Two months ago, Glencore’s shares fell 30 per cent in a day after analysts at Investec suggested the company’s equity could shrink dramatically if weak spot prices for the commodities it produces persisted. The reasoning was that almost all of the company’s operating earnings would be eaten up by the costs of servicing its debt. Applying a price/earnings multiple of 15 to whatever was left after taxes implied a market capitalisation of $6bn. Spot prices have worsened since then — copper, for instance, is down another 15 per cent. Yet Glencore’s equity value is more than $18bn.
The company has intensified its efforts to cut costs and debt. On Thursday, it said that “capital preservation” measures would add up to $13bn from a previous target of $10.2bn. The extra is coming from lower capital expenditure, the likelihood of more forward sales of output and higher proceeds from disposals. As a result, net debt will drop to $18bn-$19bn by the end of 2016 (including “readily marketable inventories” of about $14bn); 2016 earnings before interest, tax, depreciation and amortisation will be about $7.7bn, well above market consensus of about $6.5bn.
Plenty could still go wrong. The company can expect little help from commodity prices. Divestments are in train but not yet completed. An unforeseen event — think of the tailings dam burst at BHP’s Brazilian iron ore mine— could easily blow the finances off course. And Glencore is not going to be in a position to buy assets at the bottom of the cycle, as less leveraged players may. Conversely, lower input costs are reducing capital and operating costs. The strong dollar is a boon for a company with no operations in the US, and margins in the trading business are proving more resilient than expected.
It is not just about the earnings, though. Six months or so ago, investors thought Glencore managers had their heads in the sand. Since then, they have cut its dividend, tapped shareholders for cash and followed up with a Mario Draghi-style “whatever it takes” message. The shares are still well below the 125p at which the group recently raised equity— but they are no longer just options on the company’s survival.
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