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Freeport-McMoran (NYSE:FCX) Wednesday released weak Q2 2012 results, which were mainly driven by lower sales of minerals. Net income for the 2nd quarter came in at $710 million ($0.74 a share) compared to $1.4 billion or $1.43 per share a year ago. Adjustments to environmental obligations and litigation reserves had a $0.06 per share effect, or $53 million in total. Despite weak results, they came in not totally surprising and the stock is trading up about 4.3%.

The company proceeded to give an explanation as to the cause of lower sales:

Our second quarter 2012 consolidated sales as anticipated were lower than the second quarter of 2011 sales of 1 billion pounds of copper, and 356,000 ounces of gold, primarily reflecting lower ore grades and production rates in Indonesia. The lower copper sales volumes also reflected lower ore grades in South America partly offset by increased production in North America and Africa.

Despite announcing weak sales figures for the 2nd quarter to the market, investors continued to bid up stock prices higher based on what I believe is quite an encouraging outlook:

There is continued progress in core development projects Cerro Verde, Tenke and Morenci which is going to add significantly to incremental copper production particularly with the Cerro Verde Mill:

  • Cerro Verde is expected to reach an incremental production of 600 mm lbs Cu/year and 15mm lbs Mo/year
  • Tenke is expected to add an incremental production of 150 mm lbs Cu/year
  • Morenci is expected to reach an incremental production of 225 mm lbs Cu/year.

I find this continued expansion and long-term approach for asset development very attractive. The Cerro Verde expansion is going to add copper production volumes to the American market by 2016. FCX also takes on a geographically diversified mining approach, which will derive a higher share of free cash flow from the African market which is set to achieve high growth rates in copper and sulfide production.

Sales forecast

The company forecasts copper sales to increase from 3.6 million lbs in 2012 to 4.5 million lbs in 2014 which is an increase of 25% over 3 years. Gold on the other hand is expected to increase from 1.1 million ozs in 2011 to 1.7 million ozs in 2014 (+55%). Molybdenum sales are forecasted to increase around 11% for the same period with Molybdenum market prices still low compared to the time period 2005-2008.

In addition to giving a positive sales outlook, the company also moved forward in terms of shareholder remuneration. FCX has increased its dividend of $1.25 per share which is backed by strong cash flow. The financial condition with a $1 billion net cash position is also convincing.

Copper forecast

Investors also focus on the underlying drivers of the copper price, which were addressed in the Q2 webcast. Specifically, the company judges the US copper demand to be increasing, while Europe is considered weak based on its unsolved debt situation and corresponding uncertainty. With low copper inventories worldwide, supply is still seen as a challenge. This indicates that the fundamentally attractive supply/demand imbalance is intact, both short-term and long-term, and working for FCX shareholders. Investors should realize that equities are still historically cheap as blue chip resource and service companies such as Exxon (NYSE:XOM), Chevron (NYSE:CVX), Halliburton (NYSE:HAL) or Vale (NYSE:VALE) can be bought at earning yields of 10% or higher. In the long-term I am very bullish about copper.

A recent Bloomberg survey indicated that both prices and extracted volumes are looking very promising going forward:

The global surplus will total 18,500 metric tons, according to the median of 22 analyst estimates compiled by Bloomberg, 85 percent less than a January forecast of 124,000 tons. Barclays Plc expects shortages in the first half of next year and Morgan Stanley and JPMorgan Chase & Co. anticipate an annual deficit. Prices will rally as much as 14 percent to $8,700 a ton by Dec. 31, the median in a survey of 15 analysts shows.

Valuation

Given the attractive supply/demand picture of copper, FCX's serious attempts to expand production volumes, diversify its asset base and strong financial position, I consider a P/E of 7x earnings clearly not appropriate for this high-yielding (3.8%) copper investment. I rate FCX a Strong Buy and intend to hold FCX stock long-term.

Dahlman Rose just came out with a research piece two days ago that puts FCX on its Buy list saying the stock has 36% upside potential relating to its price target of $45.

Source: Freeport: What Q2 Results Mean For Investors