BHP’s plan to return $US10.4 billion ($14.7 billion) through a buyback and a special dividend is an emphatically positive signal that the resources sector is in a good place at the moment.
Sensible disposal strategies, strong commodity prices and an end to crazy expansion in projects that didn’t make a return on investment are behind BHP’s capital return largesse.
Its capital return plan was one of many positive developments in the resources sector this week.
Gina Rinehart’s Hancock Prospecting lifted profit 28 per cent to $1.75 billion in the year to June and Glencore’s Hunter Valley coal mining operations are firing on all cylinders judging from a briefing for analysts on Wednesday.
Rinehart, who is using the bulk of her profits to pay down debt, has been one of the beneficiaries of consistently strong demand from Asia for iron ore.
Glencore’s upbeat disclosures about the performance of its Hail Creek thermal coal mine will be read by some as an indictment of Rio Tinto, which sold an 82 per cent interest in the Hail Creek joint venture for $1.55 billion in March this year.
It is a tribute to the mining skills of Glencore’s global head of coal assets, Peter Freyberg, that following a redesign the Hail Creek mine will deliver cost savings of $110 million a year. It will operate with 427 fewer employees while increasing production levels.
Coal is now Australia’s single largest export earner according to the latest analysis of the September trade data by Annette Beacher, chief Asia-Pacific macro strategist at TD Securities. She says the No.2 export earner after coal is tourism and third is iron ore, based on annualised quarterly data.
Beacher says the most notable aspect of the latest $3 billion trade surplus for September was the surge in LNG exports, which have tripled in the past three years to be approaching $50 billion. LNG will be the No.1 export by 2020.
Beacher says working out of an office in Singapore gives her a different perspective on the Australian economy to those economists in Australia. She can look through the noise about falling housing prices and the threat posed by the US-China trade wars.
She says the revival of the fortunes of Australia’s commodity producers is unequivocally positive for the economy, which is heading towards GDP forecast upgrades on the back of higher export income.
“Infrastructure spending and accelerating LNG exports are supporting growth, such that the economy is less dependent on the fortunes of iron ore, house prices and consumer spending than it used to be,” Beacher says.
“Having said that, an iron ore price above $US65 a tonne is positive for exports and budget revenues. As economic growth is increasingly broad-based, another bout of iron ore price weakness – for whatever reason – is unlikely to materially dent the outlook for Australia, nor concern the RBA.”
She says Australia might well be in the fortunate position of having twin surpluses – a trade surplus and a fiscal surplus.
Beacher is less concerned about a slowing Chinese economy than other commentators. She says Chinese industrial production has slowed from 20 per cent per annum in 2009 to 6 per cent per annum now and yet China’s imports of commodities remain high and are rising.
The $14.7 billion BHP capital management program is being funded by the sale of the company’s onshore gas assets in the United States. This disposal can be partly sheeted home to the activist pressure brought to bear by activist investor Elliott.
That is not to say that Elliott is happy with the buyback and special dividend. It is still focused on forcing BHP to end its dual-listed company structure. It won’t admit defeat even though BHP is not budging.
Elliott alleges the dual-listed structure destroys franking credits. It bases this claim on analysis by hired consultant FTI Consulting.
Most institutional shareholders interviewed by Chanticleer were happy with the capital management program.
That is not to say there was no criticism. John Abernethy, chief investment officer at Clime Asset Management, which has $900 million under management, says the buyback and special dividend should not have been approved by the Australian Taxation Office.
He says the ATO has rubber stamped a buyback scheme that allows high tax-paying shareholders to minimise capital gains tax through the use of the capital losses.
Analysis of the BHP off-market buyback by Evans and Partners suggests the after-tax proceeds for someone on zero tax will be $39 a share and $21.47 for someone on the highest marginal tax rate.
A super fund paying 15 per cent tax would have after-tax proceeds of $33.18 per share.
Geoff Wilson, chairman of Wilson Asset Management, says BHP is smart to get franking credits off its balance sheet and into the hands of shareholders ahead of the next election, which could see the Labor Party in power.
Labor plans to put an end to the payment of franking credits in cash to Australians on zero tax rates. Wilson would not be surprised if other companies moved quickly to get franking credits to shareholders.
Wilson says the opposition does not realise the extent of the impact of its planned changes to the franking credit system.
Disclosure: The author’s self-managed super fund owns shares in BHP.