Deterra Royalties Limited (DRR) Earnings Call Transcript & Summary

Good day, and thank you for standing by. Welcome to the Deterra Royalties First Half FY '23 Financial Results Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your first speaker today, Managing Director and Chief Executive Officer, Mr. Julian Andrews. Thank you. Please go ahead.

Thank you. Good morning, and welcome to Deterra Royalties first half FY '23 results call. I'm Julian Andrews, MD and CEO of Deterra, and I'm joined today by Brendon Ryan, our Chief Financial Officer; and Matthew Schembri, who leads our Investor Relations. I'll begin with some introductory remarks, and then Brendon will provide a review of our financial results. Following that, I'll provide some comments on our approach to growth and the outlook in that regard, and we'll then hand back to the operator and open the line for questions. In terms of corporate overview, you'll note that Jason Neal has joined our Board during the half. Jason brings a very deep experience in networks in mining and metals in North America and globally, and we're very pleased to have him join the company. I'll now start with an overview of the business highlights. It's been another period of strong performance for Deterra. Our assets continue to perform well, and we've reported revenues of $96.4 million for the half, which are once again driven by the performance of the cornerstone royalty we hold at the BHP Mining Area C mine, which accounted for $96 million of those revenues. Albeit on a much smaller scale, our other producing royalties also had a strong period, and we saw revenues from Doral Mineral Sands operations increase following its move to the [indiscernible] mine last year. We remain well positioned for future growth, both organically where the ramp-up of the South Flank operations continues and is expected to bring Mining Area C production volumes to an annualized run rate of 145 million wet metric tonnes by [ net ] calendar '24. And inorganically, where we have $350 million of undrawn credit facilities available to provide liquidity for future value-accretive investments and transactions. And we continue to prioritize returns to our shareholders. The directors have declared an interim dividend of $0.12 per share, which once again is equal to 100% of net profit after tax. These results highlight the benefits of our royalty business model. high-quality, high-margin top line exposure to the resource sector without the same exposure to operating cost -- capital cost inflation. Specifically, we have what we believe to be one of the highest quality public royalties that provides top line exposure to a world-class iron ore operation. The business model is scalable and can generate very high margins, which is illustrated in the EBITDA margins we've reported. We have a focus on returning earnings to shareholders once again evident in the dividend we've announced today. We have organic growth and a focus on value-accretive investment. And we have a focus on ESG, both in our investment processes and our everyday operations. With that, I'll hand over to Brendon, who will take you through the financial results in more detail.

