BHP Group (BHP) delivered its March-quarter production report. The key iron ore division performed in line with our expectations, at a rate of 278 million tonnes per annum (Mtpa), with full-year production and cost guidance maintained, and South Flank on track.
Ord Minnett has reviewed BHP Group’s valuation metrics and notes the stock is trading at a compelling discount, both in absolute terms and versus its key peer Rio Tinto (RIO, Accumulate). In our view, investors willing to look past the COVID-19 crisis are likely to be well-rewarded. We note the following key factors in our investment thesis:
- A multi-year valuation discount, with the stock trading on a price to net present value (P/NPV) ratio of 0.78x and an FY21E enterprise value to operating earnings multiple of 5.4x, balance sheet strength, and solid near-term returns with a forecast 4.3% yield;
- A well-diversified asset base across commodities and geographies, with the key iron ore division, which represents 73% of FY20E earnings before interest and tax, being largely unaffected by COVID-19; and
- The stock is highly leveraged to China’s GDP growth, where the economy is well into the recovery phase.
Despite the near-term shock to commodity demand, we expect that as major economies such as the US and Europe start to move past the peak of COVID-19, investors will look to rotate back into cyclicals to play the recovery. BHP’s key commodity, iron ore, remains in tight supply, particularly following the recent Vale downgrade. Additionally, costs are coming down due to lower currency and oil prices, and BHP has a modest capital expenditure profile, which supports solid near-term free cash flow.
BHP remains our key sector preference and we maintain our Accumulate recommendation with a $38.00 target price.