Jan 2015 Investment | BHP Billiton (BBL)

Jan 2015 Investment - BHP Billiton (BBL)
Jan 2015 Investment - BHP Billiton (BBL)
Jan 2015 Investment – BHP Billiton (BBL)

I have to tell you something! This blogging experience is a blast… Long Term investing has just hit its first 1,000 pages views, with readers now from India, Australia, South Korea and Israel… and my recent article on Starbucks got picked by Seeking Alpha, and received more than 6,000 visitors in 3 days. Woo-hoo! Thanks for your readership and support!
Enough bragging about my baby blog…Let’s talk about my latest investment. The first week of the month is generally the time I have some cash to invest in the market. And choosing the company I will invest in is 
 always for me a source of excitement.
Although the nature of that excitement has changed over time. When I came back to investing after a 5-year hiatus in January 2012, the valuations in the market were still relatively modest and the temptations plentiful. The thrill, back then, was to pick the right company in a long “shortlist”. Nowadays, with a S&P 500 priced at 20x current earnings, it is not always easy to find good values and the shortlist is getting shorter and shorter.
To use the famous Warren Buffet quote: “Be fearful when others are greedy and greedy when other are fearful”.  The key question that I ask myself is: Where is the epicenter of fear nowadays?
Obviously, Oil has made the headlines with the Brent crude oil barrel price roughly halved between June and December 2014. My last investment in December was on Exxon Mobil. But for January, I did not want to double down on Oil as I would like to see how the Saudi Arabia story unfolds and build a better understanding of the impacts of a $60 barrel on shale oil players notably in North America.
To start 2015, my attention was grabbed by another distressed sector – Miners – with a company I have been a shareholder of for the last 18 months: BHP Billiton. (Ticker: BBL).


Who is BHP Billiton?

For those who are not familiar with the sector, BHP Billiton is the world’s largest mining company with $67B of annual revenue. 
The company was the result of a merger in 2001 between the Australian BHP ltd. and the Anglo-Dutch Billiton plc. Both merged companies had a long and venerable history with BHP incorporated in New South Wales in 1885 and Billiton founded in the Hague in 1860. BBL has the historical wisdom of centenarians, companies that navigated successfully through ups and downs, wars and crisis, bubbles and bursts and who have the long term perspective ingrained in their cultural DNA. 
Among its peers (Rio Tinto: RIO | Vale: VALE), BHP Billiton is uniquely diversified across a wide range of metals/commodities with a production of Iron Ore, Copper, Coal, Oil & Gas, Potash, Aluminum, Silver, Nickel, Manganese and Uranium. 
Another specificity of BHP Billiton is that as a result of its history, BHP Billiton is dual listed in Australia and the UK. The Australian shares are accessible in the US through an ADR (BHP) but are subject to a dividend tax withholding. The British shares also available through an ADR (Ticker: BBL) are not subject to UK taxes due to a convention between the US and the UK. They are also significantly cheaper vs. their Aussie cousins (-11%) despite being strictly equivalent in terms of capital ownership.    
Why investing now?
The stock was slaughtered since July 24th, losing almost 40% to what was then its 52 week high. The reason? BHP Billiton is truly in the middle of the proverbial “perfect storm”. 

Iron Ore, who generated 46% of the group’s EBIT in 2014, saw its global market price collapse from $130 per ton in January to $73 in December. And according to Citigroup, there will be no improvement in 2015 with prices that could plummet under the $60 per Ton as a result of a surging supply from Western Australia and Latin America and a muted demand, notably in China. 
The tanking oil barrel price does not make things better for a BHP Billiton that invested heavily in its Oil production capacity, notably in the US Shale, with recent investments around $4B per year. 
Copper does not show better signs as its prices are very correlated with the Chinese GDP and manufacturing growth. 2014 was the worst year for copper prices in the last three years and the decline accelerated in the second half of the year.
So why now? I think that all these bad news are very well documented and certainly priced into the stock. In fact, the free fall of BBL shares is an over-reaction to these bad news and only makes sense to short term investors, who need to cash the stock sometimes this year. For patient investors like me, the current BBL price offers a great opportunity to build a long term position in this mighty miner. 

Reasons to believe in BHP Billiton:
1. The financials are solid: 

Last year, BBL generated an operating margin of 31% (3 pts above Rio Tinto) and a profit margin of 20.6% (vs. 12.4% for RIO). With a 2014 that was very challenging for Miners, achieving a 20%+ profit margin says something about the quality of BHP’s assets and management. 

The Return of Assets stood at 9% (1.3 percentage point above Rio Tinto) which in a low point of the commodities cycle is nothing to be ashamed of. 

BHP Billiton continues to generate a lot of cash ($25B of operating cash flow in the last 4 quarters) and its balance sheet is very impressive for an industry that requires massive capital investments. Long Term represents less than 25% of BBL’s capitalization (vs. 38% for RIO).

BBL’s sterling balance sheet and A+ Standard & Poor’s credit rating mean that BHP Billiton can fund its projects with a lower cost of capital vs. its peers, which is probably one of the most important strategic weapons in this industry. It also means that the company can weather rough markets with limited financial risks.   

2. The valuation is attractive:

BBL is now valued at 8.2 times its current earnings. This is to be compared to an average PE of 14x over the last five years.  Its price to book ratio is also modest: 1.45x vs. 1.67 for Rio Tinto. 

3. The management is doing the right things:

Andrew Mackenzie who took the helms of the company in May 2013 has been very focused on slashing costs, increasing productivity and reducing the capital expenditures. The company has recently communicated an objective of $4B of annualized productivity gains by 2017, which should come straight to the bottom line. Many CAPEX were downsized or postponed to better market conditions. 

What makes me feel good about BHP is that their operating costs are best in-class. Their massive Western Australia Iron Ore mines are targeting a landed cost of $20 per ton. That still leaves a very decent margin even with a market price of $60 per Ton. It also means that BHP and Rio (whose cost per Ton is ~ $25) can wait and see their higher cost competitors get slammed and ejected out of the market. This cycle should lead to a more balanced supply demand situation in 2017, with consolidated market share for the Australian giants and Vale, their Brazilian competitor. 

What is also striking about BBL’s management is their constant shareholder focus. This is important when you invest for the long run. 

4. The de-merger of South32 could unlock more value:

In 2014, BHP Billiton announced a simplification of its portfolio with a focus on Iron Ore, Oil and Gas, Copper and Potash. Most other mines will be spun-off in a new company, dubbed South32. 

Current shareholders of BBL will receive on top of their existing shares, new shares of South32. This type of operations tends to create value for customers, at least based on the most recent spin-offs that I have seen.

5. The dividend is just phenomenal:

BHP Billiton was the only major miner that did not slash its dividend during the 2008-09 recession. Its dividend has been rising for 11 years and with the recent stock slump, the yield stands now at 5.7%. This is by far my highest yielding holding. 

What is very reassuring is that 4 weeks ago, the management reiterated its intention to maintain its dividend, even with the Spin-Off. This dividend is a great reward for those who want to wait for the commodities cycle to reverse.

In conclusion, BHP Billiton is a great company with high quality assets and a conservative management. I am glad to be able to add to my existing position and gain exposure to the global commodities market, who as I indicated in a previous post is promised to a bright future.

Author: G3a74g5ILZ

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