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Glencore 31 5 11
Glencore 31 5 11
Research Report:
ADVISORY PORTFOLIO Report Date 31st May 2011 Analyst Ravi Lockyer MSc Llb Collins Sarri Statham Investments Ltd
Glencore is a leading commodities trader and marketer, mine owner/manager and industrial conglomerate
Key Risks to Price Target 1. Glencore investment activities involves asset ownership in countries with significant political risk. 2. Glencore cost of funds could rise sharply if it cannot maintain an investment grade rating. 3. Glencores trading business is heavily dependent on key personnel and reliant on the effective risk management of personnel. Please also note the risk warnings on the last page of this document.
The IPO lock-ups are well designed to help staff retention and make departures problematic. The possibility remains of a Mr Copper / Sumitomo Metals type problem as Glencore increases its dominance in illiquid metals niches encouraging staff to increase risk / desk / counterparty exposures. The increased publicity also makes Glencore more transparent and easier to sue. Glencore operates in unstable countries with reduced asset security and dubious business practices. Glencore will have to disclose the details of operations and manage problems under more public scrutiny. Glencore is unregulated from a US perspective like its peers, Noble, Trafigura, Louis Dreyfus & Cie and Vitol Group. The Dodd-Frank legislation will hit proprietary trading at US regulated firms but these restrictions do not apply to Glencore or its peers, a major opportunity over the next ten years. The listing gives Glencore an advantage over the peer group by providing an attractive acquisition currency. Trafigura has a similar business mix specialising in coal, shipping, storage, metals and petroleum (2010: US$79.2bn revenues, US$1.2bn industrial assets) and would make a good fit.
Glencores listed $33bn portfolio, a composition of various stakes in major metal producers offer considerable flexibility to the group in terms of corporate development in the event Glencore decided to pursue a consolidating strategy i.e. buying out minority interests. The portfolio provides $300m in annual pre-tax income (around $204m from XTA) below the cost of funding the portfolio. Hence Glencores net funding cost and exposure increases needs to be funded by group internally generated capital, borrowing or portfolio disposals. With Xstrata, there is flexibility and a working relationship. A Glencore merger would give Xstrata CEO Mick Davis the means to make a second attempt at Anglo American as well as provide synergy benefits to Glencore worth over $300m in annual net income. Ahead of the IPO, the Glencore CEO said a deal with Xstrata was a post IPO event and to be decided by the post IPO board. The only downside to an XTA combination would be XTAs low exposure to developing economies. A friendly merger with Xstrata appears a highly likely outcome as there would be little point otherwise in owning a 34.4% stake. Such a merger approach, we estimate has a 50% chance in the next 12 months. Glencores ownership of mining assets both in production and in development is a major plank of the growth story for the industrial asset division. Broadly this comprises the development of key copper, coal, zinc and oil assets in the 2011 to 2015 period. Significant output growth is being forecast from the major mines and oil fields highlighted below, this translates into an EBIT contribution of $1.1bn to 2015 for the African copper assets and $240m EBIT gain for Prodecos coal operations. Asset / Output pa Katanga (Cu) Mopani (Cu) Mutanda (Cu) Prodeco (coal MT) E&P(oil) (b/d)(Alen / Aseng) Kazzinc (gold) 2010A 2011F 2012F 2013F 2014F 2015F
52k 197k
10m -
15.6m -
347k
625k
760k
815k
800k
790k
$1.05bn. This risk would need to be set against growth, maturing pipeline opportunities at Mopeni and Prodeco, which should drive revenue gains of region $10bn to 2015. Glencore risk management stated VaR (value at risk) of approx 0.4% (Q3 2010) shareholders equity suggests the group daily loss exposure is circa $78m has moved between 0.1%-0.4% since Q1 2008.
Metals/ Minerals Zinc metal Zinc conc Copper Copper Con Lead Lead Con Alumina Aluminium Nickel Cobalt Ferrochrom Energy Oil Thermal Coal Met Coal Agriculture Products Grains Oil/ Oil seed
m MT m MT m MT m MT m MT m MT m MT m MT m MT k MT m MT m bbls/d m MT m MT
1.7 2.4 1.4 1.8 0.3 0.6 6.7 3.9 0.2 18 1.5 2.5 196 30
2.7 4.8 2.8 6.1 0.7 1.4 17.6 18.2 1.4 77 9.1 87.8 692 254
12.7 24.8 18.7 46.9 9.0 6.2 81.6 42.0 1.4 77 9.1 87.8 4,556 830
60% 50% 50% 30% 45% 45% 38% 22% 14% 23% 16% 3% 28% 12%
m MT m MT
19 8
224 178
1,986 644
9% 4%
1% 1%
Source: Glencore 14th April 2011 Addressable market represents the relevant market for consideration of Glencore market share based on the volumes which are accessible to a third party marketer, whilst total market represents global production.
