With Rare Earth Minerals’ (LSE: REM) share price having risen by an incredible 89% in the last year, owning a slice of it has clearly been a great move for its investors. Compare that performance, though, with BHP Billiton (LSE: BLT) (NYSE: BBL.US), which has seen its share price decline by 18%, and it is clear that the former, not the latter, has been the stock to own in recent months.
Risk
However, looking ahead, BHP Billiton could prove to be the more appealing investment. That’s at least partly because it offers far less risk than Rare Earth Minerals. For example, while BHP Billiton mines a range of metals and operates from a wide geographical base, Rare Earth Minerals’ operations are much more concentrated and less well developed. This makes it inherently riskier than BHP Billiton which, given the instability and volatility of the mining sector, is a major negative for investors.
In addition, BHP Billiton is very well financed and has extremely strong cash flow. For example, its free cash flow has averaged £5.2bn per annum over the last five years. As such, it can withstand further falls in commodity prices and, while Rare Earth Minerals is well financed at the present time, this could prove to be an area of uncertainty for its investors. That’s because it is likely to be reliant upon further capital raisings over the medium term, with the results of its planned pre-feasibility study set to determine its financial future.
Reward
Of course, with higher risk can also come higher reward. On this front, Rare Earth Minerals has considerable potential, but so does BHP Billiton. For example, while Rare Earth Minerals continues to trade at just 7.5% of the £790m estimated net present value (NPV) of its projects, BHP Billiton also offers excellent value for money. For example, it has a price to book (P/B) ratio of just 1.5, which indicates that it is considerably undervalued – especially when its diversification and exposure to politically more stable countries (such as Australia) is taken into account.
Looking Ahead
Clearly, if the results of Rare Earth Minerals’ pre-feasibility study are very positive, then its share price is likely to outperform that of BHP Billiton. However, the chances of any company (large or small, in all sectors) enjoying a smooth ride to success are very slim.
As such, the risks of disappointment and financing issues must be taken into account when assessing the appeal of Rare Earth Minerals and, while it could be a strong performer, BHP Billiton appears to offer a more appealing risk/reward profile. As such, it seems to be a better buy than its smaller peer, with it having a good chance of making impressive gains over the medium to long term.