BHP Group: Sold off into buy territory
About the author:
- Author name:
- By Adrian Prendergast
- Job title:
- Senior Analyst
- Date posted:
- 20 October 2021, 10:00 AM
- Sectors Covered:
- Mining, Energy
- We are still cautious on the short-term outlook for iron ore, but view the selloff as having uncovered enough value putting BHP back in buy territory.
- We have not yet gained confidence in short-term China stimulus, but on a 12- month view we are confident based on valuation support and yield (TSR ~32%).
- This value proposition is boosted by WPL’s share price outperformance, against a fixed equity ratio on the planned merger of WPL/BHP’s petroleum businesses.
- A mixed 1Q22 quarter, with heavy maintenance across iron ore, copper and coal having an impact.
- Earnings are likely to remain volatile, but BHP’s ~10% yield is hard to overlook.
- We upgrade our rating to Add (from Hold) with an upgraded (login to view).
Relative value grows
Our cautious view on iron ore remains, but the relative value on offer in BHP has grown as: 1) BHP’s share price has fallen (now implying a US$61/t iron ore price), 2) the value of the petroleum demerger has grown with WPL’s share price outperformance (the guided 52/48 WPL/BHP merger split suggests the value attributed to BHP has grown US$3.8bn), and 3) BHP’s robust dividend profile of +10% at the current share price.
With these factors in mind, and BHP now trading at a sizable discount to our target price, we upgrade our rating to Add (from Hold).
Mixed 1Q22 operational result
1Q22 was dragged on by heavy maintenance activity in iron ore, copper and coal. Although FY22 production and unit cost guidance was unchanged.
Pilbara iron ore shipments of 70.6mt (+2% vs MorgE, -5% yoy) again was impacted by reduced access to rail labour, as well as maintenance on car loader one and rail infrastructure at Jimblebar.
Group copper production of 376.5kt was lower (-4% vs MorgE, -9% yoy) with the major maintenance program at Olympic Dam getting underway, and sustained COVID impact to Escondida (lower grade and recoveries). While output from Pampa Norte grew on ramp up of SGO.
1Q22 petroleum performance was a positive, outpacing our estimates by +1% and consensus +4% at 27.5mmboe. Volumes grew on the added Shenzi interest and startup of Ruby. BHP reported a new discovery at Calypso in Trinidad & Tobago, where drilling is ongoing.
BHP’s coal output fell short of estimates in 1Q22. Metallurgical coal production of 15.6mt (-17% vs MorgE, -11% yoy) was below consensus on a heavier-than-expected impact from planned maintenance during the quarter. While thermal coal also disappointed, hampered by a damaged ship loader at Newcastle port.
Forecast and valuation changes
We have applied upgraded coal, oil and gas and copper prices (summary later) to our estimates and adjusted our FY22 estimates for the slightly softer 1Q22. Net of these changes we have upgraded our target price to (login to view).
Outside iron ore, BHP’s basket of commodities has gone from strength to strength, restoring some diversification and offset some of the recent weakness.
Trading at a material discount to our (login to view) target price, now with a 30% TSR, we upgrade our rating on BHP to Add recommendation (from Hold).
Progress towards the petroleum demerger and unification (the latter now expected in March 2022 vs previous guidance of 1H22).
Eventual recovery in current weak steel demand conditions.
COVID risks, demand for commodities, and BHP’s operations remains key.
Further iron ore price volatility.
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