Shares of diversified miner and trader Glencore (LSE: GLEN) are up 49% since the start of 2016 after the company cut its dividend, issued shares and sold off assets to whittle down a $30bn mountain of debt. Despite Glencore’s admirably quick measures to right the balance sheet, there are enough problems at the company to scare me off continuing to hold shares.
The biggest problem confronting it is a persistent supply imbalance in the commodities market as Chinese demand inexorably slows and massive new projects producing everything from iron ore to natural gas continue to come online and increase global supply. The Commodity Supercycle triggered by China’s rapid development is unlikely to happen again any time soon, and left Glencore with some $25.9bn of net debt at year-end.
And while asset sales are going well, hitting the company’s 2016 net debt target will still leave $17bn-$18bn of net debt on the books, more than two times EBITDA. With significant market headwinds, high debt and shares trading at 40 times forward earnings, I wouldn’t be expecting Glencore shares to continue their upward trajectory for long.
Debt, and more debt
Shares of North Sea oil producer Enquest (LSE: ENQ) are up 75% in 2016 on the back of a surprise 31% increase in production and rising crude prices. However like Glencore, Enquest’s balance sheet isn’t exactly in good health. The company has $1.5bn in net debt on the books, well over three times EBITDA for 2015.
Compounding the overall fall in crude prices is Enquest’s focus on the North Sea, a notoriously expensive place to drill for oil. Enquest’s opex costs per barrel came down from $42/bbl in 2014 to $29.7/bbl in 2015, but this is still incredibly expensive compared to production costs in other parts of the world. And while Brent crude may be over $44/bbl today, there’s little reason to believe prices will reach anywhere near $100/bbl any time soon, leaving high-cost, highly-leveraged producers such as Enquest at a significant disadvantage to competitors.
Challenges ahead
Unlike Glencore and Enquest, online financial trading platform Plus500 (LSE: PLUS) has been posting stellar results lately. The company posted $96m of net profits on $275m in revenue last year even though EBITDA margins fell from 63.6% to 48.2%. The increased regulatory scrutiny and increased compliance costs behind these falling margins are what would lead me to sell Plus500 despite shares returning 41% year-to-date.
Compliance costs jumped dramatically for Plus500 after it was found to be lacking in verifying customer’s identities and was forced to suspend some accounts over money laundering concerns last year. However, even if Plus500’s new compliance procedures stop these issues, the larger worry remains that UK regulators will crack down on firms offering contracts for difference on forex, commodities and equities to retail investors trading on margin. Despite solid earnings and a healthy dividend, the risk of increased regulatory attention is enough to keep me from holding Plus500 shares for the long term.
