Noble - Pipeline to drive volumes, margins

Despite limited near-term demand visibility and, on Noble’s observation, no evidence of a significant recovery in physical markets, the company remains confident that key investments in infrastructure and processing capabilities in its agricultural and energy divisions (including the recent acquisition of Gloucester Coal) will support a doubling of volumes carried over the coming four-year horizon, while we believe internalised profit nodes and improved optionality should be a boon to margins.

Investors appear to broadly concur with our positive stance on Noble’s A$7/share all cash bid for Gloucester Coal announced 15 May, acceptance of which we believe currently stands at c.62%. Beyond the immediate 2mn MT pa in thermal and metallurgical coal production capabilities, we believe Noble stands to realise significant synergies through access to increased port capacity — Noble has a c.10% equity interest in the BHP-led Newcastle Coal Infrastructure Group coal terminal which, on completion in 1Q10, will add 30mn MT in coal loading capacity with expansion potential up to 66mn MT — and linkages with existing business lines and customers.

On 1 June, Noble announced that it has renewed, extended and secured a US$100mn increase to its existing US$700mn revolving credit facility at a 160bps spread over LIBOR (all in), further adding credit capacity to Noble’s available committed and uncommitted bank and trade facilities of US$4.2bn as at end-1Q09. Combined with the group’s US$1.2bn in cash as at 1Q09 (of which we expect US$340mn to flow to Gloucester’s shareholders), Noble’s proactive capital management places it well to respond to market opportunities and weather threats, while the group’s fiscal conservatism should continue to garner ‘flight-to-quality’ in an environment of heightened counterparty awareness.

Despite a strong run in recent weeks, we continue to see long-term value in Noble’s business and, in light of resilient volumes and optimistic growth guidance, we will be reviewing our (in our view highly cautious) medium-term tonnage assumptions. BUY rating maintained.

Valuation methodology: We value Noble using the residual income (RI) approach, a measure of a firm’s earnings after taking into account a charge measuring stockholder’s opportunity cost of capital. As such, RI provides a measure of the excess returns a firm is able to generate on existing and future projects. The RI valuation model breaks the intrinsic value of a stock into two elements: 1) the current book value of equity, and; 2) the present value of expected future residual income.

Risks to price target: Noble as a supply chain manager operates in multiple geographies and in multiple commodities. While Noble’s 1Q09 results have demonstrated the resilience of the integrated supply chain business model, profitability and hence, our price target are dependent upon our assumptions pertaining to demand for commodities, as well as market share gains to maintain volumes and margins — in addition to continued management of counter party and commodity price risk.

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