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BHP Group - still profitable despite disruption

Nicholas Hyett, Equity Analyst | 18 August 2020 | A A A
BHP Group - still profitable despite disruption

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BHP Group Plc Ordinary US$0.50

Sell: 2,321.50 | Buy: 2,322.50 | Change -46.00 (-1.94%)
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BHP reported full year revenues of $42.9bn, down 3.1% on last year. That reflects weaker revenues in Petroleum and Coal as prices fell, partially offset by a strong result in Iron Ore. Underlying operating profits fell 7% to $15.9bn.

The group announced a final dividend of 55 cents, taking the full year total to $1.20 down 10% year-on-year.

The shares fell 1.5% in early trading.

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Our view

It's been a rocky year for commodities, and BHP's large oil & gas and coal businesses mean it's not escaped unscathed. However, the year has also underlined many of the group fundamental strengths.

Iron ore is BHP's most important commodity by some way, and its high-quality assets mean extraction costs are very low. A tonne of iron ore can cost BHP as little as $12.63 to produce, well below the average price of $77.36 received in the last year. It's much the same story across the rest of the group - and that's meant that even the coal and oil divisions have managed to scrape a profit this year.

Estimated petroleum production costs of $11-$12 a barrel should keep that division in the black even in current torrid market conditions. However, the outlook for coal is less positive, particularly as demand for thermal coal (used in coal fire power stations) looks set to remain subdued.

Generally though BHP's high quality, high margin assets should mean that, even at the bottom of the economic cycle, its mines remained robustly profitable. Lower market prices still mean lower profits, but as long as debt and central costs are kept under control BHP should be able to weather any storm.

And things look a little turbulent at the moment. Oil prices look set to remain subdued for some time, and the global economy is flirting with recession. Demand for iron ore and other industrial commodities tends to go a bit rusty during a downturn - which would be bad news.

BHP targets paying out a minimum of 50% of earnings, which in a highly cyclical industry is a sensible approach. However, it also means that payments to shareholders will likely rise and fall with global commodity markets. It's made more likely by the fact BHP has actually paid out significantly more than the minimum recently.

To be fair to BHP, debts look very manageable and that provides the group with flexibility. If you can keep debts low while still paying a healthy dividend, why wouldn't you? Nonetheless the allocation of cash between balance sheet, capital expenditure and shareholders is an area we'll be paying close attention to.

Overall we think BHP's asset base means it should be well placed to weather the ups and downs of commodity markets, while delivering income for investors. The current price to book ratio of 2 times is a little way ahead of the long term average, although not concerningly so, but suggests there might be a bit more down than up in the short term.

BHP key facts

  • Price/Book ratio: 2.0
  • 10 year average Price/Book ratio: 1.8
  • Prospective yield: 4.6%

We've introduced this section in response to recent survey feedback.

Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Full Year Results

Petroleum production fell 10% during the year, and is expected to fall by a further 6-13% in the coming year. That reflects disruption caused by the recent oil price crash as well as delayed investment. Average oil prices in the division fell 26% to $49.53, and averaged $37.51 in the second half of the year. The division reported an underlying operating profit of $750 in the year, down from $2.5bn a year ago.

Output in the Copper business rose 2%, driven by improvements at Escondida, although disruption caused by coronavirus is expected to impact production next year. Average realised Copper prices fell 5%, with divisional operating profits broadly flat overall at $2.6bn.

Iron Ore production rose 4%, driven by Western Australia, with average prices up 16% year-on-year. As a result the group reported operating profits of $12.9bn, up 37.5% year-on-year.

The group's Coal assets saw production fall 2% in Metallurgical and 15% in Energy. Prices for both coal categories fell 27%, with the result that overall coal underlying operating profits fell 76.1% to $811m.

Unit costs were on average 9% lower across BHP's major assets year-on-year, with better than expected cost savings in Petroleum and Escondida. However this does not include the impact of additional disruption caused by coronavirus - which were substantial across all divisions except Petroleum.

Total capital and exploration expenditure for the year came in at $7.6bn, up 7.3% year-on-year. That reflects increased spending on Copper and Iron Ore development projects, with maintenance capital expenditure down slightly year-on-year.

Free cash flow in the year came in at $8.1bn, down from $20.5bn a year ago (which benefitted from the sale of onshore oil & gas assets to BP).

Net debt at the end of the year stood at $12bn, up from $9.4bn 12 months ago. However, this remains at the lower end of the group's target range.

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This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.