The Arrival of the Nickel Billionaires

October 18, 2006

The nickel price rose 136% in the year 2006. Stockpiles fell to record low levels. The fundamentals remain tight for nickel. In conjunction, $33,000 per ton daily price at the LME reflects the Nickel picture on a daily basis on the CNN.

There is a lot of good news for nickel. Investors are looking to invest in nickel futures or nickel mining stocks. Buying nickel mining stocks could bring handsome rewards for long-term investors in the nickel market. Research the nickel market and seek the right nickel mining company. A jump in the price of nickel futures could lead a booming market for a list of securities unknown today to the investing public. This report endeavors to seek to highlight exactly those possibilities.

We should point out that looking at the world at large, the number of people and countries that are at peace and in the construction phase are infinitely larger than any other time in history. The wars we have are local wars. Even the disturbances at the end of 2006 cover countries like Palestine, Lebanon, Iraq and Iran. If we include Syria, there are about 120 million people. The disturbances are shrinking. We are heading to universal peace. Like Chancellor Bismarck's PEACETIME. The prospect of steel is up. Even the countries with disturbances can soon join the class of people who would use stainless steel and nickel and rebuild their countries the same way Vietnam and Libya have joined the civilized world in the last few years. The future of nickel is tied to the level of construction activity in the world, the outlook for which has never been brighter. The prospect of steel is up.

Nickel Prices and Inventories

The price of has increased on a cash market from $8/lb. in 2001 to approximately $15/lb. on October 1, 2006. Based on fundamentals, a more important factor for pricing is the sharp decline of the inventory in the LME stock beginning in 1995. In 1995, the total inventory was about 140,000 tons. In 1999, it was 60,000 tons; in 2005, 8,000, in early 2006, 30,000; and at the time of writing it is negligible.

"The market is genuinely tight," said Mo Ahmadzadeh, president of Mitsui Bussan Commodities Ltd. in New York. "Prices will keep rising until makers of stainless steel begin to cut production," he said. Nickel for delivery in three months jumped $1,795, or 6.5 percent to $29,295 a metric ton on the London Metal Exchange, marking the biggest percentage gain since December 20, 2004. Prices reached $29,950 on August 22, the highest since at least 1987.

Inventories dropped 0.9 percent the past two days after rising for six sessions. The stockpile decline this year occurred as demand increased from stainless steel makers in China.

On the technical side, the following factors are to be considered. The actual consumption of nickel is illustrated in the following table.

1. Germany has in its economic recovery program increased its consumption.
2. The stainless steel users can pass on the increase of nickel price and related surcharges easily.
3. The LME stockpiles were reduced 76 percent from 17,266 tons to 4,128 tons between
   June and August, 2006. For the various takeover bids between CVRD, Phelps Dodge, Inco, Extrata and Falconbridge, has delayed some of the programs in the nickel market.
4. With increased demand, as illustrated, the actual supply coming from already announced projects are not coming to fruition before 2010. Hence, production increase is about five years off.

5. In this picture, we have to take into consideration the very recent nickel price increase of the last month and the inventory changes, which are on page 4, attached. If the LME is in a constant state of nickel shortage, we have to cope with imbalances in the nickel market.

It has become clear that volatility and high prices are not a unique characteristic of nickel prices but are becoming increasingly common in all industrial raw materials. In a recent editorial, the Metal Bulletin referred to the "virus of volatility that has infected global commodity markets". The editorial was stimulated by the very sharp price rises of iron scrap that have been seen in recent months, with prices for many grades reported as more than doubling over a nine-year period and increasing 25% to 60% over two months. No doubt emotion is high in steel scrap buying and selling circles. No doubt someone is being blamed. But this time it will be different to out the finger on hedge funds and the LME.

High prices and volatility are mostly attributed to the far-reaching changes taking place in the structure of the global economy, especially in its manufacturing sector, and especially associated with the dramatic industrial developments in China and India. It is very exciting to see the economic success of these economies. It is, on balance, excellent for their large populations. It is, on balance, excellent for the raw material supplying industry worldwide. It may not be so good for some parts of the established manufacturing industry in the EU, North America and Japan.

A cursory analysis of the Chinese usage has interesting statistics.

6.  China's primary nickel use in 2003 is estimated at 125,000 tons, up from 43,000 tons in 1997.  

7.  Stainless steel imports to China was 2.836 million in 2003, representing 226 tons, or 8 percent of nickel contact. 

8.  The Chinese total nickel units in 2003 was 363,000. The actual nickel unit use has increased in China between 2003 and 1977, fourfold in five years.

