Freeport McMoRan (FCX) has just released its Q3 financial results, and it's needless to say I was looking forward to see the results of the first quarter with the acquired oil businesses being integrated in the company. When FCX originally announced it would acquire Plains Exploration & Production (PXP) and McMoRan Exploration (MMR), I wasn't fully convinced about the prospects of the final entity, as Freeport would load its balance sheet with a lot of debt again as the company saw its liabilities double after closing the deals.
In this article, I'll subsequently look at the financial results and the balance sheet to see if the company has already had a chance to improve its balance sheet after the stable copper price and high oil prices in Q3.
My view on the financial statements
Freeport announced total revenues of $6.165B and a net profit of $821M or $0.79/share, which is better than what I was expecting, and also higher than the analyst estimates, as explained by fellow author Brian Gilmartin in a Seeking Alpha article yesterday. As the company sold in excess of 1 billion pounds of copper, still over half its revenue comes from copper sales, followed by 305,000 ounces of gold (6.5%), 23 million pounds of molybdenum (3.5%) and more importantly, the revenues for oil and gas are now 28M of the consolidated revenue of the company and are thus extremely important.
I'm especially impressed with the results of the oil business, as company realized a net margin of $64 per barrel of oil equivalent, which is excellent. This removes my initial fears about the two large acquisitions of PXP and MMR.
Unfortunately the copper and gold production came in lower than the guidance issued in July, as Freeport produced 20 million pounds of copper and 25,000 ounces of gold less than anticipated. If the company would have met its production guidance, the revenue would have been almost $99M higher (using the average received price of $3.28/lbs of copper and $1328/oz of gold).
My view on the balance sheet
Looking at the balance sheet, Freeport still has a very healthy working capital of almost $5.1B, and a current ratio of 2.12, although this is worse than the $6.9B working capital position and a current ratio of 3.08 at the end of last year. This deterioration was obviously caused by the acquisition of PXP and MMR, which is also the reason why the debt position six-folded from $3.5B to $21B.
On the other hand, the book value increased to $19.66/share compared to $18.49 per share as of at the end of last year.
Based on the current balance sheet and the company's cash flow guidance, I expect the balance sheet to remain relatively constrained for the foreseeable future, and I think we'll only see a substantial debt reduction from 2016 on when the Cerro Verde expansion will be completed and very likely throw off an additional $0.75-1B in operational cash flow per year.
Does the outlook satisfy me?
Freeport expects to generate $6B in operating cash flow this year by selling 4.1 billion pounds of copper, 1.1 million ounces of gold, 92 million pounds of Moly and 37.5 million barrels of oil-equivalent.
Unfortunately, as FCX will spend $5.5B on capex, the free cash flow will be very minimal this year. This might sound bad, but every investor should look at Freeport as a long-term investment as most of the capex will be spent on projects which will be accretive to the bottom line down the road (as for instance $3.5B needs to be spent on the Cerro Verde expansion which will boost the annual revenue by approximately $2.2B from 2016 on. Please note these are my own estimates and is not an official company guidance).
Because of this, I don't really care about the current low level of free cash flow, as I'm keeping my eyes on the longer-term prize, and I expect Freeport to positively surprise a lot of investors in three years time when the Cerro Verde expansion will have been completed.
But even the short-term guidance pleases me, as Freeport expects to increase its copper and gold production in Q4 by respectively 5.7% and a very nice 29%. On the other hand, FCX expects the oil production to come in at a 3% lower level compared to the Q3 output.
FCX had a very interesting quarter, and my fears about the two large acquisitions have eased a bit, and I've got the impression the PXP and MMR-acquisitions will indeed be accretive in the longer run. Because of this, I'm thinking about re-investing in FCX, but preferably at a lower price (as I don't like to chase a stock price). As FCX is also paying an annualized dividend of $1.25/share, Freeport could be a good possibility to add exposure to copper and oil (80% of the Q3 revenue) in a dividend portfolio as the company has a dividend yield of 3.57% based on yesterday's closing price.
I think the best way to play Freeport McMoRan right now is through writing put options and waiting to get them assigned. I'm particularly looking at writing Put 30s for February 2014 and maybe a very long-term P 25 for January 2015, but I'll obviously have to wait to see how the market responds to the Q3 results and how this will affect the option premiums.