Thanks, Julian. Good morning, everyone. My task today is again a fairly easy one given the clean and simple set of results. If we can first turn to Slide 7, so I can address the financial highlights for the half year period. As you can see, total group revenue for the period amounts to $96 million, and this includes $96 million in revenue from the MAC Royalty, plus circa $400,000 in revenue from our 2 smaller mineral sands operations. This $96 million in revenue in turn delivered a healthy $92 million in EBITDA for the period, representing an EBITDA margin of 95%. And this is driven largely by the low overhead structure of the royalty business model. Finally, this resulted in NPAT and dividends for the half year period of $63 million. And based on this, as Julian said, board have declared a fully franked interim dividend of $0.12 per share. I remind you that this represents 100% of NPAT and confirms our commitment to return surplus cash flow to our shareholders. Moving to Slide 8. I would quickly like to discuss the performance of Mining Area C. Overall, you can see from the yellow line on the chart, the ongoing ramp-up of BHP $3.6 billion MAC South Flank expansion. It can be seen that volumes over the past 6 months have plateaued at just under 30 million tonnes per quarter, with sales volumes of 58.7 million tonnes delivered in the half year period. BHP continue to confirm the South Flank ramp up to full capacity of 80 million tonnes remains on schedule with full run rate expected by the end of FY '24. Based on the sales volumes, total MAC Royalty revenue for the half year was $96 million. And as a reminder, the annual capacity payments shown in orange on the chart, is calculated at 30th of June and paid annually at the end of each financial year. On Slide 9, we have tried to reflect the simplified illustration of the P&L. What this slide demonstrates is the lean cost structure and transparency of cash flows distributed to shareholders. On the revenue side, as discussed earlier, we showed the $96.4 million of revenue from MAC and our smaller mineral sand assets. On the right-hand side of the chart, we show the distribution of these cash flows. Total costs for the December half year period were $4.9 million. Of this, $4.1 million relates to normal ongoing operating expenses reflecting the inflation resistant nature of the royalty business model. We have also specifically called out in our account $0.5 million in the project-based business development costs. This reflects a material increase in [indiscernible] activity seen in the half year and the remainder of the $4.9 million in total cost related to the $0.2 million for D&A. Net tax for the half year of $27.5 million reflects an effective tax rate of close to 30% and this results in net profit after tax of $63.4 million for the period. On Slide #10, we described the capital management framework with respect to funding new acquisitions. You will remember in February 2022, we announced the establishment of $350 million in bilateral credit facilities with the intent to build relationships with 5 local and international banking groups. These facilities increased our total credit limits from $40 million to $350 million as well as extended existing maturities to 3, 4 and 5 years. We are very pleased with the outcome and timing of these new credit facilities with the outcome reflecting the underlying quality and low-risk nature of the MAC Royalty cash flows. These facilities now provide Deterra with the increased flexibility to act on growth opportunities as the market changes. And for context, net financing costs for the half year period was $648,000. Now turning to Slide 11. This slide specifically demonstrates our commitment to prioritize shareholder returns. With the board declaring an interim dividend of $63.4 million equal to $0.12 per share, which represents a payout of 100% of NPAT in the period. In terms of our capital management framework, you will note that we continue to prioritize shareholder returns, although recognized the intent to invest in growth, we intend to optimize the use of debt for future acquisitions, specifically, the cash flow from new assets will at least in part be utilized to pay down debt. And we also intend to maintain target leverage within the range of 0% to 15% of enterprise value over time to protect the option to add flexibility when value-accretive opportunities arise. Hopefully, you'll recognize from these slides, we have worked hard to do deliver upon our commitment of firstly, operating a lean corporate structure; secondly, maintaining conservative and flexible balance sheet, and lastly, of maximizing the return of surplus cash flow to shareholders. The simplicity and scalability of the Deterra's business model is unique on the ASX, and our small team will continue to work hard to deliver maximum value to our shareholders. With that, Julian, I'll pass it back to you.

