Don't Let People Scare You Away From Vale

Jaiyant is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

There has been a lot of bad press about Vale (NYSE: VALE) in the last couple of weeks. When Vale's revenues fell to a four-year low, it got a lot of people talking about why Vale is a 'sell' and not a 'hold.' Of course, journalists and analysts have been kind enough to acknowledge that Vale's difficulties did not arise from something wrong with the company, but rather were the result of external conditions.

What’s up with Vale?

Vale's biggest buyer is China, but Vale is based in Brazil, one of the most bureaucratic countries in the world, in spite of becoming one of the major economies of the world. However, things are not as bad as they seem. In this article, I shall explain why Vale is not a bad stock and is, in fact, a good long-term option. Vale is the second-largest mining company in the world; it produces iron ore, nickel, copper, potash, aluminum and several other materials. Of these, its biggest business is iron ore, the largest buyer for which is China, which, unfortunately, is reeling from economic difficulties. Vale is particularly hit by Chinese misfortunes because the Asian giant is its largest market. As China is moving towards becoming a consumer rather than an investor, many mining companies have felt the pinch.

China reassures mining companies

However, in a recent conversation with BHP Billiton's CEO Andrew Mackenzie, the Chinese Premier Li Keqiang stated that his country will not stop or reduce purchasing resources. He highlighted the importance of agriculture, industry and construction sectors in China, all of which will continuously require materials for several years. Though Keqiang assured BHP's Mackenzie, the very same reassurances hold good for Vale as well. Just 2 days ago, I had written that Chinese reassurances rejuvenated not only BHP Billiton but also Vale and Rio Tinto, all of which sell their resources to China.

Vale has not turned into an ugly duckling

Paul Kiernan with The Wall Street Journal writes that Vale is turning into a "particularly ugly duckling." Reuters reported that Brazilian stocks slipped along with Vale, because of the country’s bad economic state. While people may quickly jump to the conclusion that Vale finds itself in a tight spot, which it actually does, it is not the end. In fact, I see this as an opportunity to purchase more of Vale's shares, if you already own Vale. If you do not own Vale, this might actually be the right time to purchase, as for a while now, Vale will be affordable.

Vale is a great long-term investment, and those who own Vale should not panic and sell their shares. Fluctuations are common for companies that are based in developing countries. The BRIC nations (Brazil, Russia, India and China) are all known for economic volatility, and we are talking about a company that is headquartered in a BRIC nation and that sells much of its resources to another BRIC nation. Obviously, there will be short-term fluctuations that incite panic in some people. But now is not the time to get manipulated; instead, it's your window of opportunity.

At $14, Vale is as cheap as a mining stock can get. With a profit margin of 10% and an operating margin of 29%, Vale is managing its own costs rather well. It is a golden opportunity for investors to get hold of some Vale shares when it is easy to do so.

Vale’s peers face difficulties but they will survive too

I will not discuss Rio Tinto and BHP Billiton in this article, as I have already done so previously. Instead, let us take a look at Freeport-McMoRan Copper & Gold (NYSE: FCX) and Southern Copper (NYSE: SCCO). Freeport-McMoRan was hit hard by China's lack of demand for copper and other commodities. That has not stopped Freeport from acquiring Plains Exploration and Production Company for $6.2 billion, nor did it stop the company from trying to strike a deal to acquire McMoRan. These additional properties will help Freeport gain access to oil and gas along the Gulf Coast, the Rocky Mountains, California and the Gulf of Mexico. This diversification is very different from what Vale has been doing.

Vale has tried to divest the properties and businesses that weren't part of its core focus. Such divestitures have helped Vale clear a lot of its debts and trim down. On the other hand, Freeport is acquiring new projects despite weakened demand in China. The take-home message is that, whether a company chooses to trim down or diversify, conditions in China will not affect Vale's shares in the long run. Freeport trades at $30 and has an impressive price to sales ratio of 1.63. Its profit margin is very high, at 16.26% and its operating margin is almost 30%, suggesting an overall high rate of profitability. Freeport is an impressive option.

Southern Copper sells its commodities to China as well. The company has had consistently impressive revenue and profit margins. With reduced demand in China for metals, though, even Southern Copper saw its numbers dwindle. However, the Chinese premier's reassuring words bode well for Southern Copper. Other than copper, the company also produces coal, silver, lead, zinc and other metals. China’s growing demand will help Southern Copper find buyers for these other metals too.

Southern Copper trades at $30 and has a market cap of $25 billion. It has an enterprise value of $28 billion and is one of the largest mining companies in the world. Southern Copper has a surprisingly high rate of profitability, with a profit margin of 28% and an operating margin close to 50%.

Southern Copper has a price-to-sales ratio of 3.82 and a price-to-book ratio of 4.89. However, the company's PEG ratio is 0.93, which suggests that it is fairly valued. A lower PEG ratio is better for investors, whereas a higher PEG ratio is considered to be an expensive investment. A PEG ratio more than 1 would have been considered to place the company in overpriced territory. 

Vale has a great future

I really do not believe in haphazard judgments made against some of the largest mining companies just because China or some other consumer nation is going through economic turmoil. A good company must be judged by what it does, not just by market conditions. With this philosophy in mind, I believe Vale has a great future, but so do its peers that I discussed above. 

After putting together a blockbuster deal to expand into the oil and natural gas industry, Freeport-McMoRan will have plenty on its plate as it tries to adapt to the new industry, as expanding into oil and gas carries plenty of inherent volatility. FCX had a profitable copper business, and on top of this foray into a new industry it still has to contend with mining industry bellwether BHP Billiton. To help investors determine if Freeport-McMoRan is a buy or a sell, The Motley Fool has compiled a premium research report on the company. Simply click here now to access your copy today.


Jaiyant Cavale has no position in any stocks mentioned. The Motley Fool owns shares of Companhia Vale Ads and Freeport-McMoRan Copper & Gold. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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