BHP primed for growth as perfect storm passes
While the glory days of 2010 and 2011 are not coming back, there are signs that BHP is re-emerging as a growth story.
The year-long pit stop that included a moratorium on big new projects, a change of chief executive and the re-setting of strategy is over and the mining company is now returning to the track with a fresh set of tyres and its eye on profit growth for the first time in several years.
BHP is widely expected to record an underlying profit - that is the profit from normal operations, excluding things such as impairments - of just over $US12 billion for the year to June 30.
For those looking through the rear-vision mirror, that is about 30 per cent lower than last year and a massive 44 per cent lower than the record-breaking results announced in August 2011.
But, after a humbling couple of years, most t investment banks believe BHP is set to snap its losing streak and increase profits in this financial year.
The likes of UBS, JP Morgan, Macquarie, Citi, Morgan Stanley, Goldman Sachs and Commonwealth Bank are all tipping an underlying profit of between $US12.8 billion and $US15.3 billion this time next year.
It is not expected to be dead cat bounce either, with most of those analysts predicting BHP's profits will rise higher again in the following year.
The improved outlook is coming from low-cost productivity gains, asset sales and easing currencies and, while it is small, it is momentum nonetheless.
Pengana capital fund manager Tim Schroeders said the recent perfect storm of sliding commodity prices, soaring costs and high currencies appeared to be stabilising or receding, giving BHP reason for cautious optimism.
"The downgrade cycle appears to have stopped here - the missing part of the puzzle will come with the August financial results in terms of how they're going on their costs," he said. "There is still work to do. You can talk about asset sales but you've still got to execute in a really tough environment.
"But if they can show the cost-out story is gathering momentum, it's probably at a point where people have to reconsider the stock despite ongoing concerns about China."
Profits aren't the only area where BHP seems to have turned a corner.
The self-imposed ban on approving big capital projects expired on June 30 and the company is expected to make an announcement about the Jansen potash project in August.
Jansen, in western Canada, would be the world's biggest potash mine if BHP chooses to develop it to its full potential.
Through conversion to fertiliser, potash is an investment in the world's future demand for food, which is tipped to grow exponentially as developing nations adopt the dietary habits of the developed world.
Investors see potash as a way of tapping into the looming second phase of Chinese urbanisation, whereas iron ore and coal are seen as belonging to the fading first phase.
BHP's petroleum division should also have a more profitable year in this financial year than last.
The company spent $US800 million more on its US shale business than the market expected during the year to June 30, meaning next year's harvest could be bigger than previously thought.
That could be enough to make the petroleum division a contributor to BHP's profits, rather than a drain - the division was expected to spend roughly as much as its makes during this financial year but the extra drilling completed before June 30 might tip that balance over to profit.
The hardest yards seem to be complete in the coking coal division too, where production will ramp up next year.
Not everyone believes BHP will increase profits next year; Credit Suisse was the contrarian among the major banks, forecasting a third successive fall in profits to $US11.9 billion after weakening commodity prices.
Mr Schroeders stressed that any improvement in BHP's outlook was fragile and could be forfeited if the Australian dollar returned to levels above parity with the US dollar.
"They are not going to get a lot of help from commodity prices, so the ability to get costs out and volatility in currencies will probably tell the story," he said.
But the consensus is mostly positive for Australia's biggest company, as outlined this week by the nation's second biggest company.
"We expect the major miners to begin outperforming the Australian market as the improving free cash flow is returned to shareholders through rising dividends and capital returns," the Commonwealth Bank said in a research note.
"BHP's balance sheet is stronger than its peers and it is likely to be in a position to return capital earlier."
Frequently Asked Questions about this Article…
For the year to June 30 BHP is widely expected to report an underlying profit of just over US$12 billion. Many major investment banks (UBS, JP Morgan, Macquarie, Citi, Morgan Stanley, Goldman Sachs and Commonwealth Bank) are forecasting underlying profits of roughly US$12.8–15.3 billion for the following financial year, although Credit Suisse is the notable contrarian with a US$11.9 billion forecast.
Analysts point to low‑cost productivity gains, planned asset sales and easing currency pressures as reasons for cautious optimism. The company has completed a year‑long pause on big projects, changed its CEO and reset strategy — factors that, if executed well, could deliver momentum to profit growth.
Jansen is a potash project in western Canada that BHP may announce plans for in August now the moratorium on big projects has ended. If developed to full potential it could be the world’s biggest potash mine; potash is a fertilizer input tied to long‑term food demand and offers exposure to the next phase of global urbanisation and agricultural demand.
Possibly. BHP spent about US$800 million more on its US shale business than the market expected in the year to June 30, which means the extra drilling could increase next year’s harvest and potentially turn the petroleum division from a drag into a contributor to group profits.
The article says the hardest yards appear to be over for the coking coal division, with production expected to ramp up next year — a development that should help divisional performance and support overall company results.
The recovery is described as fragile: weaker commodity prices, a return of the Australian dollar to parity or above the US dollar, and failure to deliver on cost cuts or execute asset sales could all undermine the improving outlook. Currency volatility and cost pressures will likely determine how durable any recovery is.
Consensus commentary in the article suggests major miners, including BHP, could begin to outperform as improving free cash flow is returned to shareholders through rising dividends and capital returns. Commonwealth Bank noted BHP’s stronger balance sheet versus peers and said it’s likely to be in a position to return capital earlier.
Everyday investors should note there is a mostly positive consensus but not unanimity: many banks expect profit recovery while at least one (Credit Suisse) forecasts further decline. The article highlights key milestones to watch — August financial results, evidence of cost reductions, execution of asset sales and currency moves — as the indicators that will determine whether the recovery is sustainable.
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