Thank you, Brendon. I'll make some comments on strategy and outlook. Turning to Slide 14. In addition to providing our shareholders with access to the cash flow generating from the MAC Royalty, our business model is to generate growth through building a broader portfolio of royalty and streaming assets. Before speaking to inorganic growth, I'd just like to touch on the foundation of our portfolio, the MAC Royalty, both in terms of its quality and organic growth optionality. The quality of the MAC Royalty is very important to us. because when we look at successful companies in our sector, they typically have a core of one or a small number of very high-quality assets around which they have built their business. We have a very high-quality core in the MAC Royalty. It's operated by BHP, the world's largest mining company. It's well positioned on both the cost curve and the quartile emissions intensity curve and is the large-scale line with very long life. To put this in context, when South Flank is running at full nameplate capacity, it will represent something in the order of 8% of global seaborne iron ore traded. As well as being a very high-quality platform for inorganic growth, the MAC Royalty still has substantial optionality in its own right. South Flank continues to ramp up on track to meet nameplate capacity of 145 tonnes per year by mid-'24, from the reported 111 in FY '22 as well as longer-term optionality with the additional deposits identified within the royalty area, which you can see in the chart on the right of the slide. On Slide 15, we've set out our approach to inorganic growth, and we've been consistent for some time in talking about our focus in that regard. As I said earlier, we're pursuing a well-established business model that has some very successful exponents but there are some important differences in our approach. In particular, we focus on areas where we believe we have a competitive advantage. For us, that means, in particular, bulk commodities such as iron ore and fertilizers and base metals including copper, nickel and zinc, in geographies with well-developed mining infrastructures, Australia and the Americas. We're also seeing an increasing number of opportunities in the transition metal space. When I spoke at the full year results last year, I noted that we expected to see an increasing number of opportunities for our business as miners and developers look beyond traditional debt and equity markets for additional sources of funding, and that has been the case. We have seen a material uplift in the number of opportunities in the last half, and our pipeline continues to expand and is as strong as it has ever been, which is keeping our business development team very busy in the screening and evaluating these opportunities. Although the secondary market has been steady, the [ increase ] we've seen over the past half has been almost entirely driven by the primary market, where we offer -- and that's the market where we offer capital directly for mine development, balance sheet repair or M&A support. We believe this is a function of both the efforts we've made to build our network and raise our profile as well as the need and demand for capital beyond those traditional sources that I mentioned a moment ago. The $350 million facility that Brendon spoke to, and we put in place last year, remains undrawn and provides the liquidity we need to act on these opportunities, and it's an important element of our growth platform in supporting our positioning as a preferred counterparty. On the ESG front, we continue to progress our efforts, particularly with respect to our social investment and engagement strategy. So to wrap up, we have a compelling investment thesis. Our revenue-based royalties offer shareholders a distinctly lower risk profile when compared to a mining company and provide significant protection against operating and capital cost inflation. And in that way, we provide investors with a lower risk exposure to one of the core assets of one of the world's best operations in one of the world's best iron ore provinces. By prioritizing returns to shareholders, we provide investors with a unique exposure to income from a high-margin investment business with a world-class cornerstone asset. And we continue to build growth options, both from the continued ramp-up of the South Flank expansion of Mining Area C and from value-focused M&A as well as those primary investment opportunities I mentioned. In closing, it's a very straightforward set of half year results, as Brendon said, as you would expect from a very simple and transparent business. The assets are performing well, generating cash, which we have passed on through an interim dividend of 100% of NPAT, and we are very active in assessing opportunities to build growth in addition to the organic growth, but still remains in the portfolio. With that, we would be happy to take any questions.

[Operator Instructions] The first question comes from the line of Chen Jiang from Bank of America.

Just a high-level question, please. Would you please share your insight in the royalties, M&A space for the commodities you have been looking for in Australia as well as offshore?

It's a fairly broad question, but we'll do our best. Look, as I said, we -- the commodities we focused on, we've been pretty consistent, I think, from the beginning in talking about focus outside of precious metals and particularly in the bulk base and battery metal space. We've seen -- and I mentioned, I think, in that regard, the bulk, we've seen opportunities in iron ore and some of the fertilizers. Base metals have been very busy and quite competitive. And we're seeing an increasing number of opportunities into that transition metal space. I think that it's fair to say that as demand for those metals grows, we're seeing more opportunities coming to market for funding and particularly with capital markets where they have been over the last little while, there's been greater demand for some of those nontraditional sources of capital such as ourselves. So as I mentioned here, we're certainly seeing a fairly material increase in the number of opportunities that are coming to us.

I think the style of opportunities has changed a bit in the first sort of 18 months of being a public company. I think the markets were in a very different state where equity was freely available and debt was very, very cheap. And we saw a lot of the secondary market. And what we have noticed of late in the last 10 months or so is -- or even more recently, as the market has changed, that there is -- we are seeing and working a lot more of the primary opportunities where we become a source of funding for the new assets.

Right. So you have been actively looking for opportunities, I guess, but there's nothing at this stage, meets your criteria?

Well, yes, certainly, we haven't made any investments to date. We have been very actively looking at it. We remain very actively looking at opportunities. And when we see the right opportunities that meet those criteria, we feel we're in a very good position to act on.

Next up, we have the line from Paul McTaggart from Citi.

