BHP Group: Yield gives important valuation support
About the author:
- Author name:
- By Adrian Prendergast
- Job title:
- Senior Analyst
- Date posted:
- 22 April 2020, 3:00 PM
- Sectors Covered:
- Mining, Energy
- A solid 3Q20 operational result overall, with iron ore and copper on track while petroleum and coal trailed.
- BHP flagged it will be making cuts to its FY21 US$8bn capex budget, indicative of a conservative approach.
- Lower assumed commodity prices versus a resilient dividend (rare in the current global economy).
- FY20 copper (Antamina) and thermal coal (Cerrejon) guidance is now under review.
- We maintain our Add rating on BHP, recognising potential for short-term volatility while seeing its dividend as a critical valuation support in a yield-starved market.
Good 3Q all considered
A good result given the strong performance from BHP's flagship WA iron ore business, with 3Q20 production of 60mt -1% QoQ (vs Morgans 59.5mt) with BHP's operations performing well through the wet season. Copper business performance was mixed (overall 2.7% above our estimates), with Escondida and Antamina performing well but likely to come under pressure from Covid-19 restrictions, while Olympic Dam performance disappointed. 3Q20 petroleum output of 25mmboe (vs Morgans 26.5mmboe) was -14% pcp on a combination of maintenance in Gulf of Mexico (GoM), and seasonal gas demand weakness and wet weather impacts in Bass Strait.
Pulling back expenditure further
BHP is on a mission to pull back opex across its business. Additionally the big miner flagged in its 3Q20 result that it is reviewing its FY21 capex budget of US$8bn, with plans to cut expenditure. We view the moves as indicative of a conservative approach, planning for further volatility in commodity prices. Given our view prioritising capital resources over growth in the current market phase, we see the moves as prudent.
Will Covid-19 reach core assets?
With a little over two months of FY20 remaining, BHP has placed its FY20 guidance for Antamina (copper) and Cerrejon (coal) under review while it measures the impact of Covid-19 restrictions on its South American operations. With JV partner RIO already flagging lower expectations for Escondida, we see ongoing risk of additional impacts. A key question we have is on how effectively BHP can protect flagship segments such as its Pilbara iron ore operations. So far an encouraging performance, but an ongoing risk.
Yield to supply valuation support
3Q20 was a good result operationally, while flushing through lower commodity price forecasts has impacted FY20F/21F earnings by 13%/14% respectively. Offsetting the valuation decline from lower near-term earnings has been the application of a lower risk free rate (3.0%), along with some reduction in FY21 capex. Net of these changes our target price has decreased. We maintain an Add rating. Of critical importance to our investment thesis, we see BHP holding a critical advantage versus other sectors (i.e. banks) in 2020 with a superior dividend yield profile, which we expect will help support its share price. The key risk to our call is Covid-19 (impact to demand conditions and potentially individual operations).
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