Once perceived as highly leveraged and facing financial challenges, due to the worst commodities price slump in years, big diversified mining companies have now recovered to offer best in class balance sheets and offer some attractive valuations for bond investors, but they are often overlooked.
Continuing strength in the commodity markets coupled with aggressive cost cuttings over the last two years has allowed miners to pay down debt and afford large dividends. On February 7th Rio Tinto payed its largest dividend in its history, a few days later, on February 20th BHP Billiton reported its best half-year profit and highest dividend since 2014, Anglo American, which was close to financial meltdown back in 2015, announced they were also paying their highest dividend in a decade with a continued focus on deleveraging. Vale, the last of the big mining companies to report on February 27th, released its best earnings since 2013 and a cut of nearly USD 7bln in their debt load. Those results demonstrate the solid financial shape of their business, and a clear sign that this industry is performing well and generating lots of revenues.
In addition, S&P upgraded Rio Tinto on 12th of February to A from A- considering “supportive commodity prices and the company’s focus on costs and productivity, resulting in operational performance likely to remain robust”. The rating agency also revised its outlook on Anglo American on February 28th to positive from stable.
The key growth driver for resources companies remains the Chinese base metals and steel demand in the construction, infrastructure, automotive, and “white goods” (heavy consumer durables) sectors, the International Monetary Fund forecast for the 2018 that Chinese real GDP change will be 6.6%, when the world GDP growth average is below 3%. In its Commodity Outlook, the World Bank note that China’s share of world metal consumption surpassed 50 percent for the first time since 2015. The country has accounted for the bulk of global growth in metals consumption over the past 15 years.
Global consensus is that we should see a depreciation of the US dollar in 2018, which is usually supportive for global commodities prices. As history shows, USD and commodities demonstrate a negative correlation, meaning that when the dollar index drops, commodities prices move up, and inversely. The main reason is that generally commodities are benchmarked and priced in dollar terms, and therefore a weaker USD makes them cheaper, stimulating demand.
Contribution of each commodity to underlying EBITDA
As shown above, BHP, Rio, Anglo, and Vale all have a very different product and geographical mix. BHP generates most of its revenues from iron ore mines, with a large part of its assets in Australia, much like Rio Tinto, which is even more concentrated on iron ore. Vale, the world’s largest producer of iron ore, has most of its assets concentrated in Brazil. More than 50% of Anglo American underlying EBITDA, comes from diamonds and coal, with most of their mines in South Africa. With the exception of Vale, for which the deleveraging process is less obvious but where management assured it is remaining a top priority, miners have made significant efforts over the last 3 years to reduce the levels of debt, resulting in stronger credit profiles. Our proprietary credit metrics model indicates excellent debt sustainability ratios and a strong credit profile for all of them when compared to the same sector and median ratings.
With a market cap of USD 124bln, an enterprise value of USD 148bln and revenues totaling USD 38.2bln in 2017, BHP Billiton is the world’s largest resource company. It is followed by Rio Tinto which has got a USD 104bln market cap, enterprise value of USD 114bln and revenues of USD 40bln in 2017. At USD 73bln, generating revenues of USD 34bln, Vale comes fourth in terms of company size, just behind Glencore. Anglo American has a market cap of USD 30bln, enterprise value of USD 42bln and revenues totaling USD 23bln.
Those four issuers all have many liquid issues outstanding available, on a various range of maturities, all bearing investment grade ratings. Vale has, however, a split rating, its debt being rated Ba1 by Moody’s.
On the risk side, the general level of commodity prices, as well as the global demand, are obvious risks. The fact they operate across the globe, in different jurisdictions, is another source of risk. For instance, Anglo American owns a vast majority of its assets and employs most of its workforce in South Africa where the political and regulatory environment is unstable. Another ongoing theme across the mining industry is the return of cost inflation.
Investors seeking high beta resources and global growth exposure through their fixed income should consider big diversified mining companies for their portfolios. Companies’ fundamentals are solid, and when carefully selected some issues still offer value.
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