Investment summary
Champion Iron is a pure play on high-quality iron ore produced in Canada. The company has potential to create value for shareholders through production growth and operational improvements at its flagship operation—the Bloom Lake mine, which operates in the third quartile of the cost curve. Given prior investment by previous owners, Champion has a unique opportunity to more than double its free cash flow with a relatively small capital investment ($589M) by completing the Phase 2 expansion work and ramping up production. The expansion will increase capacity from the current 7.4Mtpa to 15Mtpa and we estimate that Champion can generate a 13% FCF yield annually from the higher production operation. We estimate that the expansion will generate an incremental ~$809M in NPV at a 29% IRR.
Champion produces a high Fe content (66.2%) concentrate that is in strong demand, and we believe it will continue to be in strong demand given the reduced environmental impact when used in the steel-making process versus lower-quality products. China currently produces ~50% of the world’s steel and has been implementing regulations to reduce pollution in steel-making, which has driven a shift in preference for higher- productivity inputs, such as those produced at Bloom Lake.
We forecast iron ore prices to come down as supply from Brazil returns to the market and stimulus effects start to fade; however, Champion is not pricing in the strong near-term prices in our view. We believe Champion is trading at a discount and pricing in ~U$67/t iron ore. Spot iron ore is ~U$125/t and we forecast a long-term iron ore price of U$65/t. We estimate that the shares are trading at 0.95x P/NAV, vs. iron ore producing companies under our coverage at 1.14x, and at 3.5x calendar 2021E EV/ EBITDA, vs. the iron ore producers at 4.8x. We believe the shares should re-rate higher as Champion executes on its Phase 2 expansion and grows FCF.