lay aside some part of their purchasing limits (30% in January and 10% in February and March). Speaking about the decline in sales, we must remember that the company sold most of the stocks in the first quarter of 2014, which means that the estimate basis was overrated, Deutsche Bank noted. More importantly, the level of sales was ahead of the production level, which is positive for generating cash flow, the bank said. The company’s rate of sales a year ago, when it additionally sold more than 3 million carats from its stock, was a record, so it seems that the miner did not intend to sell at this rate this year, Nickolai Sosnowski of UBS said.
Of the total sales, gem-quality diamonds account for 7 million carats sold at an average price of $ 161 per carat and industrial quality diamonds account for 2 million carats sold at an average price of $ 8 per carat. The average price of diamond jewelry remained unchanged to the fourth quarter of 2014 and went up by 4% year on year, despite the fact that market prices fell by 3%. In order to offset the effect of low market prices, ALROSA changed its product mix increasing the share of gem-quality rough to 78% (vs. 63% in the fourth quarter of 2014 and 75% a year earlier). Such a move is indicative of effective inventory management and sales, VTB Capital said in its review.
Reducing purchasing limits for customers, ALROSA "gave a breathing time to its clientele from the diamond manufacturing industry," said Nickolai Sosnovsky of UBS. "It was necessary to leave at least some margin in the mid-market, so that this sector could accumulate a little working capital. With the current state of the market, ALROSA had to reduce either prices or sales. But a decline in prices for rough could bring pressure on polished goods," the analyst said.
The first quarter of 2015, accompanied by a decrease in purchases on the part of ALROSA’s customers and by falling prices, was the most challenging for the diamond market over the past 5 years, according to a review released by VTB Capital. However, ALROSA managed to boost the average realised price (including both for gem-quality and industrial diamonds) by 20% qoq and by 7% yoy due to increased sales of high quality diamonds.
ALROSA’s revenue for the period will be at least $ 1.1 billion, which corresponds to the fourth quarter of the previous year. The 31-percent depreciation of the ruble will reduce the miner’s costs, which were at $ 62 per carat in the fourth quarter last year. As a result, ALROSA’s margin per carat in first quarter will go up by 50% to the mean value of 2014, reaching $ 70, according to VTB Capital.
According to VTB Capital’s analysts, ALROSA will increase its EBITDA by 86% to 174.3 billion rubles in 2015. The company’s EBITDA margin will reach 54% compared to 45% a year earlier. VTB Capital noted that ALROSA’s investments would peak in 2015 and then the company’s costs would be decreasing towards 2019, while at the same time it would bring the three new diamond mines to the planned level of production. A twofold increase in the company’s free cash flow expected in the result will permit the miner to make early repayment of its $ 1 billion debt in 2015. ALROSA’s leverage will drop to a quite comfortable value of 0.7x. As a result, the company's dividends in 2015 will grow almost four times - up to 5.38 rubles per share and dividend yield will go up by about 8%, according to VTB Capital.
ALROSA still expects market conditions to improve in the course of 2015 (due to economic development of the key markets for diamond jewelry - the US, China and India), the miner said in its statement. At the same time, the company does not give its forecast of a 3-percent rise in prices for diamonds at the end of the year, although it was repeated during the Investor Day in early April and no new outlines have been reported. This forecast is now looking very optimistic and it will be rather difficult to achieve it, Nickolai Sosnovsky of UBS said. "To achieve this target, you will need to return prices to the level of last year and even make them higher. But at the same time, you will have to give back to the market those amounts of rough, which were short-shipped in the first quarter. Practice shows that either you have higher supplies due to low prices, or vice versa," the analyst said.
Despite the difficult diamond market in the first half due to impeded access to liquidity for manufacturers and traders, VTB Capital expects a rebound in the second half and in 2016, owing to which diamond sales and prices will increase. A positive outlook for the market development in the medium term, based on lower global diamond production in 2018-2019, remains in force, the investment bank said. This forecast suggests an average annual growth in demand of 4-5% in 2015-2024.
Sergey Bondarenko for Rough&Polished