Major producers in Europe, Asia and the U.S. have so far been able to pass on higher stainless steel prices (via nickel price-related surcharges). But there is always the possibility that consumers may become reluctant in accepting higher prices, with the result being lower stainless steel output. At this stage this scenario appears unlikely.

Restocking hasn't even started yet. We highlighted demand strength was due to attempts to rebuild inventory after the period of destocking last year. Consequently, we were conscious of the 2H08 softening in demand as stainless steel producers reduced their nickel restocking.

But it has become clear that little stock building has taken place. Producers such as Ugine & ALZ and Outokumpu continue to maintain 'very low' stocks whereas many companies in the downstream part of the supply chain still exist with stocks at about 60% of their normal levels. BH go on to say that the incentive to restock has been markedly reduced by high alloy surcharges (due to high nickel prices) and escalating base prices as few companies are prepared to take the risk of purchasing excess material at such high costs. As a result, stainless steel distribution companies have been operating on a hand-to-mouth basis.

And unlike in copper, we have yet to see evidence of significant substitution. We now feel more confident that nickel demand will remain robust throughout 2H06.

At the same time, we have to understand that we are going to talk very soon of the Indian market, of the Indonesian and Vietnam market, and the Philippines market, the increase of the African market, and if all these factors increase demand and if the new capacity is delayed for five years, we can look for an increased valuation not only in nickel prices but give greater value to the securities of the nickel mining companies that have discovered deposits, and now they are gearing up in the next five years for production.

From the point of view of the stock market, we are talking of companies with the following characteristics.

   9.  Public ownership and actual ownership of .2 percent or .15 percent nickel deposit on the ground.

   10. Sufficient amount of deposit or growing deposits that would enable these companies
         in five years or less to mine the nickel.

Long-term Delays

The merger activity in the nickel market also raises the possibility of further project delays in the long term. Xtrate is nearing completion of its takeover of Falconbridge while Inco remains in play with an offer from CVRD still on the table. No matter what the outcome, it looks increasingly likely that the consolidation could result in further delays to projects. The Koniombo project would be most at risk but the strong pipeline of projects for both Inco and CVRD could see any further delays in their basket of nickel projects. 

The table above lists all the projects being undertaken by the participants in the nickel M&A merry-go-round. These projects are equal to 354kt or around 21% of our 2010 supply forecast. While we expect the majority of these projects to proceed, any delays will have a significant effect on a tight market.

This background creates the opportunity for the Nickel Billionaires.

So long as the demand is there -- and it is there in the world of PEACETIME for 7B people -- high prices will rule.

30,000 yearly production in the year 2010, at $30,000/ton, is about $1,000,000,000.

There will be a new class of nickel mining executives:

There is hidden but sizeable profit potential in the publicly-owned securities that are engaged in nickel production. The opening year of production is about, on average, three years away.

These companies base their activities of nickel discoveries in North America, in Europe, and other parts of the North American continent. The discoveries are quite sizeable and the valuation of the companies are large in size but in terms of future production is low. For instance, HNC, or rather Hard Creek Nickel Ltd., has a nickel discovery in British Columbia. At a $6.00 nickel price and three-year retroactive evaluation, the company values the depreciated net value at $595 million. Obviously, with the higher valuation of nickel the number can be much larger. For calculating purposes, the following table is of interest.

HNC has a total market value with a current contemplated public offering of less than $50 million. While in a short history, the $50 million valuation may be commendable, in terms of the capital expenditures which are contemplated and the cash flow which is being calculated, the number is not representative of the future.

In the following table, we present three companies, Brilliant Mining, Hard Creek and Scandinavian Mining. The numbers speak for themselves.

The interesting part is that in the year 2006, we are in the first year of high nickel prices. As we stated in the balance of the report, prices have gone up around 136% this year and could actually end up with a 150% increase by December, 2006 versus 2005. Any nickel mine would reflect its minable reserves at the current price of future cash flow.

Our theory in presenting the attractiveness of these companies is based on future production and cash flow, calculating that the price of nickel will stay at around $30,000/ton, or $15 per pound. As far as potential production is concerned, we use a hypothetical 8,000 tons which would indicate that there is a revenue of $240 million per annum. Assuming a 50% pre-tax level, we are talking about $120 million. Assuming that the company will have to amortize expenses and we deduct an additional $40 million per annum, we are still talking of a cash flow of $80 million per annum.