BHP Share Price: Is ASX: BHP Undervalued or Overvalued?
Stronger prices drive a sound result for BHP Group Limited's (ASX: BHP), but higher Samarco provision disappointing.
Mentioned: BHP Group Ltd (BHP)
Key Morningstar Metrics for BHP Group Limited (ASX:BHP)
Data from Morningstar Direct as of 21 February 2024
What we think of BHP’s Shares
BHP has several of the world's largest mines and has ridden the commodity supercycle since the early 2000s. Key commodities are iron ore and copper. In addition, the company has coking and thermal coal operations, nickel exposure and is also entering the potash market through the development of its Jansen mine in Canada. BHP's iron ore mines in particular are at the low end of the industry cash cost curve along with Rio's; however, overinvestment during the peaks of the China boom, when capital costs were high relative to historical standards, diluted returns. After adding back the not-inconsiderable write-downs, we expect adjusted midcycle returns to be modestly above the company's cost of capital.
BHP Share Price (ASX: BHP)
Source: Morningstar Direct. Data as of 21 February 2024
BHPÂ Economic Moat Rating
As a commodity producer, BHP is a price taker and needs low-cost mines with long lives and a low installed capital base to support the longer-term excess returns needed to justify an economic moat. We forecast midcycle returns on invested capital in the low double digits compared with its WACC of around 9%, primarily driven by BHP’s moaty iron ore and copper segments which account for the vast majority of midcycle EBIT. Our forecast is based on assumed midcycle prices from 2027 of USD 60 per metric ton for iron ore (which we note is materially less than the average price of around USD 100 per metric ton over the past decade), roughly USD 3.60 per pound for copper, around USD 150 per metric ton for metallurgical coal and around USD 100 per metric ton for thermal coal, based on our estimates of the marginal costs of production. As we think BHP’s midcycle ROIC isn’t sufficiently above its WACC to justify assigning a narrow moat, we don’t assign a moat to BHP.
In calculating ROIC, we have added back to invested capital roughly USD 10 billion in asset and intangibles write-downs taken over the past decade on the basis that these amounts relate to assets developed or acquired in the ordinary course of business and so should be included when calculating ROIC. Some of the more material amounts include USD 2.2 billion in relation to energy coal and USD 1.8 billion in relation to potash. However, we have not added back USD 11.6 billion in relation to BHP’s oil and gas businesses as the company has since exited the sector and these acquisitions were made by previous management which has since been replaced.
Access our full research report to continue reading about BHP’s (ASX:BHP) moat rating.
BHP Risk and Uncertainty
Our Morningstar Uncertainty Rating is Medium. The key risk to BHP stems from cyclical commodity prices, particularly as China’s fixed asset intensive growth is likely to wane. The operating leverage and cyclicality inherent in BHP are the key earnings drivers. High capital intensity and the risk of poor capital allocation are other risks. A focus on debt repayment post the 2015-16 downturn, modest ongoing capital expenditure requirements, current stronger commodity prices and earnings see BHP in strong financial shape.
The most significant ESG factors are relatively small, relating to carbon emissions, water resource dependency, land disturbance, labor strikes and disputes, and community relations. BHP’s carbon emissions could be the subject of future costs. Its largest emissions source is in the iron ore supply chain, particularly steelmaking. We think demand for steel is relatively price-inelastic so any carbon price will likely be passed onto steel consumers.