Shares in Lonmin (LSE: LMI) fell another 10% to 73.4 pence at the time of writing, extending Friday’s loss of 12% to 22% over the two-day trading period. On Friday, UBS downgraded the platinum miner’s shares to a Sell recommendation on Friday, citing its limited asset flexibility and uncertainty about its ability to generate cash through the downturn.
Citigroup had also cut its price target for Lonmin’s shares from 130 pence to 113 pence. Platinum prices, which have fallen by another 33% this year to $1,030 per ounce, meant many of Lonmin’s operations are now unprofitable. Glencore (LSE: GLEN), which held a 23.9% stake in Lonmin, had divested its shares to its shareholders, after it judged it as a ‘non-core’ business.
Unlike its peers, including BHP Billiton (LSE: BLT) and Glencore, Lonmin’s focus on platinum and its high-cost operations led it to generate negative trading cash flows. Trading cash outflows have also been increasing, having risen to $170 million for the first half of the 2015/6 financial year, from $64 million in the same period last year.
As Lonmin is burning cash quickly it will likely need to recapitalise, potentially through a rights issue. Even with more cash, the miner would find it difficult to turnaround its high cost assets, given the resistance from labour unions and ageing infrastructure because of chronic underinvestment.
BHP Billiton and Glencore generating sizeable positive operating cash flows
BHP and Glencore are both generating sizeable positive operating cash flows, even though trading cash flows are projected to be insufficient to cover dividends and capital investments. BHP’s stronger balance sheet and its higher margin iron ore mining operations means it is in a better position to maintain its 6.1% dividend yield. But, with increasing iron ore production globally, oversupply continues to cast a shadow over its longer term outlook.
Shares in BHP and Glencore extended Friday’s gains, having benefited from this morning’s announcement of a Greek deal. The agreement in the bailout talks and stabilisation in the Chinese equity markets will likely provide support to commodity prices in the near term. But without longer-term demand growth, commodity prices could fall further.
Glencore had said it was looking to buy additional coal assets in June, as it believes the downturn has created opportunities in the sector. Although it is still looking to cut coal production, it is also seeking bolt-on acquisitions or potential tie-ups for future growth and synergy gains. Glencore seems to be taking a contrarian view on the outlook for coal, as analysts are still pessimistic on coal because of falling demand in China and most developed economies.
Coal represents 26% of Glencore’s EBITDA, far higher than many of its peers. Glencore’s exposure to base metals, copper, zinc and nickel, which together represent about 60% of its EBITDA is particularly attractive, because of the projected shortfall in supply growth for the medium term. In addition, its trading business reduces the volatility of the firm’s earnings over the commodities cycle.
Conclusion
Trading cash outflows and the overhang of a potential rights issue mean shares in Lonmin are relatively unattractive to me right now. In my view, BHP and Glencore — which are in a much stronger position to turnaround their earnings — look like much better buys.