Tag: Commodities

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Commodities Trading Ideas & Charts

AGL’s Near-Term Outlook Looks Tough, but Earnings are expected to Recover Over the Long Term

Earnings are dominated by energy generation (wholesale markets), with energy retailing about half the size. Strategy is heavily influenced by government energy policy, such as the renewable energy target.

AGL has proposed a structural separation into two businesses; a multi-product energy retailer focusing on carbon neutrality and an electricity generator that will own AGL’s large fleet of coal fired power stations among other assets. At this stage, the announced split is only an internal separation, with more details regarding the future governance, capital structure, and asset allocation expected by June 2021. 

Low-cost electricity generators and gas producers can achieve an economic moat via low-cost production, as AGL has via its low-cost coal-fired generation plants. Wholesale electricity prices are under pressure from falling gas prices, government initiatives to reduce utility bills, and new renewable energy supply. These headwinds are likely to keep AGL’s earnings falling into fiscal 2023.

Financial Strength:

The fair value estimate for AGL is AUD 14.00 per share, which is implied by the fiscal 2022 price/earnings multiple of 32 and an enterprise value/EBITDA multiple of 9. At this valuation, the forward dividend yield is expected to be 2.3% unfranked, with strong long-term growth as earnings recover. Also, the historical dividend yields generated by AGL are phenomenal.

AGL Energy is in reasonable financial health though banks are increasingly reluctant to lend to coal power stations. From 1.4 times in 2020, net debt/EBITDA is expected to rise to 2.1 times in fiscal 2022. Funds from operations interest cover was comfortable at 12.8 times in fiscal 2021, comfortably above the 2.5 times covenant limit. AGL Energy aims to maintain an investment-grade credit rating. To bolster the balance sheet amid falling earnings and one-off demerger costs, the dividend reinvestment plan will be underwritten until mid-2022. This should raise more than AUD 500 million in equity. Dividend payout ratio is 75% of EPS.

Bulls Say: 

  • As AGL Energy is a provider of an essential product, earnings should prove somewhat defensive. 
  • Its balance sheet is in relatively good shape, positioning it well to cope with industry headwinds. 
  • Longer term, its low-cost coal-fired electricity generation fleet is likely to benefit from rising wholesale electricity prices.

Company Profile:

AGL Energy is one of Australia’s largest retailers of electricity and gas. It services 3.7 million retail electricity and gas accounts in the eastern and southern Australian states, or about one third of the market. Profit is dominated by energy generation, underpinned by its low-cost coal-fired generation fleet. Founded in 1837, it is the oldest company on the ASX. Generation capacity comprises a portfolio of peaking, intermediate, and base-load electricity generation plants, with a combined capacity of 10,500 megawatts.

(Source: Morningstar)

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Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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CSR Responds to Structural Changes taking place in Australian Residential Construction

CSR acknowledges and is responding to the structural change taking place in Australian residential construction. Cost of construction is increasing, while detached housing lot sizes decrease and a greater share of total dwellings are multifamily. Higher energy prices are making lightweight building alternatives such as fibre cement and AAC more attractive, while energy-intensive materials like brick are losing their appeal. To this end, CSR has acted to pivot toward lightweight building materials and executed a number of acquisitions to strengthen its positioning.These investments in lightweight building material businesses, including fibre cement and AAC, are part of CSR’s strategy to drive future growth as lightweight building materials, which reduce total building cost, gain greater favour.

Capacity reductions, industry consolidation, and buoyant construction markets have underpinned earnings growth, while high aluminium prices also have been a strong tailwind. This has enabled CSR to earn good but unsustainable returns on invested capital in recent years. Despite strong brands and scale, CSR exhibits sufficient pricing power or cost advantage to yield an economic moat. The balance sheet carries no debt, providing flexibility should acquisition opportunities arise.

Financial Strength 

CSR’s balance sheet remains in a position of undeniable strength, with net cash of AUD 251 million at fiscal 2021 year-end. With dividends reinstated, we forecast full-year ordinary dividends of AUD 0.24 per share in fiscal 2022-a 60% payout of forecast adjusted net profit.Substantial balance sheet flexibility remains in place for CSR. We continue to forecast ample liquidity to fund the businesses operations and with the capacity to fund the retirement of maturing debt facilities through to fiscal 2024. Absent capital management or M&A activity, we forecast a net cash position for CSR through the forecast period.

