Analysts Upgrade Glencore

Morningstar equity analysts have significantly upgraded their fair value estimate for miner Glencore, but still consider the stock overvalued

Mathew Hodge 23 February, 2018 | 8:20AM
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analysts upgrade Glencore mining miners commodities natural resources

Morningstar equity analysts have raised the fair value estimate for Glencore (GLEN) to £2.20 from £1.05 per share. The key driver of the uplift is higher commodity prices.

We have factored in spot prices for zinc, lead, nickel, and cobalt. On a weighted basis, this represents a 25% uplift in our forecast revenue for these mined commodities. We have also factored in higher spot prices for ferroalloys. Collectively, these changes add an annual average of $2.5 billion to revenue. In addition, we have raised our near-term forecasts for thermal and metallurgical coal and copper.

But despite the substantial uplift in our fair value estimate, we maintain Glencore shares are overvalued. With prices for many commodities, such as zinc, coking and thermal coal, copper and cobalt, trading well above the marginal cost and cost curve support, current earnings represent near peak-cycle conditions, rather than midcycle.

Full Year Results Surpass Expectations

Glencore’s full-year 2017 result beat our expectations, thanks to the tailwind from buoyant second-half commodity prices and a strong marketing performance. Adjusted net profit after tax of $5.2 billion was up 53% on last year's and ahead of our $5 billion forecast.

Higher second-half commodity prices provided a tailwind for marketing operations, driving revenue 27% higher and delivering a 13% rise in earnings before tax to $3.4 billion. Growth was impressive given the lost agricultural marketing earnings from the sale of half of the business from December 2016.

Given the strength of the balance sheet, we expect dividends to remain around 2017 levels despite the expectation for earnings to moderate. Glencore says there is potential for the pay-out ratio to rise and we expect this will be the case.

Investment Thesis

Glencore ranks among the most diversified of the global megaminers. But because China is the key demand driver for nearly everything Glencore digs out of the ground, diversification benefits are limited.

Weaker Chinese GDP growth and the end of the investment-led economic model portend tepid demand and lower prices for most of Glencore’s industrial commodities. Glencore's oil and agriculture businesses are less China-centric but smaller in size. Glencore's marketing business should be relatively resilient as China slows.

China is the world's largest consumer of copper and coal and has accounted for nearly all global demand growth in the past decade. With weaker Chinese demand growth set to pressure copper and coal prices, profits will be far harder to come by than in years past. Production growth is unlikely to be an offset, given our expectation for weak demand. Glencore has been rightfully more reticent than peers when it comes to large, capital-intensive greenfield growth projects.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Glencore PLC497.00 GBX0.81Rating

About Author

Mathew Hodge  is Morningstar's director of equity research, Australia & New Zealand.

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