So I just wanted to sort of follow up. So you mentioned that there's more primary opportunities at the moment for funding. And how do you think about risk in the sense that if you're doing an in-production asset, okay, it's just a kind of a revenue royalty, and it's a kind of a low risking, but if you're providing funding for a primary near production, you do take on technical risk -- production risk. I mean it's quite fundamentally different to having money in an asset like MAC. So how do you think about that risk? I mean, it just seems to me that there's sort of fundamentally different things in terms of the risk levels.

Yes, Paul, you're certainly right. There are different risks that attach to investments in different stage in that development cycle. If you're looking at a producing asset, then you clearly upgrade a much better insight into the mine plan and the operational performance of the mine. When you're looking earlier, well you do take on some of that technical risk, some of that development risk. But I think at the end of the day, the core elements that really drive the returns are going to be about the deposit and what's in the ground because that's nothing to change. So we -- when we look at risk, I think that's where we start on every opportunity we look at is what's in the ground, what could this deposit be. Then we need -- we think about the risk on top of that relating to the operator, their ability to deliver the mine plan, their ability to deliver extensions and expansions, or their ability to deliver a project as well is obviously pretty important. But ultimately, the risks do differ, but those risks will also be reflected in the kind of returns that we would be looking for from an investment. So it's not a single return requirement across all stages of the development. Clearly, that return has to reflect the risk profile.

And there is also the opportunity to structure instruments to make sure that they encumber critical or major payments go out in line also when risk is reduced.

And can I also follow up? So there's been some tax changes in some jurisdictions, for example, Colombia, where royalties are no longer tax deductible. Are you seeing any -- and you're seeing any other moves around other jurisdictions? And do you think this sort of poses a risk around royalty financing?

Obviously, one of the things that's been the topic is some discussion in the royalty revenue space is just the -- is the border tax in your potential for minimum tax focus we brought in across various jurisdictions, which perhaps go a little bit to structuring of instruments. But ultimately, we think royalties [ in Australia ] can provide a different type of capital. It's not just about the straight cost. It's also about the alignment that can be offered between capital and owners in terms of that sharing in the performance of the mine. So I think tax may impact on structuring, but ultimately, it is a -- the fundamental offer of a stream or royalty is qualitatively different from other sources of capital, and we think there will always be a place for that.

We also -- Paul, we also try to focus on jurisdictions where there's a little bit more certainty around the sort of the rule, although that doesn't mean that they can't change either, and we have seen that in [indiscernible] economy as well. But we are -- we think about that as we sort of prioritize where we sort of look for opportunities as well.

Next question comes from the line of Glyn Lawcock from Barrenjoey.

I might have missed this, but just trying to wrap my head around what exactly is it that the projects that you're looking at, what hurdle are they not meeting? Is it the return hurdle, quality hurdle. I'm just trying to understand where are things falling apart? I mean we've been at this for a couple of years now, and we haven't pulled the trigger. So I'm just -- I might have missed it in one of your earlier answers. But just if you could help me understand what it is it's failing at that you're not able to move on any of these opportunities?

Yes. I think to put it some context, as you say, we've been additive for a couple of years as you put it, I think we need to recognize that, as Brendon alluded to a little bit earlier, the markets have certainly evolved over that period and for the first, let's call it, 18 months or so of the business, capital markets were in quite a different space in terms of cost of debt and availability of equity. And that ultimately is going to go to the cost of capital available and our competitiveness as a source of -- business source of funds. We've seen that shift over the past few months, and we think that's put us in a position where we are more competitive. So in terms of individual projects, they differ. I don't think it's fair to say there's a particular hurdle that is falling on. Every opportunity we look at is different. And they have their own challenges, and we'll continue to focus on finding the right opportunities for us to invest in.

But -- to your point, Glyn, quality return, risk are all factors and different processes have failed for different reasons. And we are focused on being disciplined investors of our shareholders capital and we're trying to make sure that we actually do value-accretive investments. But yes, they're about all 3 of those and in incentive bidding processes, we've been up in certain opportunities. But -- and the bilateral sort of primary opportunities seem to be -- sorry, offer a better context within which to invest and create shareholder value.

