I’m out shopping for shares again. Should I add Glencore Xstrata (LSE: GLEN) to my wishlist?
Marital woes
The marriage of mining giants Xstrata and Glencore International had a rocky start. Markets wished the happy couple well, as they started life together as the world’s largest zinc miner, the third biggest producer of mined copper, and largest exporter of coal burned by power stations, bur reality quickly struck.
Xstrata brought a lot of baggage to the relationship, primarily a $7.7 billion asset write down, due to falling demand for metals and minerals. This sparked a 9% drop in the new group’s core first-half profits, and wiped out all the goodwill value that Glencore had provisionally allocated to Xstrata’s mines at the time of the merger. The share price slumped 35% over the next four months, from 391p to 256p, but has since recovered, and now trades at 327p.
All this and QE tapering, too
Glencore Xstrata’s Q3 production update was more positive, showing a 23% rise in own-sourced copper production to just over one million tonnes. Zinc production increased by 9% as the group replaced lost volumes, while gold (13%) and coal (6%) also expanded. The group’s new Alen oilfield product produced 1.5 million barrels of gross protection in the third quarter, up 29% on Q2.
The threat of a Chinese hard landing still hangs heavy on miners. Some of these worries have been priced in, which explains recent share price underperformance, but personally, I remain pessimistic. China’s latest GDP figures may have surprised on the upside, but I fear they have only been supported by a tidal wave of borrowing. There is growing talk of the US Federal Reserve starting QE tapering in December, which could further hit commodity prices.
Fearing gearing
If mining stocks do take another hit, Glencore Xstrata will be disproportionately exposed. Investec analysts have warned that it has an aggressively geared balance sheet and is highly leveraged, with an estimated interest cost of $1.8 billion per year. If interest rates rise by just 1%, that bill could leap by $500 million a year. “The company has $17 billion of bond debt that comes due in the next few years, leaving it exposed to potential volatility in debt markets on refinancing,” Investec said, cutting its target price to 307p and issuing a sell recommendation.
Deutsche Bank still views Glencore Xstrata as a ‘buy’ with a target price of 367p, but that high leveraging appears adds a further layer of risk. You might be willing to take a chance, given that this year’s dizzying 34% earnings per share drop is forecast to transform into 32% growth next year (commodity price swings notwithstanding). But trading at 14 times earnings, and yielding 3%, I’m leaving this stock in the ground.
