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Introduction

Global copper mining is a multi-billion-dollar industry, geographically spread across continents, from Indonesia to Chile, and from Canada to Zambia. While extraction may occur all across the world and fuel the supply side of the copper industry, there have been few drivers of demand for copper in recent years. Developing countries have been at the forefront of copper utilization, namely China and, most recently, India. Prices of global commodities are heavily dependent on infrastructure and upgrading projects which create demand for commodities such as copper, iron ore and coal. In the case of copper, ore grades have retreated over time and high capital requirements have been reduced.

In this article, we will look at two of the world's largest copper miners. Freeport-McMoRan Copper & Gold Inc. (NYSE:FCX) is the largest publicly traded copper miner on the planet. Southern Copper Corporation (NYSE:SCCO) has the largest reserves of copper of any of the world's publicly traded miners. In the following analysis, I will be taking into account only the financial and future standing of the two companies in order to derive an effect on their stock performance.

Tracking Financials

Here are the numbers for the two companies for our analysis:

Indicators

Freeport-McMoRan Copper & Gold

Southern Copper

Price/Earnings (TTM)

10.74

16.93

Price/Sales

1.9

5.0

Price/Book

1.9

5.1

Forward P/E

8.7

14.9

5 Year Growth Forecast

-4.6%

1.3%

Dividend Yield

3.65%

2.92%

ROE

18.08%

36.3%

Operating Margin

32.58%

47.82%

Debt/Equity

0.21

0.42

Current Price

$34.26

$38.60

Estimated Fair Value Range

$48-$67

$35-$41

Stock Valuation

Undervalued

Fairly Valued

Upside Potential (Premium) to Reach a Fair Stock Value

41%

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Data from Morningstar on February 20, 2013

The discounted earnings plus equity model, developed by EFS Investment Partners and applied to the two competitors, suggests that currently FCX stock is undervalued, whereas SCCO is fairly valued. In addition, EFS' fair stock price valuation indicates that currently Freeport-McMoRan is trading at an attractive discount.

What Does 2013 Have in Store for Copper Mining Companies?

On January 13, 2013 HSBC raised its price forecast for copper from $7,500 per tonne to $8,000 per tonne.

Back on October 15, 2012 investment bank Goldman Sachs reiterated its earlier bullish forecast for copper prices to reach US$9,000 per tonne within six months.

Chinese demand has been a key driver of higher copper prices in the past and recent economic news out of China does not support the bearish view that China is in trouble. GDP growth for Q4 2012 came in at 7.9%, compared to 7.4% in Q3.

Finally, commodity based ETFs have fueled share price increases in other areas like gold and silver. In 2013 investors could see the introduction of an ETF from JP Morgan backed by physical copper. Investors have been able to invest directly in gold and silver through ETFs for some time. Direct consumers of copper are objecting to this newly approved ETF fearing it will distort supply and demand fundamentals and lead to artificial increases in the price of copper. This drama is one all investors interested in copper-related stocks need to watch.

Freeport-McMoRan mines gold and molybdenum as well but the company's mainstay is copper. The company derived 52.3% of its revenue from copper in 2012; 53.1% in 2011; and 56.2% in 2010. Freeport's share price was rising nicely in the late summer and early fall of 2012 and then the company dropped a bombshell. Decades ago the company had shed its oil exploration assets to focus strictly on precious metals. On December 5, 2012 the company announced its intention to acquire not one, but two oil and gas exploration and production assets, McMoRan Exploration and Plains Exploration and Production. Investors were not happy, driving down the share price 17%. On February 19, 2013 the company announced the debt financing to cover the deal and the share price went down again. Here is a six month price movement chart and a 5 day chart from Yahoo Finance for Freeport showing the moves:


(Click to enlarge)


(Click to enlarge)

The December announcement was quickly followed by shareholder lawsuits and analyst downgrades. In theory, transitioning from a veritable pure play copper miner to a more diversified resource company makes some sense. In practice, the world's largest diversified resources company, BHP Billiton (NYSE:BHP), has managed to be quite successful with its multiple resource revenue streams, including oil and gas. Investors may not like the move now, but in the long run these new assets, especially the natural gas assets in the U.S., could pay off handsomely if the company intends to get into the exporting of Liquefied Natural Gas to Asia.

Southern Copper Corporation also mines silver, molybdenum, lead, and silver, but like rival Freeport, copper is its principal revenue source. The company is 80% owned by Grupo Mexico, a conglomerate holding company with mining, rail, and infrastructure assets. Southern Copper enjoys a low-cost production advantage due to its open-pit mines in Peru and Mexico, as evidenced by its lofty operating margin of close to 48%.

Southern has been a dividend powerhouse over the last few years with annual yields of 12.10% in 2008 before the financial crash; 1.34% in 2009; 3.45% in 2010; 8.15% in 2011; and 9.4% in FY 2012. The current trailing twelve month yield is 2.49%. The company is facing labor problems in Peru and either higher labor costs or a strike could put the company's dividend as well as its profitability in peril. The stock has been red hot year over year, rising 36.75%. Southern has outpaced rival Freeport by a wide margin, as the following price chart from Yahoo Finance clearly shows:


(Click to enlarge)

The stock price took a hit in early February following multiple analyst downgrades citing concerns over dividend payments as well as the stock having run too far too fast. However, note that the Citi analyst called the company's copper assets "virtually unique "and went on to say "the stock remains a relatively superior long-term holding amongst miners." Like the other analysts, Citi worries both the dividend yield and the P/E are not sustainable in the short term. The company's recent earnings release was mediocre, with expected declines in revenue due to lower copper prices. Management stated it would continue expansion plans into 2013 with the goal of an 84% increase in copper production by 2013.

Final Verdict

Both these companies deserve a look. Shares of Southern have been dropping in February and bad news in the coming weeks on the labor situation in Peru could send investors scampering for the exits to take profits. That could present a solid buying opportunity for those investors wanting to get in as well as for long-term buyers looking to add to their holdings.

Freeport's Price to Book Ratio of 1.9 is well below the standard of 3.0 used by many value investors. Cautious investors may be put off by the $4 billion term loan along with a $3 billion revolving credit facility to fund the acquisitions. In addition, there are shareholder class action lawsuits plaguing the company. However, even those with low risk tolerance would do well to watch Freeport's moves in natural gas. The company has well established relationships with China and could benefit handsomely from increasing demand for natural gas in a country choking in its own carbon fumes. Check the latest news for yourself and you will learn air pollution in China is now visible from space and drifting as far as Japan!

Source: Freeport-McMoRan Vs. Southern Copper: Which Is The Winning Bet For 2013?