BHP: Interim result 2018
Recommendation
High expectations have felled the share price but there's no doubt that BHP's interim result was outstanding. Earnings before interest, tax, depreciation and amortisation (EBITDA) of US$11.2bn and free cash flow of nearly US$5bn can't be described as anything less.
The numbers may have disappointed some but that can only be because prior periods have been so strong. We must also consider that, for a business this vast and with $150bn of assets on balance sheet, things get complicated from time to time.
Key Points
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Strong result with some quirks
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Shale business for sale
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Still not overly dear
That was the case in this result, which was characterised by one-offs, asset repairs and accidents.
Surprises
Unit costs rose across the group, with the Petroleum division hit hardest as volumes fell and currencies swayed unfavourably.
The prized iron ore division surprised by reporting unit costs just under US$15 a tonne, a bit high considering Fortescue and Rio are getting below $US12 a tonne. A recent fire at a processing facility appears to have lowered volumes so we will look for lower costs in the next reporting period.
Six months to Dec (US$m) |
2018 | 2017 | /(–) (%) |
||
---|---|---|---|---|---|
U'lying EBITDA | 11,238 |
|
14 | ||
U'lying EBIT | 6,902 | 5,982 | 15 | ||
U'lying NPAT | 4,053 | 3,244 | 25 | ||
U'lying EPS (USc) | 76.1 | 61.0 | 25 | ||
DPS (USc) | 55 | 40 | 38 | ||
Capex | 2,877 | 2,727 | 6 | ||
Net debt | 15,411 | 20,000 | 23 |
There were other operating difficulties: weather and stability issues in the coal business, shutdowns in the copper business and bad weather impacting offshore petroleum.
This should not concern investors. Higher costs and lower volumes reported in this result – which wiped US$1bn from EBITDA – should recover over the next 12 months. In any case, commodity price gains more than made up for those foibles, lifting EBITDA by US$2.2bn over the period.
Productivity gains continue to impress, with BHP outlining a further US$2bn in savings over the next two years, largely from new processing capacity at Escondida lifting output.
Most of BHP's portfolio is generating splendid returns on capital with two glaring exceptions: Olympic Dam and US shale.
Problem child
Olympic Dam is a remarkable mine, at once hosting 25% of the world's uranium and its fourth-largest copper deposit, as well as producing significant quantities of silver and gold. After the stunning Norlisk nickel mine in Russia, it is perhaps the world's most valuable orebody. Yet, for years, BHP has generated lousy returns from it.
That is mostly due to inertia and complexity. Olympic Dam needs, and can easily handle, more volumes to lower cost and the company has spent a decade trying to decide how to best develop it.
Six months to Dec (US$m) |
2018 | 2017 | /(–) (%) |
---|---|---|---|
Iron ore | 3,430 | 3,230 | 6 |
Petroleum | 188 | 360 | (48) |
Coal | 1,436 | 1,628 | (12) |
Copper | 2,052 | 914 | 124 |
With multiple metals and various processing techniques employed, the mine has also suffered from unreliability and constant maintenance work (it was again offline for a large chunk of this reporting period).
More attention is now being devoted to the asset and, with marvellous geology, it's hard to imagine that the technical nous of BHP can't make this a profitable venture over time.
The other problem in the portfolio – shale – is also close to a solution. BHP has confirmed it will exit shale altogether with a trade sale most likely. Shale assets are likely to attract a US$10bn price, far less than BHP itself paid but better than the constant stream of losses and cash being absorbed by the assets today.
Fixing these two laggards is important because aggregate profitability within BHP, although impressive, probably understates what it is capable of. A sale of the shale business and solution to Olympic Dam will go a long way towards realising that potential and raising returns.
Debt and dividends
BHP made much of its higher than expected dividend. The company will make an interim payment to shareholders of US$0.55 per share, 38% higher than last year – but it's really just cash that comes from deferring debt repayments.
Debt fell by just US$900m compared to US$3.7bn in the previous half. As BHP has franking credits to distribute we think that's a fair trade-off but nothing to crow about.
All up, this was a strong result from a business that is clearly improving. BHP has always been a strong operating business but it is now allocating capital with more discipline and targeting cash returns. We're not sure the market has fully appreciated the new BHP.
Despite the epic run-up in its share price, BHP still appears cheap if we assume spot commodity prices, especially when you consider the latent profit potential from copper, the sale of shale and further efficiency gains.
We are wary, however, of being seduced by excellent results at a time of robust commodity prices. We are sticking with our $23 Buy price and, though our admiration grows, our recommendation remains HOLD.
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