The proposals to restructure BHP Billiton by fund managers Elliott and Tribeca, while different in their respective elements, share one thing in common, which is to advise BHP management on the strategic direction of the company. The key issues, as Ord Minnett sees them, are as follows.
Firstly, the US onshore acquisition, and subsequent high rates of capital expenditure in the business, are the root cause of the lack of free cash flow – we estimate that at spot prices the assets generated positive free cash flow of just US$200 million in the six months to June 2017. We figure the US onshore business owes BHP circa US$29 billion, comprising the US$20 billion acquisition cost and cumulative capital expenditure of US$17.7 billion less operating earnings of US$8.3 billion.
Secondly, some are questioning the strategic fit of the US onshore assets, and calling for it to be fully divested. Plans to sell Fayetteville and South Hawkville have been outlined. This is a step forward, but we believe BHP would be better off selling all the US onshore assets via a trade sale given the relatively buoyant market for shale assets currently (as proposed by Tribeca). We also believe potentially selling the assets would help focus management on the conventional petroleum business. At a conference this week, CEO Andrew Mackenzie did not rule out a spin-off of the US shale gas assets, and also flagged a pullback to conventional petroleum.
Thirdly, there was under-investment in the conventional petroleum unit in favour of the US onshore arm. As a result, production is set to shrink by about 18% by FY21. BHP submitted the winning bid for a 60% stake in the Trion project in Mexico, where production is unlikely before 2025, and BP has approved the Mad Dog 2 project, with an expected start in 2022, of which BHP owns a 24% share. We are positive on these projects but they are both long-dated.
Lastly, high exploration spending rates of US$700 million or more per annum have failed to deliver tier-one growth project options across the portfolio, suggesting a significant portion of this should be deemed unsuccessful.