Elliott Advisors' plan to unlock value at BHP Billiton (BHP) doesn't stack up and the stock could shed more than a third of its value over the coming year, according to analysts covering the stock.
London based broker Liberum Capital said Thursday that spinning off the petroleum unit of BHP will leave it as a metal raw materials business, focused on iron ore and copper, and won't necessarily mean additional value accretion for shareholders.
"Using the obvious UK comps for these businesses, Rio Tinto (RIO) for steel raw mats and Antofagasta (ANFGY) for copper, implies a valuation in line with the current market cap, assuming petroleum is worth the $22bn estimated by Elliott as a stand alone entity," said Richard Knights in a note to clients.
Knights built a sum-of-the-parts model for BHP that uses Rio and Anto multiples for the copper and iron ore elements of the company, Elliott's number for the petroleum business and apportions debt according to divisional contributions to earnings. That model returned a valuation of $94.3 billion, which is near identical to the current market capitalization of BHP, and suggests that the value Elliott has trumpeted is already priced into the stock.
Knights reiterated his sell rating and £8 price target for the stock, which implies downside of more than 30%, based on a bearish outlook for copper and iron ore prices. BHP shares were down 0.30% to £12.65 by mid-day.
Among other things, Elliott has recently begun pushing for BHP to spin off its petroleum business, saying it provides no meaningful diversification benefit, lacks synergies with mining and its $22 billion value is being obscured by other parts of the group. BHP has rejected its plan.
Petroleum accounts for the largest share of BHP's assets by product group and is the second largest recipient of capital expenditure.
Moreover, at 2.5 times net debt to Ebitda for the year to ending in June 2016, BHP's financial leverage has been more comparable with that of an oil producer than it is with a London listed mining sector peers.
Rio Tinto had net debt equal to 1.8 times its Ebitda during the same period while Antofagasta had a multiple of 0.7 times. Meanwhile, net debt to Ebitda was 2.7 times at Royal Dutch Shell plc (RDS.B - Get Report) and 3.2 times at BP plc (BP - Get Report) .
The more leverage that a commodity producer has the more that gains and losses of the underlying commodity prices will be magnified in the company's share price.
Elliott is right that BHP has under performed its mining counterparts since the demerger of South 32 (SOUHY) , but this overlooks the fact that it has outperformed its petroleum peers over the same period.
BHP has consistently outperformed BP and Shell during the year to date, the last twelve months and since the South32 demerger, regardless of whether the sector was rising or falling. This begs a number of questions.
Is BHP still a miner that has acquired a noteworthy oil interest, or is it now more of an oil company that just so happens to have a sizable exposure to minerals?
If BHP's fortunes cannot be meaningfully improved by rearranging its assets, could a reappraisal of what investors consider to be BHP's core business help them to see the glass as half full instead?