BHP Group Ltd (ASX: BHP) is Australia’s largest resource company that specialises in extracting minerals (mainly iron ore and copper) as well as oil and gas. BHP main operations are within Australia and the Americas. BHP has a market capitalisation of A$244 billion.
What are the key features of the FY20 result for BHP?
BHP’s revenue for FY21 is US$ 60.8 billion, up 42% from FY20. Underlying profit after tax from continuing operations is US$17.1 billion, up 88% from FY20. BHP will pay a final dividend to shareholders of US$2.00 (fully franked) compared to US$0.55 for FY20. This makes the full year dividend US$3.01, representing a pay-out ratio of 89%.
The key driver of BHP’s strong FY21 result was rising commodity prices. In particular, the average realised price in FY21 compared with FY20 for iron ore is up 69%, while copper is up 52% and nickel is up 17%. Movements in the other commodity prices were more modest.
Regarding BHP FY21 production levels compared with FY20, petroleum production is down 6%, copper production is down 5% (Escondida production is down 10%, while other copper production is up 6%), iron ore production is up 2%, metallurgical coal production is down 1%, energy coal production is down 17% and nickel production is down 11%.
BHP’s balance sheet remains in a good position. BHP’s net debt at 30 June 2021 is US$4.1 billion, which for BHP is very low. This is a decrease of US$7.9 billion from 30 June 2020 reflecting record free cash flow generation by the operations which more than offset the record ordinary dividends paid to shareholders.
What are the strategic changes BHP is making?
Along with its FY21 result, BHP announced three important major strategic changes to its business operations. First, BHP and Woodside Petroleum Ltd (ASX: WPL) have entered a merger commitment deed to combine their respective oil and gas portfolios by an all-stock merger. Essentially, this means that Woodside will buy BHP’s petroleum assets in exchange for Woodside shares. These Woodside shares will be distributed to BHP shareholders. On completion, it is expected that Woodside will be owned by approximately 52% and 48% of existing Woodside and BHP shareholders respectively. The proposed merger creates a global top 10 independent energy company by production and would be the largest energy company on the ASX. This merger is expected to deliver substantial benefits, including estimated synergies of more than US$400 million per annum.
Second, BHP intends to unify its current Dual Listed Company structure, subject to final Board and other approvals. Plc shareholders' shares will be exchanged for Limited shares on a one-for-one basis. BHP's Board, management, dividend policy, ability to distribute fully franked dividends and fundamentals will remain the same. BHP considers that unification will result in a corporate structure that is simpler and more efficient, reduce duplication and streamline BHP’s governance and internal processes. BHP also considers that a unified structure will improve flexibility for portfolio reshaping to maximise value for shareholders over the long-term, including facilitating a simpler separation of BHP petroleum assets. Consequently, the unification will occur prior to the merger of BHP’s petroleum assets with Woodside’s petroleum assets. It is expected that unification will occur in the first half of 2022.
The justification for this change is that following recent changes to BHP’s portfolio (mainly through the demerger of S32 Ltd (ASX: S32)), there has been a significant reduction in earnings contribution from Plc assets, as well as a material reduction in the expected costs of unification of approximately US$1.2 billion. It is expected that there will be one-off costs of US$400 to US$500 million to complete the unification.
Third, BHP announced that it plans to proceed with stage 1 of the Jansen potash project located in Canada. BHP considers that exposure to potash provides increased leverage to key global mega-trends including rising population, changing diets, decarbonisation and improving environmental stewardship. It also provides long term growth opportunities.
Stage 1 of the project involves capital expenditure of US$5.7 billion (C$7.5 billion), which includes funding for the required port infrastructure. Jansen is expected to produce approximately 4.35 million tonnes of potash per annum. First ore is expected in 2027, with construction expected to take approximately six years, followed by a ramp up period of two years. At consensus prices, the project is expected to generate an internal rate of return of 12 to 14%, an expected payback period of seven years from first production and an underlying EBITDA margin of approximately 70%.
What is the outlook for BHP?
BHP has provided an outlook for production and commodity prices. The main point about the production outlook for FY22 is that petroleum and copper production will be slightly lower while iron ore production is expected to be marginally higher. However, like FY21, the key driver of FY22 earnings will be movements in commodity prices, particularly the iron ore price. In recent weeks, the iron ore price has weakened to around $US160 per tonne compared to a peak of around $US220 per tonne. While the price of iron ore has weakened, in the short term, iron ore prices are expected to remain strong reflecting flat production profiles of the major producers. In the long term, it can be expected that the iron ore price will weaken towards a long-term average of say US$50 per tonne because at some point there will be a supply response.
What is the market reaction to the FY21 result?
BHP’s FY21 result and dividend payment are largely in line with market expectations. The merger of BHP’s and Woodside’s petroleum assets and BHP removing the current Dual Listed Company structure makes sense taking a long-term view and the market should see this as a positive over time. The BHP is trades on a forward P/E ratio of around 10 and dividend yield of around 8%.
This article has been prepared by the Australian Stock Report Pty Ltd (AFSL: 301 682. ABN: 94 106 863 978)
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