GMBXF - Grupo México: Headwind Coming Perhaps Last Call Now For Profit

2023-07-15 07:43:02 ET

Summary

• Previously, Grupo México was also given a Sell rating due to expectations of lower copper prices in 2023 and fears of a recession affecting the group's production.
• Grupo México, which controls one of the world's largest integrated copper producers, is highly dependent on copper prices, with more than 80% of its profitability derived from the copper business.
• Significant dips could present a long-term investment opportunity to participate in copper's key role in the clean energy transition via this world's top copper producer.
• There is now a good chance of making a significant profit on the investment by selling some Grupo México shares.

A Sell Rating for Grupo México, S.A.B. de C.V.

This analysis confirms a Sell rating on Grupo México, S.A.B. de C.V. ( GMBXF ) given by this previous article . The rating was supported by analysts' expectations for lower copper prices in 2023 amid recession fears due to tightening Federal Reserve policy and some instability in Peru's political situation.

The rating is again proposed on the grounds of declining copper prices and possible lower production in 2023. However, the sale of some shares is suggested as an opportunity to benefit from the current high share price level, provided that the action can generate a significant profit.

Grupo México Identifies Strongly with Copper

This is a stock that identifies very strongly with the trend that copper has in the financial markets. This is because Grupo México controls one of the largest integrated copper producers in the world. The company also controls the most comprehensive railroad service in Mexico as well as an infrastructure business that includes various activities such as engineering, procurement, construction and drilling services.

However, Grupo México can derive more than 80% of its profitability from the copper business, which through the Americas Mining Corporation subsidiary takes control of Southern Copper Corporation ( SCCO ) and ASARCO.

Grupo México owns 88.9% of Southern Copper Corporation, a Phoenix, Arizona-based company that mines, explores, smelts, and refines copper and other minerals in Peru, Mexico, Argentina, Ecuador, and Chile.

While Asarco is a Tucson, Arizona-based company that was reintegrated into Grupo México in 2009 and processes copper in Texas after mining base metal ore at Arizona's three largest opencast mines, Mission, Silver Bell, and Ray.

Returning to the copper price, on which Grupo México is highly dependent, this has 2 movements in the financial market that can be described as an underlying positive trend that is cyclical rather than regular.

The Trading Economics chart below illustrates this very well, showing that the current copper price of around $3.93 per pound is now well above the 25-year moving average of around $2.25 per pound after an irregular trend but with a positive drift which is represented by the straight black ascending line.

Therefore, Grupo México shares will behave similarly to the red metal's price.

When it comes to the current cycle, the shares of Grupo México, S.A.B. from C.V. ( GMBXF ) could have peaked or nearly peaked based on the analysis of some stock price trend indicators.

Also, from a purely technical perspective, there would be some room for the shares to continue the current cycle up. However, as copper appears to face some headwinds in the near term, Grupo México could regress from current levels. The risk exists and is quantified later in this analysis. And since the quantification could warrant taking profits at the current share price level, the investor may want to consider a Sell recommendation and ease the position a bit.

From a long-term perspective, Grupo México shares will also be affected by the positive underlying trend in the price of copper, as explained next. Copper prices are showing a positive long-term trend that is likely to be amplified in the coming years by the key role the base metal is playing in the global project of boosting the transition to a more sustainable and cleaner economy. Due to its incredible thermal and electrical conductivity, the red metal cannot but participate in the process of complete electrification of all human production and consumption activities. This process is indispensable if we want to further reduce the use of fossil fuels, as when these commodities are burned, CO2 and other pollutants are released into the atmosphere.

Grupo México has a Strong Positive Correlation with Copper

The Seeking Alpha chart below shows that shares in copper miner Grupo México track their commodity of choice based on the positive correlation coefficient between the two assets. For an extended period of the past five years to July 14, the correlation coefficient has been above zero except on very rare occasions when the light purple area has been below zero.

So what this basically means is that a rise in the price of copper, as measured by Copper Futures - July 2023 (HGN2023), should trigger a rally in Grupo México's stock price, while a fall in copper should trigger a bearish reversal in Grupo México.

This analysis predicts the materialization of a bearish trend shortly, due to the expected recurrence of unfavorable repercussions for the profitability of the company's mining segment.

How GMBXF Stock is Performing Amid Global Economic Volatility

As seen in the first quarter of 2023 , when a 3.6% yoy increase in copper production to 253,059 tonnes failed to offset the impact of the copper price decline (-9.9% yoy to $4.09 per pound), the situation could be more or less the same for Grupo México's mining business at the moment, and actually with the possibility of an additional pejorative note.