Bulls Say 

  • Rationalisation of the brick operations has improved profitability in recent years. 
  • Continued strong demand in China could see aluminium prices hold in at current levels. 
  • The balance sheet is in excellent shape, providing flexibility for share buybacks or opportunistic acquisitions amid the COVID-19 downturn.

Company Profile

CSR is one of Australia’s leading building materials companies; it produces plasterboard, bricks, roof tiles, insulation, glass, fibre cement, and aerated autoclaved concrete. Founded as Colonial Sugar Refining Co. in 1855, CSR started producing building materials in 1942 and is behind recognised brands such as Gyprock plasterboard. CSR sold the last of its sugar assets in 2010 to focus primarily on building products. CSR retains a 25% effective interest in the Tomago aluminium smelter and periodically advances surplus industrial land to property developers.

 (Source: Morningstar)

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Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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Strong Fiscal 2021 Trends Persist Into First-Quarter Fiscal 2022

While dominating the fragmented Australian market, and being a large global player in commodity and environmental testing, it is trumped by the majors, Bureau Veritas, SGS, and Intertek in nondestructive testing and inspection. Services include laboratory testing for the mineral, coal, environmental, food, and pharmaceutical segments.

Excellent reputation, technical capabilities, a global network, and established relationships with global clients are key advantages over often fragmented competitors.ALS’ global network of more than 350 laboratories provides a geographically diverse revenue base: 37% Asia-Pacific, 36% Americas, 24% EMENA, and the balance Africa. This global network reduces region reliance and gives it the capability to leverage experience across borders and serve an international client base.

Financial Strength

ALS is in only reasonable financial health. At the end of fiscal 2015, acquisitions and capital expenditure had pushed net debt to AUD 776 million and gearing (net debt/equity) to 63%. A subsequent AUD 325 million capital raising meant gearing fell to near 40% and net debt/EBITDA from 2.6 times to a manageable 2.0 times. Incremental acquisitions in the life sciences segment’s EBITDA had been accompanied by a sharp rise in group net debt. This has since been paid down to AUD 675 million at end-March 2021. Somewhat elevated leverage (ND/ND+E) of 36% reflects ongoing incremental acquisitions in the life sciences segment, albeit within the limits of ALS’ sub-45% target ratio. Fiscal 2021 net debt/EBITDA of 1.6 is reasonable.

Bulls Say’s

  • ALS has diversified the earnings base to mitigate exposure to highly cyclical commodity markets. Expansion into food and pharma testing, as well as inspection and certification markets, should provide growth despite a significant slowdown in minerals testing.
  • Large clients are unlikely to move away on price alone, with quality and skills essential requirements.
  • Exposure to mineral and coal testing could once again provide earnings growth if the global economy’s appetite for commodities increases.

Company Profile 

Founded in the 1880s and listing on the ASX in 1952, ALS operates three divisions: commodities, life sciences, and industrial. ALS commodities traditionally generated the majority of underlying earnings, providing geochemistry, metallurgy, inspection and mine site services for the global mining industry. Expansion into environmental, pharmaceutical and food testing areas and commodity price weakness have lessened earnings exposure to commodities.

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Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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Rio Tinto’s most recent profit report

Investment Thesis

  • One of the largest miners in the world with a competitive cost structure.
  • Tier 1 assets globally, which are difficult to replicate. 
  • Highly cash generative assets with attractive free cash flow profile. 
  • Shareholder return focused – ongoing capital management initiatives.  
  • Commodities price surprises on the upside (potential China stimulus to combat Coronavirus impact). 
  • Strong balance sheet position.
  • Electrification and light-weighting trends in automobile industry provide long-term growth runway for aluminium demand.

Key Risks

We see the following key risks to our investment thesis:

  • Further deterioration in global macro-economic conditions.
  • Deterioration in global iron ore/aluminium supply & demand equation.
  • Production delay or unscheduled site shutdown.
  • Natural disasters such as Tropical Cyclone Veronica.
  • Unfavourable movements in AUD/USD.
  • Company not achieving its productivity gain targets. 

