Company Overview: South32 Limited (ASX: S32) is a globally diversified mining and metals company with operations in Australia, Southern Africa and South America. S32 is primarily involved in the mining and production of alumina, aluminium, bauxite, energy coal, manganese ore, metallurgical coal, manganese alloy, silver, nickel, lead and zinc. The company has various partnerships with junior explorers with a bias to base metals and owns high-grade zinc, lead and silver development options in North America. The company is focussed on optimising the performance of its existing operations and unlocking potential by converting high-value resources into the reserve.


S32 Details
 


Continues to Reshape and Improve its Portfolio: South32 Limited (ASX: S32) is a diversified mining and metals company, involved in the mining and production of alumina, aluminium, bauxite, metallurgical coal, energy coal, manganese ore, manganese alloy, nickel, silver, lead and zinc. The company is focussed on optimising the performance of its existing operations and unlocking their potential by converting high-value resources into the reserve. In addition, the company is committed to create value through social and environmental leadership.

The growth agenda of the company is to create a pipeline of high-quality development opportunities in commodities that are expected to have strong fundamentals in the future. Over the years, the company has established a strong track record of returning excess capital to shareholders in a timely and efficient manner. Over the period of 2015-2019, the company’s underlying EBIT has increased at a CAGR of 9.5%. 


Historic Business Performance Outcomes (Source: Company reports)

Looking forward, the company is focused on including high returning options which are focused on base metals and have the potential to deliver meaningful growth over the medium-term. South32 Limited is also committed to improve return on invested capital and prioritising a strong balance sheet to make sure that it remains in control through economic cycles. Despite the recent market volatility, the company continues to work to reshape and improve its portfolio. 

FY19 Performance Highlights: In FY19, the company witnessed strong operating performance which delivered underlying earnings before interest, tax and depreciation of US$2.2 billion and free cash flow of US$1 billion. For the full year, the total dividend stood at US 7.9 cents per share. During the year, the company returned US$938 million to its shareholders.

In FY19, the company continued to reshape and improve its portfolio, securing high potential development options for the future, while maintaining a leadership position in alumina and manganese. The company expanded its global footprint with 50% acquisition of Eagle Downs Metallurgical Coal project in Queensland’s Bowen Basin and the acquisition of the high-grade zinc, lead and silver Hermosa project in Arizona. 
 

Financial Key Performance Indicators for FY19 (Source: Company Reports)

H1FY20 Performance Highlights: The company entered FY20 with a strong balance sheet and a solid pipeline of future opportunities. During the first half of FY20, the company delivered strong operating results with production for the majority of its operations tracking on or ahead of schedule. Over the half-year period, the company delivered record production at Brazil Alumina and maintained higher output rates at Worsley Alumina.

S32 reported statutory profit after tax of US$99 million and underlying earnings of US$131 million in H1FY20. The half-year financial results were impacted by the volatile macro-economic conditions which affected the prices of the company’s key commodities and a temporary increase in its underlying effective tax rate. For H1FY20, the company declared an interim dividend of US 1.1 cents per share and a special dividend of US 1.1 cents per share (fully franked).

In H1FY20, the company continued to embed high-quality development options including the Ambler Metals Joint Venture in Alaska while investing in its portfolio of more than 20 exploration projects targeting base metals in prospective jurisdictions. During the period, the company also inked a binding conditional agreement for the sale of its South Africa Energy Coal business and progressed the review of its manganese alloy smelters.


H1FY20 Results Snapshot (Source: Company Reports)

Top 10 Shareholders: The top 10 shareholders have been highlighted in the table, which together forms around 33.28%. Schroder Investment Management Ltd. and Vanguard Investments Australia Ltd. hold the maximum interest in the company at 10% and 6.07%, respectively.


Top 10 Shareholders (Source: Thomson Reuters)

A Quick look at Key margins: For H1FY20, the company’s EBITDA margin stood at 18%, higher than the EBITDA margin of H2FY19. The company has a current ratio of 2.03x, higher than the industry median of 1.76x, demonstrating that the company is well equipped to pay its short-term obligations. The company has a debt to equity of 0.11x, lower than the industry median of 0.17x.


Key Metrics (Source: Thomson Reuters)

Maintaining Financial Strength amid Covid-19 Pandemic: In response to Covid-19 situation, the company has introduced a number of measures to maintain reliable operations and supporting its communities. The company has maintained its financial strength by suspending the remaining US$121M of its current on-market share buy-back program and lowering FY20 sustaining capital expenditure guidance, including equity accounted investments, to US$500 million. In addition, the company has initiated a group-wide review focused on reducing controllable costs across its operations from FY21. As per the market update released on 27 March 2020, till now the company has not experienced production interruptions from COVID-19 at any other operations. 