In the first quarter of 2023, higher production/lower copper price forced the EBITDA of Grupo México's subsidiary, Americas Mining Corporation, to decline 10.1% year over year to $1.66 billion, leading to a decline in EBITDA margin as well. The EBITDA margin decreased by 550 basis points yoy to 54.6% of sales. Due to the headwind, the share price fell more than 8.5% a month after the results were announced.

The same dynamic could be repeated in the near term and set the stage for another sharp decline in Grupo México's share price. The average copper price didn't surpass $3.84 per pound in the second quarter of 2023 (another 6.1% quarter-on-quarter decline), and moreover, the negative impact of a weaker commodity price may not have been offset by a higher production this time.

In fact, as Trading Economics reports , copper inventories at the London Metal Exchange, Shanghai Futures Exchange and US Comex, as well as bonded warehouses in China, are very low compared to a few months ago, which could mean a slowdown in production activities using the metal, ahead of a weaker economic cycle. According to the S&P Global US Manufacturing PMI , the situation in the manufacturing sector is deteriorating due to a lack of new orders and a sharp contraction in input buying. On top of this, the headwinds of the Chinese economy, which is struggling to recover smoothly , will exert negative pressure on global copper demand and prices. China's economy, the world's largest buyer of refined copper, is showing worrying signs of deflation , indeed forcing the central government to take specific support measures, as some argue.

As far as metal production is concerned, Grupo Mexico's problems wouldn't end there. A labor dispute is taking place at a Mexican mine of such magnitude that it has raised fears of a possible violation of workers' rights by contravening an agreement between the US, Mexico and Canada, of which the US has informed the Mexican government.

The expected rate hikes by the US Federal Reserve and the European Central Bank will not help copper demand as they tend to dampen the economic cycle. Rate traders are eyeing a 96.1%-25 basis point probability on 5.25-5.50% rates at the upcoming FOMC meeting on July 26. According to a report published on July 13, 2023, ECB policymakers are open to further rate hikes beyond July to make inflation return to the 2% medium-term target, as indicated at their last meeting in mid-June 2023.

Therefore, there are strong assumptions that the EBITDA margin of Grupo México's copper mining operations (80% of total group-wide consolidated profitability) will continue to decline from 54.6% in the first quarter of 2023, adding further downward pressure on the share price.

Analysts are forecasting lower copper prices in the near term, down 1.5% this quarter from the current $3.92 a pound, adding to the magnitude of the highlighted headwinds.

The Downside Risk

The downside risk to the share price is quantified by this analysis using a linear model that assumes that weekly negative changes in the copper price trigger weekly negative changes in the Grupo México share price based on a strong positive correlation between the two assets.

The analysis runs the model over the last 80 weekly returns of both assets, which means not going back past January 2, 2022. This is because the upcoming markets will likely be affected by similar factors that have already played out over the past 18 months, such as increased inflation, hawkish monetary policy, risk of recession, geopolitical tensions between Western countries and the Eastern Bloc, including China, Russia, and North Korea. The model produced a trendline with a 1.15% slope and a reasonable representation of how much of the weekly stock price change can be explained by weekly copper price changes. The model has a coefficient of determination [R2] of nearly 40% for a 1.15% decrease in Grupo México's share price due to a negative 1% change in the copper price.

So if we add this data to all the other information described so far about this stock, the investor might consider selling some Grupo México shares to take advantage of current prices, which are quite high according to the next section.

The GMBXF Stock Valuation

Shares traded at $5.10 per unit as of this writing giving it a market cap of $39.29 billion. The share price is 22% above the middle point of $4.175 of the 52-week range of $3.11 to $5.24 and is only 2.7% far from the higher limit of the interval.

Technically shares are also trading high as they are above the 200-day simple moving average value of $4.32, above the 100-day simple moving average value of $4.76 and above the 50-day simple moving average value of $4.83.

The 14-day relative strength indicator at 59.44x suggests that the shares are not yet overbought despite trading high. However, this analysis revealed several key reasons why shares could quickly slip into the lower chamber rather than continue on the uptrend.

Since the dip on May 23 following the announcement of Q1 2023 corporate results, Grupo México's share price has surged with an 18% rally, increasing the likelihood of a good margin of return in case of selling some shares now.

Perhaps just 11% of outstanding shares in the hands of retail investors may not provide enough leeway to hope for a sharp drop in the share price and thereafter possibly replenish the position as part of a long-term investment perspective, locking in and taking advantage of significantly lower valuations.

