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Glencore - volatile energy markets provide a boost

High levels of volatility in energy markets are impacting the expected performance of Glencore's thermal coal...

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High levels of volatility in energy markets are impacting the expected performance of Glencore's thermal coal portfolio. The group's mix of product means it won't fully benefit from higher coal prices relative to its index, and costs are also expected to rise, from around $59.3/tonne to $75-$78/tonne.

But such is the scale of the increase, average index price over the first half expected to rise from previous guidance of $175/tonne to $318/tonne, and coal profits should exceed expectations.

Volatile energy prices are expected to benefit the marketing business. First half underlying operating profit is expected to exceed $3.2bn, at the top end of its typical annual guidance. Conditions are expected to normalise over the second half.

The shares rose 3.7% following the announcement.

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Our view

Glencore's sits firmly within the list of diversified miners who've seen profits benefit from rising commodity prices. Events this year mean that trend has continued, as the thermal coal and marketing businesses benefit from soaring, volatile, energy prices.

Commodity prices are somewhat outside Glencore's control, so it's important to get an understanding of the bigger picture.

The business model is based on two key areas. The first, like your run of the mill miner, is a large industrial portfolio producing metals and minerals.

Industrial assets represented 83% of cash profits (EBITDA) last year. Just north of two thirds came from metals and minerals, including copper and nickel. These metals are essential for global efforts to reduce carbon emissions and demand's likely to keep going up as economies transition.

Glencore also has a relatively large coal operation, which doesn't do it any favours with more ESG conscious investors. However, it's on track to be the group's most profitable division this year - boosted further as the turmoil in energy markets boosts coal prices. Glencore's pledged an orderly reduction in coal output, but we don't see any major changes in the near term whilst it's so lucrative.

What really makes Glencore stand out is its Marketing business, which acts as a global commodity marketplace and is blossoming in the volatile conditions we're seeing right now. Customer orders are filled, either through its own products or a third party's, and then delivered. Glencore earns a slice of profit capitalising on different prices for the same commodities in different locations or time periods. Performance relies more on volatility in the market than whether prices are high or low. It's a low margin business model but gives the wider group some protection if markets are falling but remain volatile.

Healthy conditions over the last couple of years have helped bring the balance sheet into good shape. Net debt at the end of last year stood at $6.0bn, below the target of $10bn. The group aims to return cash to investors when available to bring net debt back to target, that means around $4.0bn can be returned to shareholders this year, though there are no guarantees.

We must note recent bribery and market manipulation charges. These have been resolved and should fit within the $1.5bn provision set aside. Nonetheless, it's concerning, and new CEO Gary Nagle has some work to do to restore investor confidence in this regard.

Glencore offers something different to its peers, with the addition of its marketing arm offering an avenue for profit in a range of conditions. The group trades ahead of its long-term price/book value, reflecting the healthy conditions right now. There's a 9.2% prospective yield on offer, backed up by expected free cash flow of $15.5bn. Returns at this elevated level are unlikely to stay for long, commodity prices are cyclical and current performance is being boosted by conditions that are unlikely to last. Yields are variable and not guaranteed.

Glencore key facts

All ratios are sourced from Refinitiv. 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.

Full Year Results (15 February 2022)

Glencore's full year net profit rose to $5.0bn, from a loss of $1.9bn last year. The increase reflects higher commodity prices. Underlying cash profits (EBITDA) grew 84% to $21.3bn.

Net debt has been reduced to $6.0bn, down from $15.8bn last year. As a result, management has recommended a dividend of $0.26 per share and a $550m share buyback.

Marketing delivered record results due to increased levels of market volatility, cash profits rose 13% to $4.2bn. In Metals and minerals, operating profits grew 50% as nearly all departments rose double digits. Strong performance from coal couldn't offset a drop in oil relative to a bumper prior year, which meant operating profits from Energy fell 21%.

Cash profits in the Industrial division grew 118% to $17.1bn, with growth across both Metals and minerals and Energy products. That reflected higher commodity prices, as the recovery of global demand and supply challenges drove prices higher. Copper, cobalt, ferrochrome, nickel and coal were the strongest performers.

As of 31 December 2021, the ratio of net debt to underlying cash profits stood at 0.28 times.

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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 disclosure for more information.

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Written by
Matt Britzman
Equity Analyst

Matt is an Equity Analyst on the share research team, providing up-to-date research and analysis on individual companies and wider sectors.

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Article history
Published: 17th June 2022