1H21 results summary

Relative to the pcp (1H20), and in US$: 

  • Net cash generated from operating activities of $13.7bn was +143% higher on higher pricing for iron ore, aluminium, and copper. 
  • $10.2bn free cash flow reflected stronger operating cash flows partially offset by a +24% rise in Capex of $3.3bn (driven by higher replacement and development capital as the Company ramp up its projects).
  • $21.0bn underlying EBITDA was 118% higher (on 61% margin). 
  • $12.2bn underlying earnings (reflecting underlying EPS of 751.9cps) was +156% (with underlying effective tax rate of 29%). 
  • The Board declared cash return of 561cps, broken into interim dividend of 376cps and special dividend of 185cps. Payout is 75% of underlying earnings. (6) Balance sheet was stronger with net cash of $3.1bn versus net debt of $0.7bn in the pcp.

Company Description  

Rio Tinto Limited (RIO) is an international mining company with operations in Australia, Africa, the Americas, Europe and Asia. RIO has interests in mining for aluminium, borax, coal, copper, gold, iron ore, lead, silver, tin, uranium, zinc, titanium dioxide feedstock and diamonds.  

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Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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Whitehaven Coal is cheap in spite of soaring thermal coal futures

The portfolio of export-orientated mines is based in New South Wales, Australia. Salable coal production expanded from 10 million tonnes in fiscal 2014 to about 15 million tonnes in fiscal 2021, largely due to the ramp-up of Maules Creek and the expansion of the Narrabri mine. Equity output is expected to grow to approach 19 million tonnes by fiscal 2023. 

Whitehaven focused on increasing resources, reserves, and production through the boom. Maules Creek was developed despite a challenging external environment, and the subsequent ramp-up and improved coal prices from 2016 saw the weak balance sheet quickly repaired. Favourable coal prices are critical to generating excess long-term returns, but on this front we are circumspect. However, from near-break even profit levels in fiscal 2020, we see material longer-term earnings upside as coal prices recover.

Financial Strength:

The last traded price of the Whitehaven Coal is AUD 3.30 and the fair value as per the analysts is AUD 4.30, which shows that the share is undervalued.

Whitehaven’s financial position is relatively weak. The balance sheet deteriorated with the rapid decline in the coal price in fiscal 2020 and the payment of about AUD 300 million of dividends declared with the final result from fiscal 2019. The speed of the decline in the coal price, the production issues at Maules Creek and Narrabri, and the impact on unit cost drove a spike in net debt to about AUD 820 million at end 2020. At this level, Whitehaven is carrying more debt and leverage than most of its peers. The company had liquidity of about AUD 410 million at end 2020 with about AUD 100 million cash and AUD 310 million remaining undrawn on the company’s AUD 1 billion debt facility, which matures in July 2023.

Bulls Say:

  • It is increasingly difficult for new coal mines to gain approval. This could dampen future supply to the benefit of existing coal producers with long life. 
  • Whitehaven’s Maules Creek and Narrabri mines will likely provide a core of low-cost production, while Maules Creek brings a meaningful proportion of metallurgical coal. 
  • The company is development rich with projects including the Vickery and Winchester South deposits. This underpins a strong pipeline of production growth, including some coking coal, for Whitehaven for years to come.

Company Profile:

Whitehaven Coal is a large Australian independent thermal and semisoft metallurgical coal miner with several mines in the Gunnedah Basin, New South Wales. It also owns the large undeveloped Vickery and Winchester South deposits in New South Wales and Queensland respectively. Coal is railed to the port of Newcastle for export to Asian customers. Equity salable coal production expanded from 10 million tonnes in fiscal 2014 to about 15 million tonnes in fiscal 2021, largely due to Maules Creek. The Maules Creek and Narrabri mines should be the key driver of an expansion in equity coal production to approach 19 million tonnes from fiscal 2023. Development of the Vickery deposit could see approximately 8 million tonnes of additional equity production from around 2025.

