BHP Billiton’s (LSE: BLT) spin-off South32 (LSE:S32) started its life as an independent public company today. After debuting in Sydney last night, from today investors can buy and sell their shares of the spin-off on the London Stock Exchange.
BHP’s shareholders have received one share in South32 for each BHP share that they own. But should investors follow BHP and sell off their South32 holdings following the spin?
Luke warm
South32 received a lukewarm reception from investors on its trading debut on the Australian Stock Exchange. The spin-off began trading at the low end of the $2 to $3.50 range predicted by analysts, while BHP’s shares fell by more than 5% in early trading in London as the shares began trading without the rights to South32.
South32 was created to house assets that BHP had labelled non-core. These include coal, manganese, aluminium and nickel mines and smelters.
And as a standalone company, South32 generated revenue of $8.3bn last year, making the company one of the world’s largest miners by revenue. South32’s listing was the biggest IPO in Australia so far this century.
Still, while the BHP-South32 separation may have grabbed headlines for its size, the City is hardly optimistic about South32’s prospects.
Two big issues
The City’s concern regarding South32’s outlook revolves around two key issues. Firstly, China’s falling demand for key commodities, including coking coal, aluminium and manganese.
These three key commodities make up around 75% of South32’s earnings before interest and tax. Although as demand is falling, the prices of these commodities are sliding. As a result, it is estimated that South32’s earnings have fallen by as much as 47% over the past five months.
Falling earnings will put pressure on South32’s dividend. The company has stated that it will pay out 40% of underlying earnings to shareholders every six months. Current projections indicate that this target will leave South32 with a dividend yield below the mining sector average of 4.2%.
For income investors then, South32 might not be the best choice. BHP could be a better bet. At present, BHP supports a dividend yield of 5.0%, although based on earnings forecasts for this year, the payout is only just covered by earnings per share.
Uncertainty prevails
If there’s one issue that’s preventing investors from taking a position in South32, it’s uncertainty.
BHP claims that it spun the business off to simplify its operations, but not everyone’s convinced. Until South32 shows that it can stand on its own two feet, the market will view the company with a degree of scepticism.
Still, there has been some chatter the South32 could become a bid target in the near future. Moreover, the group has been spun off with a relatively clean balance sheet, giving it room to expand. Management has hinted at the fact that the group could be looking to do some deals now the separation is complete.
