August 7, 2019 / 12:16 PM / 5 months ago

Breakingviews - Glencore unearths new grounds for cheap valuation

An artisanal miner works at a cobalt mine-pit in Tulwizembe, Katanga province, Democratic Republic of Congo, November 25, 2015. Picture taken November 25, 2015.

LONDON (Reuters Breakingviews) - Glencore’s bull case just took another hit. The Swiss miner and trader’s half-year results on Wednesday saw adjusted EBITDA fall almost a third from the same period in 2018. The drop largely reflects Chief Executive Ivan Glasenberg’s chosen business mix – but Glencore also added a Congo-shaped reason to mark down its shares. 

A two-thirds jump in iron ore prices in the first half was great for mega-miners for whom the metal constitutes over half of EBITDA, such as BHP Group and Rio Tinto,. Unfortunately for Glasenberg, Glencore produces none. Moreover, half of its EBITDA comes from thermal coal, whose price fell by a third in the first half, and copper, which has been trading marginally lower over the same period. As a result, Glencore shares are down 21% so far this year, compared with a 10% rise for the FTSE All-World Mining index.

That’s one reason why Jefferies analysts forecast Glencore’s 2020 free cash flow yield will be nearly 13% in 2020, compared with less than 9% for BHP and Rio. Another is an ongoing U.S. Department of Justice anti-bribery probe. Granted, it’s not all gloom and doom. Glasenberg’s trading operation will offset some of the impact of a deceleration in global growth that may depress commodity prices. And Glencore’s cobalt and copper operations mean the company is well-positioned for an electric vehicle-dominated world.

But that natural advantage is why Glasenberg’s mothballing from year-end of Democratic Republic of Congo’s Mutanda mine, which supplies 15% of global cobalt, is a problem. Cutting off that supply is one way to help a battered and glut-ridden cobalt market where prices have fallen by more than a half in a year. But Glencore’s African copper costs also spiked relative to the first half of 2018 as local taxes rose. Credit Suisse analysts had been assuming the division would supply 13% of 2020 group EBITDA, with Mutanda alone supplying 5%. That looks in question. Meanwhile, any price hikes will benefit rivals like China Molybdenum – whose shares jumped 10% on Wednesday – more directly.  

Based on last week’s commodity prices and this year’s production assumptions, Glencore reckons it will generate $4.8 billion in free cash flow this year. That would imply a 12.5% free cash flow yield at the current share price. Investors will have to decide if and when Glencore’s DRC operations can compensate for what’s lost from Mutanda. It’s also another thing that they are being asked to take on trust.


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