Rio Tinto Could Surge On Increased Demand From China

| About: Rio Tinto (RIO)

Rio Tinto (NYSE:RIO) has made a number of promising acquisitions for long-term growth, and holds one of the most diverse portfolios amongst its competitors. Rio Tinto is now shifting its focus towards organic growth and divestitures throughout 2012. This approach, in conjunction with its core values of efficient production backed by innovation, and its aggressive adherence to mitigating costs, gives Rio Tinto a promising outlook. The company's focus on iron ore and copper mining puts it in a solid position, as market prices are anticipated to rebound in the short and long-term. Rio Tinto's heavy exposure in Asia also supports this long-term outlook, as China and surrounding emerging market demands are expected to drive global GDP in the short-term.

Rio Tinto's primary competition comes from diversified international mining firms like BHP Billiton (NYSE:BHP) and Vale (NYSE:VALE). Barrick Gold (NYSE:ABX) and Freeport-McMoRan (NYSE:FCX) also have diversified portfolios and a global presence that create additional competition as well. Rio Tinto currently has the highest price-to-earnings ratio among these firms, but only Vale has a lower forward price-to-earnings and a lower price-to-book ratio than Rio Tinto. Rio Tinto also has the lowest price-to-sales ratio among all of these mining firms. Behind BHP Billiton and Barrick, Rio Tinto has the third smallest deficit in sales from the previous quarter year-over-year (YOY). At around 21.9%, Rio Tinto also has third highest sales growth over the past five years among these firms.

The company's recent earnings release for the first half of 2012 cited declining commodity prices, declining volumes and increasing costs as the main catalyst for decreasing revenue. Copper prices decreased by 14%, while aluminum prices decreased 15%. But, an expected recovery in China and Rio Tinto's leadership position in innovation are expected to be the primary catalysts for recovering revenue in upcoming earnings releases. The consensus is that copper demand in China will increase 7% this year. Rio Tinto believes China GDP will increase by 8% this year behind the stimulus announcement in the second quarter. There are over 500 investment projects designated for the remainder of 2012 and 2013. In order to reduce costs and increase productivity, Rio Tinto has initiatives for autonomous trucks and trains, faster underground tunneling and advanced mineral recovery.

Rio Tinto's product group contributed to $27.79 billion of its total revenue, a decline from $31.56 YOY. The product group contributed $5.62 billion to total gross net earnings, a decline from $7.78 billion YOY. Iron ore contributed $12.4 billion to gross product revenue and $4.75 billion to gross net earnings. Aluminum contributed $5.02 billion to gross product revenue and $24 million to gross net earnings. Copper contributed $3.22 billion to gross product revenue and $556 million to gross net earnings. Iron ore earnings decreased by 20% YOY, but market prices are expected to start rebounding during September 2012. The Pilbara mines, Rio Tinto's iron asset, reached record production of 114 million tons in the first half of 2012, marking a 4% increase YOY. Two stages of expansions, including port and rail elements, are planned for 2013 and 2015, and will increase production to 353 Mt/a.

Copper prices are expected to rebound as China and global demand begins to outpace constrained supplies looking towards 2013. In the first half of 2012, China sales revenue increased 160 bps YOY to 30.6% of gross sales revenue, totaling $8.5 billion. Japan sales increased 110 bps to 16.4%, totaling $4.5 billion, while other Asian regions decreased 40 bps to 15.8%, totaling $4.38 billion. U.S sales decreased 130 bps YOY to 12.9%, totaling $3.58 billion of gross sales. Actual revenue in China, Japan and the U.S declined, while revenue in other Asian regions increased YOY.

Uranium production also increased 54%. Coal production increased, but revenue for the entire coal division decreased 4%. Long-term growth is expected in this segment, primarily due to increasing demand in China and India. Rio Tinto is focused on divesting the aluminum and diamond assets in order to build momentum in the core-segments like iron ore, copper and coal. Divesting these assets would bring Rio Tinto's margins closer in line with main competitors like BHP Billiton. Rio Tinto is also considering divesting its stake in the Palabora Mining Company in South Africa.

Focusing on markets with favorable prices and urbanization potential will be good for Rio Tinto's long-term growth prospects. It was recently chosen by the UAE to supply fuel for its first nuclear power plant under a contract for $3 billion, with terms for 15 years. Acquisitions and investments undertaken in early 2012 focused on bolstering iron ore and copper assets, alongside a focus on cutting debt and non-core operations throughout the remainder of 2012 will put Rio Tinto in prime position to capitalize on rebounding commodity prices and surrounding Asian markets in the coming years.

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