GMP Research on Polaris Minerals

The economy hasn’t been easy on anyone in the construction industry, so this note from the research team at GMP Securities comes as good news for Wellington Financial Fund III portfolio co. Polaris Minerals (PLS:TSX):

We believe lease on new terminal could potentially lead to large savings

Polaris announced that they have secured an option to lease an existing marine aggregate importing terminal in the Port of Long Beach, California. The 8.3 acre site is privately owned and has operated for many years receiving construction aggregates from barges and storing in open stockpiles using mobile equipment. The site, which is already permitted to receive and distribute up to 3 million tons of construction aggregates per year, is located on a deepwater channel and is close to Interstate 710, which services the greater Los Angeles area. The main key here is that the terminal is already permitted. This should allow Polaris to save time, effort and capital that would have been needed to fully permit Pier B.

This lease (if Polaris does indeed execute on it) would eliminate the need for recently acquired Pier B, at which point we believe Pier B would likely be sold. Recall that Polaris, along JV partner with Cemex, purchased a 12.4 acre site at Pier B in the Port of Long Beach for the purpose of receiving and distributing marine transported sand and gravel and is currently engaged in the detailed permitting process. The cost for this site was approximately $20mm. Polaris was responsible for $15mm of that cost. What’s more is that Polaris would have had to spend an additional $30-40mm ($20mm each partner) for the construction of the Pier. Lastly, the Pier B terminal was not permitted. Permitting for Pier B was expected to take approximately 2 years. Therefore should Polaris execute on their option to lease this new terminal, we believe that it will result in the following:

? Savings of $20-$30mm to Polaris in capex that would have had to be spent on Pier B. Total capex for the new terminal is only $10mm in total, with Polaris responsible for $5mm. Net net, Polaris would save at least $15mm.

? Savings of capital and efforts in order to permit the Pier B site. The new terminal is already permitted for 3mm tons of aggregates per year, and permitted for stockpiling 100,000 tons of aggregates. Each boat load holds 80,000 tons.

? Sale of the Pier B land once lease is finalized is expected to return the bulk of the capital paid for it. We do anticipate that there could be a small loss on the sale of Pier B.

? Potential start-up of the terminal could be in 2011, early that Pier B. We estimate that it would have taken a minimum of 2 years just to complete the permitting.

? Lastly, we believe that the lease will cost about $1-$1.5mm per year to Polaris, although the length or details of the lease have yet tot be finalized.

In conclusion, we believe this would be an attractive alternative to Pier B. It should be noted that this alternative was not available at the time of the Pier B acquisition. We believe that these cost and time savings will allow to Polaris to take advantage of the eventually recovery in infrastructure spending in California as they continue to execute on their strategy to develop terminal capacity in the Los Angeles aggregate market.

Quick Recap on Polaris

? Volumes: Shipments in H1/09 were 693,000 tons. Our forecast of 1.9mm tons is attainable. At 2mm tons of shipments, Polaris is cash neutral; so any increase in volumes will help margins as unit costs fall. Over time as the Orca pit ramps up to almost 9mm tons at full
capacity, the margin increase should be significant.

? California market: Growth in California is slow at the moment, but infrastructure projects are now being bid on. The key is not whether Cemex/Polaris wins the new contracts, but that demand picks up, as this should help the aggregate demand as a whole.

? Aggregate pricing: The aggregate pricing remained stable for Polaris in the Bay area and has been that way over the last two years. This can be attributed to the high quality of the product, the lower leverage to residential and non-residential construction in the Bay area.

With infrastructure spending picking up, Polaris should benefit.

? Eagle Rock: A feasibility study on Eagle Rock is still expected by year end. Initially, the project was viewed as a $120mm project. Polaris is now looking at the possibility of a modular approach with initial capex of only $25mm for a loading facility using contact mining. The feasibility study on Eagle Rock is underway. Eagle Rock is a large high-quality granite resource that is fully permitted for mining. The project has a 100+ year mine life and is located on deep water shipping lanes. This low-cost high quality resource is Phase II of the Polaris business plan, and should allow Polaris to provide a full suite of aggregate products. We had removed any value for Eagle Rock in our NAV, but would adjust for this as the project changes. Polaris continues to see interest for this material, which would be primarily used in the asphalt market. It is likely what Eagle Rock would be developed with a partner.

VALUATION – NO CHANGES AT THIS TIME

Until the lease of the new terminal and/or the sale of Pier B are finalized, we will not be adjusting our valuation. We do not have any value in our NAV for Pier B.

RECOMMENDATION – REITERATING BUY RECOMMENDATION AND TARGET OF C$3.25/SHARE

We continue to believe that Polaris has a strong strategic position in an industry with significant barriers to entry. We believe Polaris has the ability to grow and potential to develop their operations into the biggest aggregate quarry in Canada. The main near term catalyst for Polaris remains the amount of infrastructure spending in California and its impact on shipment volumes from the Orca quarry. We believe Polaris a very good long term infrastructure play. With its
clean balance sheet, and low capex (less than $1mm per year) we believe that the stock is cheap at current levels. The stock is currently trading close to its replacement value which we estimate
is approximately $140mm.

We are reiterating our BUY recommendation and our target of C$3.25/share (unchanged) based on a 0.9x multiple to our NAV of C$3.46/share (unchanged). The average multiple for our coverage universe is 1.0x.

MRM
(Fund III owns warrants in PLS)