Andrew Mackenzie’s first formal presentation to investors as the new chief executive of BHP Billiton would have been music to their ears.
While his comments to the Bank of America Merrill Lynch conference in Barcelona were in tune with the theme of greater focus and discipline Mackenzie has been talking about since his elevation was announced, he’s now talking about a "more extreme focus" on performance, productivity, simplification and free cash flow.
The pipeline of major new BHP Billiton project approvals has slowed dramatically to a virtual halt this financial year, and capital expenditure, having peaked at $US22.7 billion last year and running at similar levels this year, is expected to drop back to $US18 billion in 2013/14. Mackenzie says the rate of investment spending will decline even more substantially beyond the 2013/14 year.
"By reducing our annual spend and increasing internal competition for capital we expect to maximise returns from incremental investment while delivering a substantial increase in the group's free cash flow," he said. Sustainable growth in total shareholder returns remained, he said, BHP Billiton’s primary objective within the framework of a "solid" A credit rating.
Even as the pipeline of new projects and spending is tailing off, those already under development will start to contribute, with Mackenzie saying that about 80 per cent of BHP’s major projects would deliver first production before the end of 2014.
He was surprisingly upbeat about the environment in which BHP Billiton expects to operate, saying that the global economy continued to strengthen despite imbalances and underlying volatility and that global growth would underpin demand for commodities. China was "well-placed" to maintain its growth trajectory and the US was gaining momentum.
There have been two levels of concern about the outlook for commodity producers. One is the overall health of the global economy, with Europe very weak, the US providing some signs of weak recovery and China’s growth rate slowing. The other is that the massive build-up of production capacity before commodity prices cracked is yet to come fully into the market.
Mackenzie said the risk of persistent over-supply for BHP Billiton’s major products had been overstated, particularly as industry-wide project approval rates had slowed.
BHP Billiton is, of course, more diverse than its peers among the big resource houses, primarily because of its big petroleum and gas interests.
Nevertheless the big surge in iron ore production as Rio Tinto, Vale, BHP Billiton and Fortescue Metals continue to ramp up their output does threaten, in the face of a lower growth trajectory within China, over-supply. The aluminium and nickel industries are structurally challenged and the Australian coal sector, particularly thermal coal, is being destabilised by the escalation in costs.
If Mackenzie is right and the extent of any over-supply isn’t a major issue, a BHP Billiton which was more discriminating in its spending, obsessively focused on costs and selling off peripheral assets would throw off massive streams of free cash. If he’s wrong, pulling back on investment, cutting costs and streamlining the portfolio would be a sensible strategy anyway, protecting cash flows and profitability.
In the rather more upbeat scenario that Mackenzie posits, there would be the cash to satisfy income and returns-hungry shareholders and their demands for greater cash returns in the short term. If some of the more pessimistic forecasts are borne out, BHP Billiton should still be able to maintain its progressive dividend policy, which has seen its dividend grow at a compound annual rate of 24 per cent over nearly a decade.