Sunkar Resources - any capital growth from this fertilizer?

Can I interest you in a company that mines phosphate ore in NW Kazakhstan, processes it in an adjacent integrated fertiliser manufacturing plant and then, from this landlocked country, it seeks to market its product to the world? Well, this is not one for the faint-hearted...

The investment plus points first:

• The resource to which SKR have the rights and available for extraction is estimated at 800 million tonnes [ref] http://www.allipo.com/.../ipo-sunkar-resources-plc-admission-to-trading-on-aim [/ref]
• It is contained very close to the surface and therefore can be mined at low cost. The phosphate reserves are estimated to take over 50 years to exhaust.
• Operating costs in Kazakhstan are low (see country note below) and apart from transportation and marketing all costs will be within that country. There is a large pool of available labour nearby the site of the plant.
• Having mentioned the seeming geographic limitations of the national site, it should be hastily added that SKR list the main market for its product amongst the emerging BRIC economies of Russia, China and India – all butting on to Kazakhstan but with the mine and plant in Chilisai in the north west, up near the Russian border, China and India are a long road haul away – and not along motorways either. However, having got the product to China, that does open up the world’s shipping channels...
• The global market for phosphate fertilisers is presently over 40m tonnes p.a. and expected to grow by 1.5% p.a for the next 20 years. [ref] Ibid [/ref]

The general cautionary aspects are:

• The economic, political and financial risk concomitant with Kazakhstan (see below).
• The growing wariness of phosphate fertilizers in America and the UK (see later ‘Health Warning’), although these are admittedly not the the company’s intended main markets.
• Fertilizer production accounts for 87% of global phosphate consumption. [ref] Ibid [/ref]
• Performance of the share price to date.

The Company 

The Company debuted on AIM in July 2008 when some resolute investors bought 28m Ordinary Shares at 120p each. The shares are currently (23.10.09) quoted at 39p each which is a severe enough loss in a little over 12 months. It was even worse news at times in the intervening period when the shares were quoted at just 5.25p each.

At 39p, SKR is capitalised at £62.3m which converts to 160m shares so who owns all the rest? Some of the whopping 132m shares not accounted for will be in the hands of the directors, this is rumoured to be 25% or 40m shares and two directors did add to their holdings with deals listed in July 2009 - both buying 350,000 shares at 14.2p each – conveniently, it has to be said, two months ahead of the announcement by the Company of some helpful test results [ref] On 28 September 2009, SKR[1] issued a press release saying that its pilot plant test on production from its phosphate deposits are progressing well. Although reading between the lines statements from the Sunkar Chief Executive ‘we never expected the results to be ideal’ and ‘the losses associated with the removal of impurities are not likely to materially detract from the project’s economics’,  may send alarm bells ringing with investors [/ref] of the mine’s production.

The suspicion is that  a very large shareholding is in the hands of the limited liability partnership Temir-Service registered in Kazakhstan and owning the phosphate mines which are the key to SKR’s future. As with all LLP’s, the required information is not in the public domain and the fact that the company are not publishing important details like this could be unsettling for investors.

The Market - Kazakhstan [ref] http://news.bbc.co.uk/1/hi/world/europe/country_profiles/1298071.stm [/ref]

The geographic location has already been outlined but is an enormous area, the ninth biggest country in the world. Bigger than the whole of Western Europe and more than ten times the size of the UK with only 16m people i.e. 25% of our population. The ideal pictorial description of this was televised just last week – The Apprentice’s Nick Hewer and Saira Khan traversing Kazakhstan for their leg of the BBC  Children in Need  ‘Round the World in 80 days’ trip, the railway track was a straight line to the horizon for hour upon hour across vast emptiness.

After 70 years as an autonomous republic within the Soviet Union Kazakhstan declared its full independence in 1991, the last such country to do so.  Kazakhstan has significant natural resources, uranium - the world’s largest exporter, oil, chromium, lead, and zinc and taken together with large exports of wheat, livestock and textiles economic progress has been accelerating from a very low base.  However per capita GDP is still only about one fifth of that in the UK. [ref] www.worldbank.org [/ref]

The country is a democratic presidential republic supported by an upper and lower house parliament. The president (Nursultan Nazarbayev) is in a very strong position having being re-elected in 2005 for a seven year term and a recent vote of parliament has decreed that he can stay in office for an unlimited number of terms. Allegations of abuse of the democratic process persist but are unlikely to prevail.

The Product - A Health Warning:

Whilst phosphates are acknowledged, together with nitrogen and potassium, as one of the  required constituents for plant and crop root growth, there are dangers with its use. Usage near to water courses and over usage elsewhere can run off into lakes, estuaries and streams stimulating the growth of algae which blocks sunlight, deprives the water of oxygen and thus kills other forms of life and pollutes community water supply. [ref] www.fluoridealert.org/phosphate/overview.htm [/ref]

The U.S.A in particular have cause to be regretful of usage of phosphate fertilizers and now have a marked antipathy to them. Examples being the damage caused to thousands of acres of citrus groves and water courses in Polk County Florida in the 1940’s [6] and the more recent banning of their use by Westchester County New York to ‘tackle the crisis that threatens more of our watershed areas every day’. [ref] http://www.nytimes.com/2009/05/03/nyregion/westchester/03lawnwe.html [/ref]

So how's the company doing?

Along with the interim figures for the six months to 30 June 2009, SKR’s chairman reported that 634,000 tonnes of phosphate ore had been mined in the period and that they hope to achieve 1m tonnes during the calendar year 2009. This is of course miles away from the eventual target of 10m tonnes p.a and all the integrated manufacture is still to come.

More funds will be needed, rumoured to be £100m, and a much delayed bank feasibility study is set to be instigated. Given what potential investors are buying into here and the likely reception for an equity fundraising in current markets there has to be serious concern. At very least projected timescales are likely to slip.

The reported forecasts of £41.3m turnover (there has been none to date)  and pre tax profits of £10.48m for the year to 31 December 2010, giving the Company a projected P/E of 9, now seem to be hopelessly out of reach.

The Company’s balance sheet at 30 June 2009 is a monument to obscurantism and is likely to remain so. Total equity is listed as $95m and after converting that to sterling it is a lot more than the £30m raised via AIM in July 2008. Has the rest been inserted by the directors and the mysterious Limited Liability Partnership ? Negative, the directors no doubt paid a token amount for their 25%+ but the key balancing figure is $61.3m listed as ‘Intangible exploration assets’ i.e. the notional value of shares in SKR used as payment to the LLP for the rights to extract phosphate from their mine.

Conclusion

So why does a company which mines, manufactures and markets thousands of miles away and with only little more than an accommodation address in the UK (St James’s Street, London SW1) seek to list its shares on the London AIM market? Well do you fancy trying to raise the capital they needed, £30m, in Kazakhstan?

And no doubt they are hoping to access some bank loan funding but where is the bulk of the additional £100m they need coming from? Incidentally, the AIM listing document stated that the Bankable Feasibility Study would be undertaken to be followed by a planned work programme and as can be seen from SKR’s recent interim statement, the BFS has not yet started. Nervous? I would be.

Is there any more good news?  Well, surviving from the AIM flotation, the balance sheet at 30 June 2009 shows £16m cash and the Chairman expects to still have cash at the end of 2009. Not for the widows and orphans portfolio, in fact one for the dreamers if you ask me. But feel free to tell me why if you think I am wrong about that!