Petroleum Disappoints

BHP Billiton (BHP) released its June quarter 2017 production report, which in Ord Minnett’s view revealed relatively solid quarterly output. In contrast to Rio Tinto (RIO, Accumulate), BHP’s quarterly volumes were either in line with or ahead of our estimates.

 

The highlight was a 14% lift in Pilbara shipments on the previous quarter (Rio Tinto was flat) with an annualised rate of 285 million tonnes per annum (Mtpa).

 

Copper and petroleum were broadly in line, while metallurgical coal fared better than expected despite the impact of Cyclone Debbie on the rail infrastructure. BHP has quantified the cost of the Escondida strike at US$0.5 billion, which we include as an exceptional item in FY17.

 

Management guidance for the iron ore and copper divisions was strong, but weak for petroleum. BHP had downgraded US onshore FY18 guidance (down 16–24% on the previous year) by way of a chart included in its Barcelona conference presentation. However, capital expenditure guidance for FY18 was provided for shale at US$1.2 billion, more than double the FY17 level of US$554 million. This was more than we budgeted, with the high level of investment likely to divide opinion across the market.

 

In the company’s conventional oil and gas business, production is set to drop by 5-9 million barrels of oil equivalent due to field decline. The division is likely to be a key focus for the new chairman, Ken MacKenzie, who has been meeting with investors.

 

We maintain our Hold recommendation on BHP, with a target price of $25.00, and we continue to prefer Rio Tinto. We are positive on the sector in general given its high free cash flow, strong macro data and balance sheet strength. However, Rio Tinto continues to screen cheaper from a valuation standpoint.

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