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LONG OPPORTUNITY: JOY (NYSE)

JOY GLOBAL’S DEBT & EQUITY: MARKET MISPRICING OF BANKRUPTCY & CLIMATE CHANGE RISKS


Disclaimer The opinions expressed in this presentation by Lateral Capital Management, Inc. (“LMCI�) are not an investment recommendation and are not meant to be relied upon in reaching an investment decision. LCMI and its employees, consultants and contractors are not acting in an investment, tax, legal or any other advisory capacity. The opinions expressed herein address a limited number of aspects regarding a potential investment in securities of the companies mentioned and are not a substitute for a comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations as to its accuracy. LCMI recommends that potential and existing investors conduct a thorough investment analysis of their own, including a detailed review of the companies' SEC filings, and consulting a qualified investment advisor. This material is based on information obtained from sources believed to be reliable, but the reliability of that source information. Any opinions or estimates constitute a best judgment as of the date of this presentation and are subject to change without notice. LCMI explicitly disclaims any liability that may arise from the use of this material. 1


Executive Summary 

By early 2016, the Joy Global (NYSE:JOY) stock price had declined around 90% from its 2012 highs  

At the time, its bonds traded as if the stockholder equity was worthless And that most bondholders would need to take a drastic haircut

We estimate that JOY’s cash flow from operations (“CFFO”) would need to decline at a 20% CAGR from 2016 to 2021 for its 2019 and 2021 maturities to not be repaid in full

Importantly, JOY’s net working capital asset was greater than its entire third party debt obligations

JOY had also not implemented several strategic and operational alternatives which are commonly used to address liquidity concerns 

In other words, it had plenty of “dry powder” to manage any credit concerns

Many investors are understandably concerned that the commodity downturn is not a cyclical bear market but a structural change in the global coal industry 

However, the COP21 Paris Agreement is not as punitive on coal production as some forecasters are currently assuming

JOY should also benefit from any commercial and/or technological breakthroughs in Carbon Capture & Storage (“CCS”)

JOY should also be a major beneficiary of the global fossil-fuel “divestment” campaign 

The divestment movement has, to date, focused on commodity miners and not their suppliers

JOY stockholders should experience quite material stock price appreciation as the JOY bonds return to a more accurate reflection of its liquidity prospects

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Plummeting Coal Prices Have Forced Several Coal Miners Into Bankruptcy Despite the precipitous drop in coal prices, global coal inventories continue to climb Figure 1

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JOY’s Stock Price Has Underperformed Its Capital Goods Peers While supplying capital equipment to miners in the copper, crude oil, gold and iron ore sectors, JOY’s principal sales segment is coal miners

Figure 2

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JOY’s Senior Unsecured Bonds Trade As If Its Equity Is Worthless While Moody’s lowered the JOY bond rating from investment grade to high yield (i.e. fallen angel), a rating one-notch below investment grade doesn’t seem to explain all of the 37 point drop in bond prices

Figure 3

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JOY Has A (Surprisingly) “Empty Runway” of Debt Maturities Until 2019 In late 2015, JOY repurchased its 2016 maturities. The face value of the 2019 senior unsecured bonds is only slightly more than JOY’s current CFFO annual run-rate

Figure 4

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JOY Liquidity Projection: Assuming 20% CFFO Reduction CAGR We also assume no reduction in annual capex despite the assumption of drastic CFFO reductions. Despite the increase in JOY’s leverage ratios, there appears to be more than adequate liquidity to meet both of its 2019 and 2021 debt maturities

Figure 5

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Projected 2021 JOY Liquidity: “Scorched Earth” Scenarios In most of these projections there are no cash taxes payable after utilizing NOLs. During the coal price declines of 2014 and 2015 JOY actually reduced its capex spend by 30% to 40% each year

Figure 6

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Forex Exposure Risks? While a stronger US dollar will adversely impact JOY’s US dollar reported earnings (as it did in fiscal 2015), historically there is a robust inverse relationship between commodity prices and the US dollar

Figure 7

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Despite the Depressed Commodity Price Environment, JOY Improved Its CFFO While Rocky Mountain coal prices approx. 5% in the last 3 quarters of fiscal 2015, most US coal basins experienced 20% to 30% price declines. Similarly, iron ore prices slid 40% and copper was down 30%

Figure 8

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JOY Management Appears Conservative Regarding Its Future Prospects Their projection for global mining industry capex sees material declines until 2018 at the earliest; and only modest increases after that date

Figure 9

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Projected Chinese Coal-Fired Generation in a “2-Degree World� EIA sees continued investment in newer, more efficient coal-fired generation until 2030 and beyond Figure 10

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Similarly, EIA Expects India’s Coal-Fired Generation To Rise For Decades Figure 11

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Outside of China & India, COP21 Should Result in Global Coal Reductions The reduction in thermal coal consumption will require JOY to refocus its efforts away from core markets of Australia, Latin America and North America. In 2015 65% of JOY revenues were ex-US

Figure 12

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JOY Global Revenues By Commodity Type Thermal coal is JOY’s largest single revenue source by commodity type, however, it only constitutes around 40% of JOY’s consolidated revenues. Revenue growth can still be generated from met coal, copper and other less “environmentally sensitive” commodities

Figure 13

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IEA Carbon Capture & Storage Projections By Sector and Region COP21 has increased the incentives for governments and industry to ensure that CC&S becomes commercially viable. JOY’s stock price has embedded within it a free option on the future success of CC&S

Figure 14

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Recap 

A conservative analysis suggests that JOY’s bond holders only risk non-payment of their principal if CFFO declines by more than 20% p.a. each and every year until 2022 

This further assumes no reduction in current levels of capex

Management also possesses a number of corporate finance levers it can pull, if needed, to enhance its current liquidity profile

The bond market is signaling – incorrectly in our view - that the JOY equity is currently worthless. This creates a unique, very lucrative risk-reward proposition for equity holders

As the bond market reprices the JOY bonds to more accurately reflect any future liquidity concerns, we anticipate a substantial stock price rally for JOY shareholders

The risks from COP21 / the Paris Agreement for the global mining sector might be over-stated, especially as it relates to China & India’s coal-fired electric generation investment

The successful deployment of commercially viable CC&S was given a major boost by COP21 and could provide additional upside potential for JOY shareholders

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