“Although Gloucester appears cheap on a peer earnings multiple comparison, it is riskier given the potential for its coal to be de-rated towards semi-soft prices. A favourable settlement gives rise to possible re-rating in early 2006,” UBS said.
As Australian coal producers settle on 2006 Japanese financial year prices with buyers, several reports have suggested initial settlements by smaller producers have been well below 2005 pricing.
The broker said PCI and thermal coal settlements by small suppliers had indicated significant reductions in price. The benchmark is yet to be set by the coal majors, with thermal spot prices creeping up and a recent coking coal settlement by Xstrata suggesting a mere 3 percent year-on-year decline.
“We believe that the stock [Gloucester] should be underpinned over the next 12 months by expectations of sustained demand for Gloucester high fluidity coking coal and strong results for FY 06e. If Gloucester obtains a favourable settlement and the FY 06 profit result is strong, we could see Gloucester trade higher in the second half of the year,” UBS said.
The broker also commented oversupply in 2005 may lead to a shift in consumer focus to coal quality rather than quantity: “Gloucester’s products currently have high ash and sulphur contents, putting their thermal coal products most at risk given that no long-term contracts or relationships exist regarding this product.”
Despite this, UBS said the company’s leverage to coking coal (60 percent of revenue) should underpin the stock over the longer term.
Gloucester currently operates the Duralie and Bowens Road North opencut mines in the Gloucester Basin.
UBS gave Gloucester a target price of $A3.20. The company was trading midday Tuesday at $A3.17.