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Summary

  • The Indonesian ban will push the commodity prices up.
  • The increased production over the next two years will allow the company to extract maximum benefit from recovering commodity prices.
  • Recovering global economy should support the rise in the copper prices over the next two years.

Southern Copper Corporation (NYSE:SCCO) is an integrated mining company, which produces copper, molybdenum, zinc and silver. The company has three operating segments located mainly in Peru and Mexico. SCCO derives the majority of its revenue from copper. Southern Copper has the largest copper reserves in the industry, with the longest mine life of its copper reserves. The company has a highly diversified geographical presence for its copper extraction, which derives almost 78% of the earnings.

The continuous decline in the copper prices has resulted in a decline of over 25% in the stock price during the last twelve months. However, we believe that the copper prices have hit the bottom, and this might be a good time to establish a position in this stock. In this article, we will analyze the dividends and the cash flows of the company, along with the growth potential of the stock.

Dividends Growth

Southern Copper had a pretty tough time dealing with fluctuating copper prices in the past few years. At the moment, the company pays an annual dividend of $0.48 per share, yielding 1.80%. During the last year, the company has distributed cash dividends of $575 million. Furthermore, the company has performed treasury stock operations of $281 million, which puts the total cash returned to shareholders at $866 million in the last year.

Coming to the payout ratio - the payout ratio based on free cash flow for Southern Copper is the highest amongst its peers due to substantial increase in capital spending by the company; hence leaving the free cash flows at the lowest level in the past five years. The total dividends paid for the last year stood at $575 million, and free cash flows for the same period were $154 million, which puts the payout ratio of Southern Copper at around 373%. However, the payout ratio based on earnings is much more encouraging for the company - SCCO had EPS of $1.92, which puts its dividend payout ratio at 25%.

The company has increased the capital spending by 62% during the last year. Moreover, the company wants to increase the capital spending guidance by 35% in 2014, which aims to increase the copper production capacity by 87% by 2017.

Future Prospects

Southern Copper derives a major portion of its revenues from copper production, and as I mentioned above, the weak prices have affected the company. However, the outlook for copper looks promising, and Southern should benefit from the turnaround in the copper prices. Here are some of the reasons we believe copper prices will bounce back up and increase the profitability of the company.

  • Indonesian Ban: The Indonesian ban on ore exports will distort the supply in the global market and have a profound impact on the commodity prices. We have already seen nickel prices go up, and as the inventories start to deteriorate in China and other major consumers, we expect an upward trend in the copper prices. China alone uses about 40% of the global copper production.
  • Economic Recovery: Over the next two years, we expect the global economy to make a considerable recovery, which should enhance the demand for copper and support the increase in the price.
  • Some major banks like Barclays are also predicting an increase in the copper prices. We believe the recovering copper prices and the company's decision to increase production will result in substantial growth in earnings over the next two years. The company has several prefeasibility projects expected to be completed in 2014, increasing annual production by an estimated 120,000 tons of copper, which could boost the company's extraction throughout the coming years.

Conclusion

Southern Copper can prove to be a solid investment over the next 2-3 years - the stock is a good option to play the rebounding copper market. The recovering global economy, along with the Indonesian ban should support the growing demand and push the prices up. Furthermore, the increased production capacity will allow the company to maximize the benefit from rising prices. The income component of the stock is low compared to some other high-yielding stocks in the market - however, mining companies are usually good dividend payers, and the expected rise in the stock price should give its shareholders a considerable total return. We believe Southern Copper is a very good investment at the current price level.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. IAEResearch is not a registered investment advisor or broker/dealer. This article was written by an analyst at IAEResearch and represents his/her personal opinion about the companies mentioned in the article. The article is for informational purposes only and it should not be taken as an investment advice. Investors are encouraged to conduct their own due diligence before making an investment decision. I am not receiving any compensation (other than from Seeking Alpha) for this article, and have no relationship with the companies mentioned in the article.

Source: Is Southern Copper Corporation A Good Investment?