Is it a case that, I mean you're blessed with a fantastic royalty. And is it a problem that everything you look at and you stack it up against MAC, and it just piles in insignificance. So even with a $350 million facility and an opportunity that comes across that you can utilize that facility for you and if you utilize the entire amount, it still seems like it wouldn't move the needle relative to MAC. So is that the problem? Or is that not how you think about it?

Yes. Look, that's not really how we think about it. Glyn. I think it is -- you're right, it is a very large asset. It's a fabulous asset. And it's -- to the extent it does drive the kind of thinking you are describing it, that's a good problem to have. But that's not how we think about it. I think we recognize it's going to take time to build out the portfolio that -- it's unlikely we certainly aren't out there looking for another MAC. We recognize that the assets of that quality are extremely rare and just don't come to market. So we're not looking for another MAC. And we recognize that we will need to build the portfolio over time. And we've said all along, we're going to be patient and disciplined about it, and we're going to make sure we are making the right investments that are going to be value accretive rather than adding to the portfolio just for the sake of it.

We're not looking for another MAC, but we are looking for opportunities with MAC-like characteristics in terms of future growth and expansion potential. And that's sort of where we think the sort of a lot of the output created in that sort of that option for extension and expansion. And that's how we think about sort of a lot of the value that we can create is by buying into opportunities at the right stage, at the right risk profile where they have that sort of upside potential, which may or may not be through price into the ask for us.

Yes. Okay. Sorry, just a final question then. I think 6 months ago when we were on the last results call, 2 things you sort of said, one, you were pitching more deals versus inbound inquiries. And two; today, you said you're getting more inquiries from the sort of battery metal space. So I think you saw the transition in metals. But you also said 6 months ago, they're very hard to price because the price series are very liquid. So is that still the case today? You're thinking around those transition metals like a lithium because the price is still not very transparent and liquid. That makes it problematic?

I think I said at the time and it remains the case that it's not problematic in the sense that it makes it possible to do. It's just another factor that needs to be taken in. But to your question, I mean, we've been working in building our understanding and our perspective on some of these other commodities in the time since we last spoke 6 months ago. So I think our understanding has certainly advanced quite significantly in our perspective on some of these commodities. I think you mentioned lithium, obviously, that's getting a lot of [ press ] at the moment, and there's a lot of capital flowing in that direction. Again, it is just how does that sort of play out for us as a source of capital competitively that can be -- that can also be an issue for us, that our ability to provide capital on a basis, it's going to be value accretive for us, but also yet competitive for the counterparty. When you're in very sort of strong commodity market for strong equity valuations, then that could be a little more difficult. To your earlier point about, I mentioned about the pitching and the inbounds. Yes, that's still the case. We are seeing more traction when we're pitching. But we're also -- we are seeing strong inbound pipeline as well. It's -- and I think that the fact that of our efforts in just building the brand and the time and just to let the getting up and making people and promoting the company and the offer. Those inbound inquiries now, I think, are much more in the primary space. I think in the first 12 to 18 months, we were getting inbound in the secondary space. But as I mentioned in the prepared remarks, although that pipeline has been fairly steady, the real growth we've seen in the past half and particularly the last quarter has been in the primary space.

Some part of our job, Glyn, is like in North America, every CFO has debt equity and royalty as part of their sort of arsenal of project funding. That's not -- has not been the case in Australia. Historically, it has been debt and very much equity. So part of our job is to get out there and actually explain the benefits of where a royalty is very much aligned and the cost of royalty is sort of competitive against some of the alternatives which wasn't the case, by the way, when equity was readily available and debt was very cheap in the first sort of period of our incarnation. We had an unusual market situation versus a more normal market situation which we're seeing now.

The next question, we have the line from Rob Stein from CLSA.

A quick one for me. Just a tactical one on income tax paid. It looks like that was higher than what consensus had baked in and there was a decrease in cash and cash equivalents. Is that just a timing difference half-on-half? Or is that -- and potentially in accounting versus cash accounting issue that we should expect every first half?

