BHP Maintains Momentum, Despite Outages

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This story features BHP GROUP LIMITED, and other companies.
For more info SHARE ANALYSIS: BHP
The company is included in ASX20, ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

A host of items are expected to negatively affect BHP Group's first half profit, although most brokers acknowledge there is still enough momentum to meet full year guidance.

-Production guidance reiterated, except for copper which has increased
-Strong second half is required to meet expectations
-Potential for additional capital management
 

By Eva Brocklehurst

BHP Group ((BHP)) has sustained a significant impact from outages in the first half that were unplanned, resulting in weaker production outcomes versus expectations.

A host of items will affect half-year profit and include increased unit costs, exploration expenditure and non-cash adjustments. The company has reported US$700m in additional taxes will be payable, also notching up a -US$300m loss on its former US onshore assets and a US$125m impairment.

Nevertheless, guidance for FY19 has been reiterated, except for copper, which is increased by 2% to account for the retention of Cerro Colorado. The outages that were unplanned relate to a train derailment in WA, plant downtime at Olympic Dam and fires at Spence and Nickel West.

Roughly two thirds of the US$600m impact from outages came from the copper tonnage lost at Olympic Dam and Spence, so the company needs a stronger second half in order to hit guidance, particularly in coal and iron ore.

Macquarie suggests the latter requires a mild wet season in the Pilbara and could be a stretch. Thermal coal requires a material lift in volumes to hit the upper end of the forecast range, and the broker suggests seasonal factors could also make achieving this a difficult task.

Meanwhile, copper guidance at Escondida can be achieved with a flat result, although both Olympic Dam and Spence need to experience increased volumes. The broker reduces estimates by -7% to reflect lower price realisation for metallurgical (coking) and thermal (energy) coal, copper and iron ore.

Petroleum volumes were the main positive for Macquarie, beating estimates by 4%, while thermal coal was below forecasts and the main weak spot. Importantly, the extra petroleum production was driven by higher oil volumes and, as oil production is generally more profitable than gas, this should improve the mix.

Ord Minnett agrees a strong second half will be required to achieve budget and expects the stock will be affected by macro economic factors in the near term, while global growth conditions will deteriorate. Hence, no re-rating catalysts are likely to emerge. While estimates are downgraded for FY19, the stock is trading with a free cash flow yield of 6.5% and dividend yield of 5.5%, so Citi retains a positive view.

Capital Management

Macquarie believes the earnings upgrade momentum remains strong, underpinned by buoyant iron ore and coking coal prices, while there is potential for additional capital management over FY19. A US$2bn on-market buyback of London-listed stock is considered possible under a spot price scenario.

Despite the increased disclosure and the potential for a messy first half, the valuation and multiples, as well as net debt position, all signal to Credit Suisse that the stock is far from expensive. However, as is the case with competitor Rio Tinto ((RIO)), a conservative house view regarding China overlays the outlook and a Neutral rating is maintained.

UBS points out that despite the company highlighting full-year unit costs for all major assets in line with guidance, these were trending higher in the December half as a result of the outages. The broker expects first half underlying earnings of US$3.86bn and interim dividend of US$0.53 per share, in addition to the US$1.02 per share special dividend to be paid on January 30.

Deutsche Bank, the broker on the FNArena database with a Sell rating, also remains cautious about costs. Otherwise, there are five Buy ratings and two Hold. The dividend yield for FY19 and FY20 consensus forecasts, on present FX values, is 8.7% and 5.1% respectively.

The consensus target is $35.52, signalling 9.5% upside to the last share price. Targets range from $28 (Deutsche Bank) to $40.66 (Morgans, yet to update on the production report).

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