- BHP posted an interim dividend of USD 55 cents, exactly in line with our aggressive forecast, which we based on a summation of what disposable capital BHP might have spare at the end of the half to tip into extra cash dividends.
- 1H18 earnings marginally trailed expectations, although BHP maintained impressive FCF generation on higher commodity prices and less capex in the half.
- BHP reiterated a preference for small, low risk, preferably latent capacity focused investments (rather than taking huge bets on single prospects).
- We maintain our Add recommendation on BHP, with a total shareholder return (TSR) of 10%.
Functioning capital allocation process
BHP markedly stepped up its interim dividend to USD 55 cents, in line with our estimate but 12% above consensus estimates (unlike consensus we had expected boosted dividends from 'excess' cash flow).
In the result BHP reaffirmed clear plans for its capital, with its FY18 capex budget of US$6.8bn spread between sustaining capex, major projects (including Mad Dog 2 and SGO), 'latent capacity' upgrades, exploration and US onshore.
After the spending in 1H18, this left an additional US$3.6bn in excess cash flow, which was used to pay extra dividends, strengthen its balance sheet and invest in growth. It is hard to find fault in BHP's process for deploying capital.
Steady result, good cash flow
1H18 underlying NPAT of US$4,053m was slightly below expectations (vs Morgans US$4,155m and consensus US$4,254m), while EBITDA also trailed coming in at US$11,238m (vs Morgans US$11,787m and consensus US$11,593m).
This saw group EBITDA margin of 52% (vs 53% a year ago), with a series of one-offs and cost increases pulling BHP's margin below estimates. However offsetting earnings was a strong cash flow performance, with FCF of US$4.9bn coming in 5% above consensus.
Productivity offsetting inflation
A series of one-offs (such as the Olympic Dam major mill maintenance program and geotechnical issues that impacted BHP's Queensland coal) hurt BHP's productivity performance, with productivity actually dropping US$0.5bn during the half. Despite this BHP is sticking to targeted productivity savings of US$2bn by end of FY19.
Some pundits may argue this is irrelevant given inflationary foreign exchange and input cost rises that could undermine a substantial portion of these savings.
But in our view the opposite is true, where we see the US$2bn targeted savings as a crucial demonstration of BHP's ability to defend margins through its core competencies (not capable for smaller peers).
Shale divestment process moving forward
BHP also outlined that data rooms for all of its US onshore oil & gas assets would be open by the end of March, with bids expected in the June quarter and assessed in the September quarter.
We see this as the strongest positive catalyst for BHP in 2018, with proceeds capable of reaching up to 0.75 P/NPV for proceeds of c.US$7bn.
We maintain our Add recommendation on BHP with an increased price target (Morgans clients login to view). The key risk to our call remains commodity price risk.
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Disclaimer(s): Analyst owns shares.
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