The Mega Miner with the Best Portfolio

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

BHP Billiton (NYSE: BHP) has cut the salary of its CEO Marius Kloppers, who in 2011 was ranked as Australia’s highest paid executive, by 15% to $9.8 million. The pay cut is attributed to the write-down of Fayetteville shale gas assets that the company purchased from Chesapeake Energy (NYSE: CHK). BHP will not give any short-term incentives to its head and several other executives while they go through a salary freeze in the current fiscal year.

For its fiscal year ending June 2012, BHP has recorded a 0.7% decline in revenues year-over-year to $72 billion, as it suffers through falling commodity demand stemming from a slowdown in China. The company has delayed the $30 billion Olympic dam copper and uranium mine project in South Australia, a decision that was welcomed by investors. There has been increasing pressure on miners to return their cash reserves to investors instead of spending it on new projects.

BHP had planned to extract up to 750,000 tons of copper and 19,000 tons of uranium each year from the project, making this one of the leading copper and uranium mines of the world, but prices of both commodities have fallen sharply. Copper prices have fallen by 25% in last 18 months while uranium prices have fallen from $68 per ton to $47 per ton following the Fukushima power plant disaster. In a more recent move, BHP has also delayed its Red Hill coal mine project which could produce up to 14 million tons of coal per year at a cost of $3 billion.

Iron-ore, which contributes nearly a third of BHP’s total revenue and half of total profit, has cratered in price due to falling demand. It fell from $130 in July to $90 just before the Chinese announcement of $156 billion in infrastructure spending, the Chinese version of QE. However, BHP is extremely diversified and operates in all the continents, unlike its rivals such as the Brazilian Vale (NYSE: VALE); that’s why BHP will ride out this current slump, at least until the effects of the Chinese stimulus package starts to kick in from late 2012 till mid-2013.

BHP has sold the Yeelirrie uranium deposit for $430 million to Cameco Corp, and also sold its 37% stake in Richard Bay Minerals to its rival Rio Tinto (NYSE: RIO) for $1.9 billion. Yeelirrie’s uranium mine was an undeveloped dormant mine; therefore selling this asset and concentrating on existing projects is a good strategy for the current economic climate.   Likewise, Rio Tinto is itself divesting away from South Africa. It recently sold two coal assets there for $53 million, and it is still hunting for a buyer for its 57.7% stake in South Africa’s largest copper mining company Palabora Mining.

Despite massive roadblocks for its expansion plans, BHP’s still has several projects in its pipeline. It has $20.8 billion allocated for projects under development and almost all of them will begin production before 2015. Total capital expenditure planned for 2013 is $22 billion, while the total cost savings from delayed projects amount to $68 billion. Vale has also put its plans for $3 billion potash mine project in Saskatchewan on hold.

BHP has a strong natural gas portfolio, and is one of the global leaders in copper and iron-ore. Copper, steel and gas prices are expected to rise from mid-2013. Chinese demand for copper is expected to rise 7% and global demand will be up 4.7% next year from 1.5% in 2012. In September, iron-ore prices have rebounded after touching a three year low.  However, unlike copper or natural gas, iron-ore prices are not expected to increase significantly until the end of 2012. But don’t worry; current projections are for rising prices in 2013. 

For the year ending December 2011, Vale had the highest return on asset (ROA) and return on equity (ROE) of 29.45% and 17.78% among the mega-mining companies.  Meanwhile, Rio Tinto had the lowest, at 11.09% and 4.87% respectively. BHP, whose financial year ended recently on 30th June 2012, posted 23.4% ROE and 11.93% ROA. Since January, BHP’s price has fallen 1.8% while its competitors such as Rio Tinto and Vale are down 1.4% and 13.24% respectively.

While Vale is trading at a steep discount (P/E of 5.8, 6.4% yield), BHP’s diversification makes it more financially flexible in this challenging environment than any of its rivals. Moreover, it gets more than 20% of its earnings from the petroleum business, and rising oil prices can offset the fall in iron-ore while the core business generates healthy cash flows. For now, BHP looks like a value trap for the next 12-18 months due to uncertainties in the global market.  But for the long term, there’s 600 million people moving into the middle class in South East Asia that will put a fire under commodity prices once this wave of debt deflation is over.

PeterPham8 has no positions in the stocks mentioned above. The Motley Fool has the following options: long JAN 2013 $16.00 calls on Chesapeake Energy, long JAN 2013 $25.00 calls on Chesapeake Energy, long JAN 2014 $20.00 calls on Chesapeake Energy, and long JAN 2014 $30.00 calls on Chesapeake Energy. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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