by Frank Curtin
Freeport-McMoRan (FCX) engages in the exploration, development mining and milling of copper, gold, molybdenum and silver as well as the smelting and refining of copper concentrates. The company's profits rise and fall mainly with the price of these individual commodities but there are several other variables at work that determine the ability of the company to sustain its profits. These variables include political risks, labor disputes, rising input costs and natural disasters to name a few.
In its most recent earnings report, Freeport-McMoRan beat analysts' estimates by $.03 per share coming in at $.67 per share on a profit of $640 million. This compares to a profit of $1.63 per share or $1.5 billion a year ago, and the shortfall is mainly due to the Grasberg strike that shut down the facility in Indonesia for four months of last year. Rio Tinto (RIO), the company's closest competitor, was also affected by the shut down as it is in a joint venture in the project with Freeport-McMoRan Copper & Gold. Rio Tinto was effected to a lesser degree because it holds only a minority interest in the project at this time. The Grasberg operations contain the world's largest reserve of gold and one of the largest copper reserves.
Freeport-McMoRan's revenue on the quarter was $4.2 billion where a year ago it was $5.6 billion to put the short fall into perspective. It is my opinion that if the company can overcome its dispute with its labor force in the region the company's metrics will improve significantly this year. In addition to this supply constraint, the recent increase in automobile sales in the United States and renewed demand in the Chinese and Indian markets through global economic recovery in the year will improve the demand side of the equation. In further support of this assertion, Southern Copper (SCCO) another one of the company's competitors, did very well last year comparatively. Southern Copper's revenue rose by 50% year over year and its production increased by 23% in absents of labor tribulations.
Over three quarters of Freeport-McMoRan's revenues come from the sale of refined copper, and 75% of the refined copper is used in the construction industry, in addition to the manufacturing of electrical appliances and industrial machinery. Copper consumption worldwide has been growing at an annual rate of 3.1% over the past twenty years, with a significant increase in the last decade, mostly due to the development in the BRIC Countries (Brazil, Russia, India and China). Over one third of copper's worldwide demand comes from the construction industry where it is used in electrical wiring, construction siding, and in frames. I believe the demand for copper in the BRIC Countries will increase exponentially in the next few years, and Freeport-McMoRan will benefit directly from this increased demand.
In anticipation of this increased demand and to offset the increased risk in the company's Grasberg operations, Freeport-McMoRan is ramping up production of its ever growing inventory of global projects and reeling in the rewards of a selling price for copper that has advanced 7.5% over the past twelve months to $3.86 per pound. The selling prices of the other minerals the company mines have risen in a similar fashion over the past year. The commodity rises enabled the company, over the past year, to increase its dividend, increase its cash flow, and pay down its debt by 25%. Keep in mind this was when a significant portion of the company's production was stagnant for half the year. I think this says alot about the company's fundamentals going forward, and the quality of its management.
Although the Grasberg mine has proven to be a headache for the company in many respects and most recently has become a political risk, the operation does represent one of its most important assets. The company's performance in the past year does prove Freeport-McMoRan's geographic diversification will insulate it from devastation if the Indonesian political climate goes south, in my opinion. The latest government ruling requires foreign investors to gradually reduce their stake in mineral and coal mines until they reach a maximum 49% ownership-- the previous limit was 80%. The company has stated that the new ruling will not affect it because of current contracts it holds with the Indonesian government. The share price has been declining on the news, which could present a great buying opportunity if the company's beliefs prove to be true.
This declining share price is also improving the dividend yield, and many market analysts see the stock as oversold. The falling price creates an increasing dividend yield, and at the price of around $40 per share, the dividend yield was at 2.4%. I like Freeport-McMoRan at its present price of around $38 per share. I firmly believe a good strategy at this point would be to buy at time intervals until you reach your desired exposure in the stock.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
