Are Industrial Metals Stocks Melting?

05/02/2012 9:45 am EST

Focus: GLOBAL

Yiannis Mostrous

Editor, The Capitalist Times

As Europe continues to swoon and Asia slows, can the big industrial metals companies make it through more global economic doldrums? So asks Yiannis Mostrous of Global Investment Strategist.

Wild weather and a prolonged strike at its coalmines in Queensland, Australia exacted a toll on the world’s biggest miner, BHP Billiton (BHP). That said, there still was plenty of news to cheer investors.

BHP Billiton reported first-quarter 2012 production numbers, with iron as the brightest spot. Energy coal also was strong and copper remained flat. However, heavy rains and industrial action hit production of metallurgical (met) coal.

Although BHP’s Western Australia iron ore operations had to cope with the tropical cyclone season, sales were only 500,000 tons less than production, with shipments reaching 34.8 million tons.

Total petroleum production increased 58% year over year, helped by the company’s new focus on high-return, liquid-rich shale. The company is adjusting to lower US gas prices by concentrating on more profitable shale production. Liquids production from its onshore US business was up 35% quarter over quarter, while its guidance for the full year now stands at 225 million barrels of oil equivalent (boe).

BHP’s contract in Algeria expired last quarter, while in Australia, bad weather combined with drilling delays and scheduled maintenance lowered production. The company’s Mad Dog field in the Gulf of Mexico was offline and is expected to resume operation in June. The company’s other oilfield in the Gulf of Mexico, Atlantis, also was offline due to scheduled maintenance and should remain so until September.

These two fields haven’t been producing, but in the past they’ve been highly productive for the company. When they’re up and running again, their contribution in the second half of the year should provide a solid boost.

Copper production was flat yoy, with higher grades at Escondida (Chile) that were counterbalanced by bad weather at Pampa Norte (Chile) and planned maintenance at Olympic Dam (Australia).

Queensland met coal operations remained constrained by heavy rain, with production down 14% qoq but up 10% on a yearly basis. However, energy coal set a new production record at the company’s key mines. The company expects to resume mining at San Juan Coal in New Mexico in June.

BHP Billiton remains one of the best mining stocks to own. The company produces a diversified portfolio of commodities that limits earnings volatility and provides stable cash flows. The company’s assets are relatively low cost, giving it one of the highest margins in the mining industry. Buy BHP Billiton up to $100.

Starring Performance
Rio Tinto (RIO) also released first-quarter 2012 production numbers, with iron ore the star performer.

Rio Tinto’s iron ore production was up 10% yoy to 59 million tons, and the company expects full-year production to be around 250 million tons. Copper production was down 18% yoy, due to lower grades at Kennecott in Utah.

Coal production also took a hit from the rains in Australia, although both coking coal and energy coal production was up 5% and 3% respectively on a yearly basis. Bauxite and alumina were up 10% and 13% yoy respectively, driven by higher demand, while aluminum was 9% lower due to capacity shutdown.

The company’s most important strategic decision during the first quarter was to sell some of its non-core businesses. A binding offer already has emerged for its Specialty Alumina business, which the company is considering. The company generates almost all earnings from about 30% of assets, making non-core businesses less valuable.

Other assets the company is considering selling include aluminum smelters in Australia and New Zealand; copper mines in South Africa; its entire diamond business (Canada, Australia, Zimbabwe); and more. The company estimates that these asset sales could generate as much as $8 billion.

Asset sales would unlock considerable value in the company and push shares higher, particularly because the extra cash could be used to increase the company’s dividend distribution. The company has been steadily reducing its debt and also is in the process of completing a $7 billion share buyback program. Rio Tinto is a buy up to $60.

A Surprise on the Upside
South Korean steel producer Posco (PKX) announced first-quarter 2012 results, reporting profits of over $700 million, beating market expectations. The better-than-expected performance was largely driven by the company’s energy division, Posco Energy.

In the second quarter, the company expects steel to be a bigger positive, with steel production volumes rising by 1% qoq to 8.85 million tons. The company projects that its production costs per ton will fall to about $45 this quarter, while steel export prices are expected to rise $20 to $30 per ton from the current quarter. Posco has been upgrading and expanding its manufacturing capacity, using the latest technology to cut demand for key raw materials such as coke.

Other positives from the company’s first quarter include the decrease in net debt, plans to divest some investments in non-core businesses, and its decision to reduce capital expenditures by 6%.

Posco expects profits to rise by close to 40% in the second quarter, lifted by a still healthy Chinese economy, with profits for the entire year surpassing $4 billion. Buy Posco up to $100.

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