(Source: Morningstar)

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Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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Schlumberger Will Benefit From the Oil Market’s Recovery From COVID-19

the company has earned solid economic profits for decades. It reached the front of the pack in wireline evaluation in the 1920s, and it hasn’t relinquished its position since. Since then, Schlumberger has used its unrivaled expertise in understanding oil and gas reservoirs to not only drive a continuous stream of profits in its legacy business lines (embedded in the reservoir characterization segment), but also develop other oilfield-services business lines with nearly unwavering success. As one of many examples, the company pioneered directional drilling in the mid-1980s, a technology that today is recognized as an indispensable ingredient in the shale revolution.

Schlumberger is now applying its expertise to a somewhat different strategic focus: lowering the cost per barrel of oil and gas development via the provisioning of performance-linked services. Also, the company is prioritizing its digital capabilities, which will further support its capacity to boost efficiencies for Schlumberger and its customers.

Financial Strength

Despite COVID-19’s disruption of oil markets, Schlumberger remains in excellent financial health, with net debt/EBITDA of about 2 times in 2019. The company has $3 billion in cash and $3.5 billion in credit facility availability, and only about $3.5 billion in debt is coming due through 2023. The company to remain substantially free cash flow positive in the near term even as oil markets are still in the recovery phase.

Bulls Say’s

  • Schlumberger has long spent more on R&D than all its service company peers combined and more than all the oil majors.
  • The company has a multide cade record of innovation and a proven ability to generate shareholder value in even dismal oil market conditions.
  • Asset Performance Solutions is a hidden gem within the company, likely to generate growth with high returns on capital in years to come.

Company Profile 

Schlumberger is the world’s largest supplier of products and services to the oil and gas industry. The company operates its business via multiple groups: reservoir characterization, drilling, production, and Cameron. It is investing more than any other services firm to make its offerings more bundled, which it believes is likely to be one of the key industry trends during the next 10years. Efforts on this front are most visible via the Schlumberger Production Management business, which now accounts for 10% of its revenue.

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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Strong Thermal Coal Prices Poise New Hope for a Stellar Fiscal 2022

New Hope’s strategy seeks to create value for shareholders by remaining a pure-play coal miner and developing thermal coal assets at a time when major miners–including Rio Tinto and BHP-head for the exits. The strategy is entirely reliant on thermal coal demand remaining robust for decades. The purchase of a further 40% interest in the Bengalla coal mine in fiscal 2019 sees New Hope double down on thermal coal. Total coal production to reach 21.2 million metric tons of run-of-mine, or ROM, thermal coal by fiscal 2023, up from 14.8 million metric tons in fiscal 2018.

While demand for coal has waned in Europe and North America, Asia will remain the relative bright spot for coal demand over the coming decades, according to the International Energy Agency. The IEA sees the possibility that coal demand in absolute tonnage terms could remain steady out to 2040 in Asia, as economic development supports demand. Nonetheless, the potential for greater action on climate change brings the distinct risk that demand could falter earlier.

On the operational front, we’re encouraged by efforts to expedite the realisation of value from New Hope’s assets, given thermal coal’s uncertain future. Bengalla has approval to produce up to 15 million ROM metric tons annually greater than the approximate 12.4 million ROM metric tons mined in fiscal 2020. Capital expenditures required to de-bottleneck the mine and expedite the mining of Bengalla’s reserves are currently being explored. 

Financial Strength

 New Hope’s balance sheet remains well positioned. We view New Hope’s bias toward a conservative balance sheet as appropriate. The volatile nature of coal prices makes the use of significant debt problematic. The balance sheet currently sits in a modest net debt position of AUD 73 million at the end of fiscal 2021. Gearing and leverage remain conservative. We forecast net debt/equity of 2% and net debt/EBITDA of approximately 0.07 times at fiscal 2022 year-end. As such, substantial headroom exists relative to New Hope’s leverage covenant–calibrated at 2.75 times net debt/EBITDA. Our base case factors a long-term coal price of USD 69 per metric ton and the first AUD 200 million of New Acland stage 3 development capital expenditure in fiscal 2022.