If you look at the daily trading volumes, they are rather small compared to many other stocks in the market. However, it's also true that the stock has nearly 7.8 billion shares outstanding, so the 11% float traded among retail investors should still provide enough liquidity to support the above expectations. 11% comes from combining the Seeking Alpha screenshot above with information available from Yahoo Finance that 45.56% of the float is owned by institutions.

Should prices fall after this Sell rating, the lower prices would present an opportunity to strengthen one's position and take advantage of copper's bright future as a key metal in the transition to clean energy.

Use the Dips to Gain Long-Term Copper Price Exposure Through This Leading Copper Miner

Grupo Mexico, S.A.B. de CV represents a very good solution to increase the portfolio exposure to the expected strength of the copper price drift and benefit from it for a very long time.

This is because Grupo Mexico has some characteristics that make it a world leader in copper production. These are essentially the following:

• the ability to operate a portfolio of mineral deposits bringing to the surface the first production in both Mexico ( 10th World Producer) and Peru ( 2nd World Producer).
• The company ranks third in the US and fourth in the world by copper production. Grupo Mexico produced 253,059 tons of copper in the first quarter of 2023, leading to an annualized production of approximately 1,012 thousand tons, placing it 4th ahead of Glencore plc (GLNCY) (GLCNF) on this list of the 'world's best copper producers in 2022' compiled by Mining Intelligence, as reported by Mining.com
• Additionally, as mentioned at the beginning of the article, Grupo México controls one of the largest integrated copper producers in the world. Due to large-scale copper mining in leading countries around the world, Grupo Mexico is able to maintain one of the lowest costs in the entire world industry. In the third quarter, the global net cash cost was $0.99 per pound but was exceptionally high (+23.2% yoy) due to inflationary pressures. These headwinds are likely to persist in the coming months due to stubborn inflation and the expected decline in production, foreshadowing an economic slowdown. However, it is still well below the cash cost of $1.34 per pound for the world's first copper producer ( 1,552 kilotons in 2022), CODELCO - Corporación Nacional del Cobre, Chile, in H1 2021, that is before the onset of strong inflationary pressures.

Grupo México invests massively -- more than $15 billion over a period of 10 years -- to be able to stay on the path that leads in terms of production and costs. Investments are being made across the portfolio of mineral assets with a particular focus on the mines of Buena Vista Del Cobre, Sonora State, Mexico.

Buenavista is building a new concentrator for an additional 20,000 tons of copper per year and is scheduled to start up in the second half of 2023.

The company is also working to construct the El Pilar conventional open pit mine in Sonora in 2025 with an annual production capacity of 36,000 tonnes of copper cathode and a mine life of 13 years.

In Peru, Grupo México is developing Los Chancas in Apurimac to produce 130,000 metric tons of copper per year and is scheduled to come online in 2030, and Michiquillay in Cajamarca is expected to produce 225,000 metric tons of copper per year for 25 years from 2032.

All of these activities are supported by a financial position, which is briefly outlined in the following section.

The Financial Condition

As of March 31, 2023, the balance sheet of Grupo México, S.A.B. de CV had $6.63 billion in cash and short-term investments, while total debt was $8.82 billion. Approximately 79% of Grupo México's total debt is denominated in US dollars, while 20% is denominated in pesos.

Grupo México's balance sheet looked solid, as evidenced by its net debt to EBITDA ratio of 0.3, which compares favorably to its peers.

Furthermore, according to the company, the debt has an extremely favorable maturity schedule, with each annual payment not exceeding $1 billion before the end of 2034. Also, 69% of the total debt is not due until 2035.

Grupo México has an interest coverage ratio of 11, which is determined by dividing a 12-month operating income of $5.83 billion by a 12-month interest expense of $0.53 million , leading to the conclusion that the company can easily pay off any financial obligation maturing because of the outstanding debt.

These business units complement the activities of the group. The transportation segment reported revenue of $762 million for the first quarter of 2023, up 18.3% year-over-year, driven by an 8.8% recovery in ton-kilometers, while the infrastructure segment reported net sales of $156 million, an increase of 6.7%.

The company paid a quarterly dividend of approximately 1 Mexican peso (approximately $0.06) per share on May 29, 2023, which translates to a dividend yield of 4.5% at the time of this writing.

Conclusion

The near term is going to be tough for the profitability of Grupo México, S.A.B. de C.V. for a bunch of reasons regarding copper price and the company's production as the global economic environment remains too volatile.

The headwinds could lead to significantly lower prices and should be used to strengthen the position in the stock of this strong player in the global copper business. There is a risk that the shares could trend down sharply from where they are now, so retail investors may wish to take advantage of this high price level in a bid to make profits.

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