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During the end of December 2011, when I was bargain hunting, I noticed that stocks in the Basic Materials sector had been beaten up. I went right away to check out Vale S.A. (NYSE:VALE). [Here, I should mention that I had been a shareholder from 2009 till early 2011. At that point, I sold my entire position due to concerns about the future and a desire to lock in my substantial gains.] Vale looked cheap on a number of different metrics, but there were a few factors that scared me away. I began to look around the sector at Rio Tinto (NYSE:RIO), BHP Billiton (NYSE:BHP), etc. I was pleasantly surprised to find that BHP had increased its dividend over the past several years. Then, I was even more excited to find out about BBL, the U.K. listed shares. I eventually took a position in BBL around $61 a share.

On January 31, I read an article entitled, "Vale S.A.'s 7% Yield Is Set To Grow." This caused me to reexamine my previous conclusion. What follows is an explanation of why I do not intend to initiate another position in Vale and why I still think BBL is a better buy.

Concerns with Vale

  • Vale's recent debacle with the super-freighters and China. In case you are unaware, Vale created a fleet of super-freighters to transport iron ore to China. However, on its maiden voyage, one of the vessels started taking on water, and it has been determined that it is irreparably damaged. Additionally, one of the freighters that did reach China was not allowed to dock for a few weeks. The problem was eventually resolved, but now China has created new, more stringent regulations related to these vessels. You can chalk this up to poor management or trouble brewing with China, but either way, it makes me nervous.
  • I found this enlightening article from the Financial Times. These are the key points that I took away from the article:
    • I was reminded that, while I was a shareholder, I became uncomfortable with the government's majority stake in the company. I also had a bad experience with the Brazilian government when I was previously a Petrobras (NYSE:PBR) shareholder.

    • The UBS analyst made a valuable point about Vale's proposed buybacks, and dividends and the danger to its balance sheet if the price of iron ore declines further.

  • Analysts expect it to be less profitable in the future (FP/E).
  • The dividend increase is just temporary for this year and cannot be counted on in the future.
  • Foreign taxes (approx. 15%) will be withheld from the dividend payment (even if owned in an IRA).

Why I would still choose BBL today

  • P/E of 7.9 as compared with its 5-year average of 14.1
  • Dividend of 3.27%
  • 5-year DGR of almost 26%
  • Payout ratio of 21%
  • No taxes withheld if owned in an IRA.

Conclusion

Yes, I understand that these companies are relatively similar in value and growth metrics. They will also both suffer if iron ore prices fall; although, I would argue that BHP is more diversified. Also, the management of BHP is not perfect either, but I see more value and a margin of safety that makes me feel comfortable to put my money to work.

Disclaimer: As always, this is my own opinion; do your own due diligence. Most data acquired from Yahoo, Morningstar, and Seeking Alpha on market close 1/31/12.

Source: Why I Chose BHP Billiton Over Vale