Bulls Say 

  • Asia’s growth will see demand for coal in the region remain steady for decades to come. 
  • New Hope’s operating assets enjoy decent positioning on the global thermal coal cost curve. 
  • The ramp-up of production at Bengalla toward 15 million ROM metric tons per year could provide better unit costs.

Company Profile

New Hope Corporation is an Australian pure-play thermal coal miner. Its two operating assets–the 100%-owned New Acland coal mine and its 80% interest in the Bengalla coal mine–produce a cumulative 12 million metric tons of salable thermal coal annually. The vast majority of New Hope’s production is sold into seaborne thermal coal export markets. Reserves at New Acland and Bengalla are sufficient to support multi-decade mine lives. New Hope’s undeveloped coal resources are extensive and include exploration status coal resources in excess of 1 billion metric tons in Queensland’s Surat basin.

 (Source: Morningstar)

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Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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Exelon Secures Another Legislative Win; Byron and Dresden to Remain Open

We expect Exelon’s regulated utilities to drive all of our earnings growth through 2025. The segment’s four-year, $27 billion capital investment plan supports 7.5% rate base growth and 6%-8% utility earnings growth. 

Exelon’s generation continues to be a primary concern and the reason we value the company at a discount to its peer regulated utilities. As the largest nuclear power plant owner in the United States, Exelon has suffered as low natural gas prices slashed power prices. The company has shown its political clout, winning price subsidies in Illinois, New York, and New Jersey to keep some of its nuclear fleet running. Illinois recently approved clean energy legislation that will subsidize the Byron and Dresden nuclear facilities.

Illinois lawmakers passed energy legislation that would provide subsidies worth $700 million to Exelon’s Dresden and Byron nuclear plants. Gov. J.B. Pritzker has indicated he plans to sign the legislation, and Exelon has said it is in the process of refuelling both plants.

Financial Strength:

Management has done a good job paring down its nonutility debt. Only about 15% of Exelon’s consolidated debt is directly tied to its generation segment. As long as power markets remain relatively stable and Exelon maintains its investment-grade ratings, we don’t expect the company to have trouble refinancing its near-term maturities. Continued power market weakness could make refinancing more difficult and stress Exelon’s credit metrics.

Balance sheet is expected to remain sound and in line with regulatory requirements, supported by the company’s low revenue cyclicality. Exelon’s operating leverage is somewhat higher than its regulated utility peers’ due to its merchant generation unit.

Exelon’s dividend policy to pay out 70% of regulated earnings is appropriate, given the high quality and relatively stable nature of its regulated assets.

Bulls Say:

  • Exelon’s proposed divestiture of its merchant generation unit would eliminate its earnings sensitivity to cyclical commodity prices that have dragged down returns recently. 
  • The company’s regulated utilities have good growth investment opportunities that should support earnings and dividend growth. 
  • The state subsidies that management has secured for a portion of its nuclear portfolio are a positive for shareholders

Company Profile:

Exelon serves approximately 10 million power and gas customers at its six regulated utilities in Illinois, Pennsylvania, Maryland, New Jersey, Delaware, and Washington, D.C. Exelon owns approximately 31 gigawatts of generation capacity throughout North America.

(Source: Morningstar)

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Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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AusNet’s Returns Are Falling but Revenue to Rise on Network Expansion

Business Strategy and Outlook

AusNet Services’ security price has risen in recent months in sympathy with Spark Infrastructure, after the latter received a takeover offer. While the two businesses are very similar, AusNet is 51%-owned by Singapore Power and China’s State Grid, which may deter any takeover approach. AusNet trades at a 16% premium to our unchanged AUD 1.70 fair value estimate, offering a distribution yield of 4.8% with modest growth potential.

 As the owner of monopoly infrastructure assets, revenue is highly defensive but heavyhanded regulation rules out excess returns and thus an economic moat. Returns at its three regulated networks are reset every five years to ensure they aren’t overearning, with no meaningful ability to appeal decisions. Slightly better returns can be achieved by cutting costs below allowances set by the regulator. But cost allowances get trued up every five years and outperforming is getting more difficult as privatised networks get more efficient.