Profit growth at Glencore marketing is top-line not margin driven hence the need to grow market share and possibly acquire other trading companies. Forecasts for this division are deal sensitive with expectations relatively low EBIT $2.3bn in 2010 is sustainable, with growth in the mid single digits as a stand-alone. Glencore marketing (2,700 employees, 2010 EBIT $2.3bn, current capital employed $15.3bn / short-term debt $12.9bn) had a return on capital of 15% in 2010 and return on equity (RoE) of 78% suggesting net income of around $1.87bn. The IPO will lift total capital and reduce debt, increasing equity and lowering RoE. Given inherent uncertainties to forecasting performance in any commodity trading model, we estimate marketing net income will remain in the range of $1.9bn-$2.5bn to 2015 this would assume single digit market share growth in key commodities, static commission rates and stable commodity prices.
Valuation / conclusion
Post IPO Glencore has drifted lower with a performance at odds with early reports of a 5 times IPO oversubscription. Some investors are concerned over Glencores complexity, its high degree of exposure to African assets and multiplicity of base metal risk exposures. At 528p the group is capitalised at 36.6bn/US$60bn but investors appear to be attributing a low valuation if we use a sum of the parts approach to Glencore. Broadly, our valuation suggests 583p share price using low assumptions for the development assets a key driver of valuation to 2015.
Method: SOTP Glencore listed portfolio Glencore development E&P assets Kazzinc Glencore marketing Cash Debt Total Per share valuation Source; CSS Investments Ltd industrial portfolio/ Assumption Market value 2015 EBITDA assume $3bn 4x Pre-discount $33.2bn $12bn Fair value $31.5bn $10bn
Agreed terms 12 x EBIT 2010 IPO proceeds Kazzinc 2010 debt $11.7bn net
$27.6bn $5.6bn -
Collins Sarri Statham Investments Ltd Rating System as at 28th September 2009: ANALYST RATING DEFINITIONS: BUY: A buy rating is applied to companies with established businesses that are profitable and where there is further profit growth expected. A buy recommendation means the analyst expects the share to appreciate by 20% or otherwise to reach the share price target on the note. HOLD: The companys valuation appears to reflect investor expectations in the short-term. Alternatively the company is awaiting key developments that will impact on the share price. Investors are advised to await the resolution of these key developments. SELL: The companys valuation appears too high having regard to material uncertainties, declining profit prospects or has sizeable funding requirements. A sell recommendation may also be applied where the board have failed in key objectives or appear to be frequently changing strategy. A sell recommendation means the analysts expects the shares to fall by up to 20% or to fall to the price target on the note or otherwise to underperform the FTSE All Share Index. LONG :- The stock/ security is expected to appreciate to the targets within the short term SHORT : The stock/security is expected to decline to expected targets within the short term NEUTRAL (NR) Collins, Sarri Statham does not maintain a view in either direction Key to Material Interests: Below are the six standard disclosures of Material Interests. Of these disclosures, the following are relevant to this research report: Glencore Relevant disclosures: 6 1. 2. 3. 4. 5. 6. The analyst has a personal holding of the securities issued by the company or of derivatives linked to the price of the companys securities. Collins Sarri Statham Investments Ltd or an affiliate owns more than 5% of the issued share capital of the company. Collins Sarri Statham Investments Ltd or an affiliate is party to an agreement with the company relating to the provision of broking services, or has been party to such an agreement within the last 12 months. Our broking services agreements include a provision that we prepare and publish research at such times as we consider appropriate. Collins Sarri Statham Investments Ltd or an affiliate has been a lead manager or co-lead manager of a publicly disclosed offer of securities for the company within the last 12 months. Collins Sarri Statham Investments Ltd is a market maker or liquidity provider in the securities issued by the company. Collins Sarri Statham Investments Ltd has clients who hold either shares or CFD positions in this security
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