Eurasian Natural Resources Corporation - Out of Kazakhstan

With yet another acquisition Eurasian Natural Resource (LON:ENRC)'s quest for profit growth goes on.  Against a backdrop of stronger commodities prices, the group has recently been looking to expand outside of Kazakhstan, a move which should help reduce the group’s risk profile.  Diversification also means venturing into some of the riskier African countries such as the Democratic Republic of Congo.

Brazil though looks to be potentially a more stable bet with the group a further US$304m investment in mid-October in two separate transactions. This builds on previous deals and increases the group's position in the relatively stable South American country.

Brazilian investments will allow ENRC to access the seaborne iron ore trade and build scale and investments in both Africa and Brazil are vital to the group's growth profile in the longer-term.

Turning to latest production and in its third quarter production report ENRC shows it is at full capacity and this is expected to continue into the fourth quarter. This is largely because Chinese growth has held up and any slowdown in the country has been mild so far.

However, iron ore output was down 10% in Q3 on a year ago but this was offset by Ferroalloy output increasing by 14%. These two areas made up the bulk of H1 operating profit with ferroalloys accounting for 47% and iron ore making up 36% (83% of total H1 operating profit for the two commodities).

For the first nine months of this year volumes of the group's main products have increased. Putting this together with higher sale prices and revenues will be markedly ahead of 2009

Ferroalloy production for the first nine months of the year is up 39%, iron ore saw good growth abd aluminium production was stable. Ferroalloy prices for the first nine months of 2010 are up 40% on 2009, iron ore prices are up 53% and aluminium prices are up 40%.

Thus the key to profits growth going forward will be production growth and cost control. On the costs front unit costs in ferroalloys and iron ore have risen to be significantly above the first nine months of 2009.

This is because higher prices have meant a greater impact from the Mineral Extraction Tax (MET) in Kazakhstan. If this is excluded unit costs were broadly level with 2008. The tax rate for the group is also set to come in at 28-29% for 2010 due to the effects of the Excess Profits Tax. 

Clearly the effect of these higher costs will be offset to a large degree by higher prices. The group has also not been deterred from expansion with planned capital expenditure of US$1.3bn. The balance sheet has gross available funds of US$824m and so funding this doesn't look to be an issue. 

The controversy between ENRC and First Quantum does rumble on.  First Quantum could look to take legal action against ENRC directly. However, to do this it would have to show that the actions by the Democratic Republic of Congo were unlawful.

The growth prospects for the company and the increased diversification into new commodities and geographies continue to bode well. However, the low rating of the stock doesn't reflect the potential for strong future profits growth.