As one of the largest international mining companies with a market capitalization of about $35 billion, Freeport-McMoRan (FCX) is engaged in the business of copper, gold, silver and molybdenum mining. It has assets in Indonesia, North and South America and Democratic Republic of Congo [DRC] and also has a wholly owned smelting company in Spain called Atlantic Copper. Through these operations, the company generated total revenue of $19.78 billion in the year 2011, with a net income of $3.83 billion. As of December 31, 2011, it is in possession of mining reserves worth 119.7 billion pounds of copper, 33.9 million ounces of gold, 3.42 billion pounds of molybdenum, 330.3 million ounces of silver and 0.86 billion pounds of cobalt.
This company currently operates at a healthy profit margin of about 25% and an equally healthy return on equity exceeding 25%. It also has been providing a good dividend yield of 3.3% for its investors over the years and has a trailing twelve month EPS of $4.01. It also enjoys one of the best valuations in the industry, having a P/E ratio of about 9.08 against an industry average of 9.55.
Recently, Freeport has shown a drop in its earnings by 39% vis-à-vis its first quarter earnings of 2011. This has been attributed to work interruptions in its Indonesian mine. However, in spite of the fall in earnings, the company has managed to surprise most analysts with better figures than estimates. Given the company's financial might, the problems that it faces in a particular country have done little to dent its fundamentals. As per reports, the labor-related problems faced by the company in Indonesia have been resolved, and production has commenced. Hence, the future earnings of Freeport are likely to witness a quantum jump.
Some of its major competitors are Southern Copper (SCCO), Vale (VALE), Rio Tinto (RIO) and Newmont Mining (NEM). Southern Copper is one of the largest copper mining companies in the world in terms of both its reserves and production capacity. However, as far as its valuations are concerned, the company has a higher P/E at 10.98 as against 9.08 of Freeport. The cash flow of the company has also remained static over the last three years. Copper prices, after having witnessed a rise over the years, have actually started coming down in the current year. Significant business risks due to its overwhelming exposure in Peru and Mexico, where there has been political instability and resistance to mining activities, have reared their heads. It has also tried to boost investor confidence by declaring high dividends for its investors ($2.12), resulting in a dividend pay-out ratio as high as about 89% (as against 37% of Freeport), which is not sustainable in the future and is likely to impact its growth prospects.
Newmont Mining is a relatively smaller company with respect to its market capitalization as well as in its mining operations. The positives for the company are its relative low beta of 0.22, giving it an extremely stable outlook in the current market scenario and better future valuation estimates (FYE Dec 31, 2013) of 8.35 price to earning ratio. However, currently it is trading at high valuations, with its P/E ratio as high as 68.49 against an industry average of 10.98. Further, the company also has a very high dividend payout ratio of 179%, making it a suspect in its future operations. Hence, Newmont's ability to benefit the investors, in my opinion, is limited.
Vale is one of the largest mining companies by market capitalisation ($109.8 billion), mining iron ore, manganese ore, ferroalloys, copper, thermal and coking coal, phosphates, potash, cobalt, kaolin, and platinum group metals (PGMs). It also operates some logistics systems in Brazil, integrated with its mining operations. Hence, this company too, like the Freeport, has the fundamentals to grow exponentially as the economic activities turn around. Further, the current valuation of the company is also at very attractive levels, having a P/E multiple of just 6.52. The company has its presence in countries like Canada, Brazil, Taiwan, UK and China, all of which have favorable economic policies. However, in its recent quarterly earnings, its numbers were lower than street estimates. The company has been posting a negative quarter over quarter EPS growth for the past 4 quarters, whereas Freeport reversed that trend in the first quarter of 2012. Comparing both, Vale SA, in my opinion, is another company that can also be included in an investors' portfolio.
Rio Tinto, on the other hand, mines aluminum, copper, diamonds, coal, iron ore, uranium, molybdenum, gold, borates, titanium dioxide, salt and talc. This large cap company has annual revenue of over $60 billion with a net profit margin of over 11%. However, the company currently looks overvalued, with a P/E multiple above 17 against an industry average of 12.61, Freeport's 9.08 and Vale's 6.5. The company also posted a negative earnings growth in the last quarter of 2011, and its future earnings are still a question mark for many analysts. Its operations in Australia had seen setbacks in the past due to its collaboration with a Chinese company called Chinalco and incessant rains Down Under. Hence, at current valuations, RIO is an expensive proposition for investment. In my opinion, this stock is best avoided in comparison to Freeport and Vale, which are better for an investor's portfolio from the same industry/ sector.
In the coming year, Freeport-McMoRan expects higher sales from its gold, copper and molybdenum mines. Based on current prices of metals, the operating cash flows are estimated to exceed $5 billion. With a dividend payout ratio of only 37%, the company is expected to utilize a major portion of its earnings towards major projects to enhance profitability.
However, investors need to be cautious while investing in this stock, since the company has shown high volatility in its common share prices in the past, having a beta in excess of 2.4. Further, the current economic turmoil in the world, which has resulted in reduced demands for raw materials, especially metals, may lead to a decline in the profitability of mining and smelting companies. With a high cost of production currently, this cost is likely to rise in the future, and therefore, if the product costs do not rise commensurately, the profit margin of the company is likely to be adversely hit. Further, the Indonesian operations are likely to be more expensive in view of the recent government regulations, which pertain to banning and imposing taxes on metal exports. Overall, as a long-term investment option, this company is considered as an ideal investment idea for one's portfolio, due to its enormous mining reserves and potential worth of its products.
Going forward, Freeport has great fundamentals in this sector, and in my opinion, it is an ideal investment opportunity at current valuations and a buy at dips in its common share prices. For future expansion and higher profitability, it is also exploring various potentially high mining reserves in Africa and the North and South America.
Given the imminent recovery in the economic cycle, demands for the metals mined by Freeport are going to increase manifold in the coming years. Hence, the company is in a perfect position to take advantage of the same, even though it is currently hampered by higher production costs. It is also highly diversified in mining business, having a presence in metals like copper, gold, molybdenum and silver, with huge reserves, as well as smelting and refining operations of copper concentrates. Given these fundamentals, I recommend that investors with long-term perspectives should consider including this company in their portfolio for both high return on equity as well as a high return on their investment.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.