dhukka said:
If you are truly a value investor then you know that price and value are independent of each other. You also know one of the inputs in the p/e ratio is price, how then can any measure that uses price as an input be an indicator of value? Answer, it can't. ROE's are what's important, whilst BHP is on track to post ROE of over 40% for 2 years running now you'd have to overly optimistic to think it could continue. 10 year average ROE currently stands at around 20% - still good but does it represent good value?
Personally I think the stock will keep running on the strength of the 1H07 result. Going forward what is the upsdie and downside risk to earnings? Upside: Further increases in commodity prices? Doubtful, increased production? Too far off to have any short term impact on earnings. So we are left with capital management initiatives. Downside: falls in commodity prices that can happen suddenly and have immediate impact on earnings, margins and returns on capital. The Downside is far more frightening than the upside is exciting IMHO.
dhukka,
I agree ROE is what is important.
The gloss has come off the big diversified miners over the past 12 months or so, as investors have focussed on cost blowouts and projects not completed on schedule. Ironically, this is a reason to remain bullish on commodity prices remaining strong. Put simply, higher costs for just about everything mean sustained higher commodity prices are required to provide incentive to go ahead with new projects.
With the outlook for commodity prices remaining strong, BHP's huge cash flows will go towards expanding capacity in order to increase future production. At some point, this will temper the commodity price rise, but I certainly do not believe it will result in sustained price falls, as many are predicting.
Although new supply is coming on stream over the next few years, the response has been slow. Companies like BHP not only need to dig resources out of the ground, they need to move them to ports for export. Much of the supply constraints are due to lack of capacity and adequate infrastructure at ports and railways. So not only does mining capacity need investment, infrastructure capacity is required too.
While volatility in oil and copper have spooked some investors over the earlier part of this year, BHP's operating earnings are derived from iron ore and coal, whose prices are contractually set each year. Iron ore prices will rise by 9 percent from April this year while coal prices are expected to decline from last years record highs.
China's and indeed much of the emerging world's industrialisation has just started. Even though there will be times when these economies experience growing pains, BHP will be a long term beneficiary of their growth, and therefore I think can maintain a high ROE for many years to come.
annalivia