Company’s Future Outlook

Timing of the Victorian electricity distribution network’s regulatory reset was fortuitous. The spike in 10-year government bond yields in early 2021 resulted in an allowed return on equity of 5.1% for the distribution network for the five years to mid-2026, up from 4.6% in the draft decision. All else being equal, we estimate this translates to an additional AUD 100 million, or 2.6 cents per security, in earnings each year compared with the draft decision. Bond yields have since weakened but we expect them to trend higher over the long term, pushing allowed returns on equity higher.

For now, an allowed return of 5.1% isn’t too bad. While allowed return on equity has fallen from 7.5% in the prior period, we expect the 30% larger regulated asset base to drive a near 10% increase in average revenue for the next five years. The draft decision for the Victorian electricity transmission network uses a 5.3% allowed return on equity, but that will likely fall to 4.9% in the final decision later this year if government bond yields remain around current levels. That represents a significant fall from 7.1% in the past five years. Revenue, however, should get a boost from lower inflation forecasts and an expanded regulated asset base.

Company Profile 

AusNet Services is a diversified energy infrastructure business, operating Victoria’s primary electricity transmission network, an electricity distribution network in eastern Victoria and a gas distribution network in western Victoria. Singapore Power owns 31% of AusNet, and China’s State Grid owns 20%.

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

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APA’s Medium-Term Outlook Is Supported by Accretive Expansion Opportunities

Limited regulation, scale, and a superior skills base help it capitalise on gas demand growth and generate competitive advantages that warrant a narrow economic moat. However, gas market reform will weaken its competitive advantages. Fair value uncertainty is medium, as secure revenue is balanced by high gearing and limited transparency over customer contracts.

Infrastructure, primarily gas transmission and distribution, is the core business, generating more than 90% of group EBITDA. The rest comes from part-owned investments and asset management. The investments division owns stakes in smaller gas infrastructure companies, providing solid returns and giving some influence. The asset management division provides management, operating, and maintenance services to most part-owned companies, leveraging APA Group’s skills base to generate good returns outside the regulatory framework.

APA Group’s core strategy during the past decade has been to create an integrated east-coast gas transmission grid connecting multiple gas sources to multiple markets. This is now complete following numerous acquisitions and the firm is progressing a similar strategy in Western Australia, connecting to remote mine sites and towns. Expansion creates economies of scale and synergies from linking pipes together into a network with one manager.

Financial Strength

APA Group is in sound financial health. It carries a lot of debt, but this should be manageable given highly secure revenue. Net debt/EBITDA to fall to 5.5 times in fiscal 2023 as development projects complete and earnings start to flow. The firm’s average interest rate is around 4.8%, down substantially in recent years following the issue of the cheap debt to fund the WGP acquisition and expensive hedges rolling off on other debt. The recent refinancing of medium-term debt should reduce average interest rate to about 4.8% in fiscal 2022. Average debt maturity is long at more than seven years, and 100% of interest rates are fixed or hedged.

Our fair value estimate for APA Group is AUD 9.80 per security. Our valuation implies a forward fiscal 2022 enterprise value/EBITDA multiple of 12.5 times, with a distribution yield of about 5.4%. Expansion projects drive solid EBITDA growth of 4.8% on average for the next five years in our discounted cash flow model, while revenue growth for some existing assets is likely to be soft because of regulatory headwinds, gas market reform and some demand shifts.

Bulls Say’s

  • APA Group owns and operates an excellent portfolio of gas infrastructure assets. Its large footprint ensures it is at least partially exposed to growth anywhere in the country.
  • The east-coast gas grid provides improved reliability, greater flexibility, a wider range of services, and economies of scale over single pipelines.
  • Limited regulation allows stronger returns on investment than regulated peers, particularly from organic expansion. However, gas market reform will reduce its advantage.
  • Strong returns are possible from organic growth.

Company Profile 

APA Group is Australia’s largest gas infrastructure company with an extensive portfolio of transmission pipelines, distribution networks, and storage facilities. It is internally managed and has direct operational control over all assets. It owns minority stakes in a few smaller gas infrastructure companies and manages operations for most of these. The stapled securities comprise a unit in Australian Pipeline Trust and in APT Investment Trust.

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.