March 2020 Quarter Update: Including the March 2020 quarter results, the company has delivered record year to date production at Hillside Aluminium and Brazil Alumina. During the March quarter, the company invested US$12 million towards exploration programs at its existing operations including US$5M at Hermosa. At the end of the quarter, net cash declined by US$127 million to US$150 million, mainly due to the payment of interim and special dividend.


Production Summary (Source: Company Reports)

What to expect: Due to the Covid-19 restrictions, the company has removed guidance for its operations in South Africa and Colombia and lowered FY20 production guidance at Australia Manganese by 5%. However, the company has maintained its FY20 guidance for all other operations, where till now the production and sales have been unaffected by its response to COVID-19. 

The company is on track to return to a three longwall configuration in the June 2020 quarter at Illawarra Metallurgical Coal, where study work to further optimise production, sustaining capital and operating costs to maximise long-term value has been advanced following strong longwall performance.

With a strong balance sheet disciplined capital allocation strategy, the company’s business is well-positioned to successfully navigate through this period of uncertainty. The company continues to reshape as well as improve its portfolio, evident from its recent achievements which include forming the Ambler Metals Joint Venture, maintaining momentum at Hermosa and progressing the sale of South Africa Energy Coal.  Further, the company is expecting to see the benefit of its cost reduction initiatives in its FY21 operating unit cost guidance. 


Key Valuation Metrics (Source: Thomson Reuters)

Valuation Methodology: EV/EBITDA Multiple Based Relative Valuation (Illustrative)

EV/EBITDA Multiple Based Approach (Source Thomson Reuters), *1 USD = ~1.53 AUD

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months

Stock Recommendation: The company’s balance sheet remains strong with cash and cash equivalents of US$1.2 billion, no term debt and an undrawn US$1.5 billion revolving credit facility. Despite the Covid-19 restrictions, the company has maintained the production guidance for most of its operations, demonstrating the resilient performance during the current challenging times. In the past six months, the stock of S32 has declined by 28.03% on ASX and is trading close to its 52-week low, offering a decent opportunity for accumulation. We have valued the stock using EV/EBITDA multiple based illustrative relative valuation method and arrived at a target price with lower double-digit upside (in % terms). For the purpose, we have taken peers like OZ Minerals Ltd (ASX: OZL), IGO Ltd (ASX: IGO) and Mineral Resources Ltd (ASX: MIN). Considering, the company’s strong balance sheet position, resilient performance amid Covid-19 pandemic, and current trading levels, we give a “Buy” recommendation on the stock at the current market price of A$1.870, up by 0.809% on 29 April 2020. 


S32 Daily Technical Chart (Source: Thomson Reuters)

Disclaimer

The advice given by Kalkine Pty Ltd and provided on this website is general information only and it does not take into account your investment objectives, financial situation or needs. You should therefore consider whether the advice is appropriate to your investment objectives, financial situation and needs before acting upon it. You should seek advice from a financial adviser, stockbroker or other professional (including taxation and legal advice) as necessary before acting on any advice. Not all investments are appropriate for all people. Kalkine.com.au and associated pages are published by Kalkine Pty Ltd ABN 34 154 808 312 (Australian Financial Services License Number 425376). The information on this website has been prepared from a wide variety of sources, which Kalkine Pty Ltd, to the best of its knowledge and belief, considers accurate. You should make your own enquiries about any investments and we strongly suggest you seek advice before acting upon any recommendation. Kalkine Pty Ltd has made every effort to ensure the reliability of information contained in its newsletters and websites. All information represents our views at the date of publication and may change without notice. To the extent permitted by law, Kalkine Pty Ltd excludes all liability for any loss or damage arising from the use of this website and any information published (including any indirect or consequential loss, any data loss or data corruption). If the law prohibits this exclusion, Kalkine Pty Ltd hereby limits its liability, to the extent permitted by law to the resupply of services. There may be a product disclosure statement or other offer document for the securities and financial products we write about in Kalkine Reports. You should obtain a copy of the product disclosure statement or offer document before making any decision about whether to acquire the security or product. The link to our Terms & Conditions has been provided please go through them and also have a read of the Financial Services Guide. On the date of publishing this report (mentioned on the website), employees and/or associates of Kalkine Pty Ltd do not hold positions in any of the stocks covered on the website. These stocks can change any time and readers of the reports should not consider these stocks as personalised advice.