Yes. To your latter point is correct, yes. It's a timing difference and an accounting sort of difference between we pay cash, we pay tax upon sort of receipt of the royalty, which is sort of a month after, but we actually accrue at the point of earning, which is at the end of the period. So there is a continued difference there. And if the royalties are constant quarter-over-quarter or half over half, that makes no difference. But when there's -- on the ramp-up phase, you should expect a little bit difference and maybe need a check. So I think there was an issue with some of the consensus with more -- people not necessarily getting that explicitly. It's probably the only complicated piece in our whole sort of financial statement. So I'm sure Matt is sort of happy to work on it with anyone to make sure that we get that right going forward.

Yes, from everything else flowed through pretty easily. And then just on capacity payments, obviously there in the second half when that's evaluated? Are you getting any guidance from BHP on what the annualized rate will be from South Flank for the end of the year?

The short answer is no. We have access to the same information as the broad market, BHP. That being said, it's obviously slated that it's on target for that mid-'24 full ramp-up to nameplate. Sorry, just to clarify, when -- in terms of that capacity payment, it's not on an annualized rate. It's on an actual 12-month production. So sorry, just to be very clear on it. The way the process works is end of the year, we look back on the 12 months, the July 1 to June 30, the previous year, what was the actual production at the mine site. How does that compare against the previous year's high watermark. And then any difference is $1 million for every 1 million tonne difference and then that resets the high watermark. That's done sort of early July or during the month of July, and that payment comes through effectively along with the June quarter payment.

The current high watermark is 105 million tonnes. So yes, assuming they get to that sort of the run rate by the end of the year, depending on when that happens, it's all about the average over the year versus sort of the average run rate of the year. But getting to that sort of maximum capacity by the end of the year should bode well for the capacity payment, but it's difficult to calculate at this point in time, particularly with the first sort of 2 quarters being sort of just under 30 million tonnes per quarter.

That's what I meant by annual not annualized, my apologies.

No problem, this is what I think being very clear on that. Just in that regard, just to get -- to be very clear, the capacity plan is based off dry tonnes at BHP, [indiscernible] with wet tonnes.

Next up, we have the line from Lachlan Shaw from UBS.

It's George Ade from UBS actually. So my question follows on some of the previous. Is there a possibility your criteria for getting a new royalty stream is too restrictive, which is one of the reasons why we may not have seen another one come in mind. So in particular, I'm just looking at the stage category. Is there an opportunity to capitalize on your ability to focus long term and maybe look to fund earlier-stage development projects too?

Yes. So I mean we -- in terms of those criteria that we put out at the end of the day, those are guidelines are not part of limits. And I think that applies not only to the stage, but also the quantum. We certainly look outside -- we give a sweet spot of $100 million to $300 million. We have certainly looked at opportunities in excess of that, and we've certainly looked at opportunities below that as well. Likewise, with the development stage, I think that there are clearly some benefits from both a sort of a risk evaluation point that we spoke about a little while ago as well as the cash flow generation. But to your point, there's no question that as we go earlier in the development stage, there are some good quality opportunities out there, and we will look at them on a case-by-case basis. I think we have a little disclaimer on that chart where we say, we'll look at others on merit and good quality opportunities that fall outside of those criteria, we will certainly look at, yes.

Assets that sort of -- they have like MAC like characteristics will obviously sort of be able to think about it on a case-by-case basis. So we generally are looking for those. And if you look at the evolution of MAC as a royalty, it wasn't worth much when it was originally drawn up until 2004, it still wasn't worth much and then the -- so the value was created once it developed and expanded, and that's sort of very much where we look at those things, and we can take a longer-term horizon on quality assets.

[Operator Instructions]. No further questions at this time. I would like to hand the conference back to Julian Andrews for closing remarks.

Well, look, thank you, everybody, for joining us this morning. We appreciate your interest in the company, and I'm pleased to be able to report another strong half of performance. It's a very simple business, but we're always happy to talk about it and promote the story. So thank you very much for your time.

This concludes today's conference call. Thank you for participating. You may now disconnect.