2023-06-27 06:31:34 ET
Summary
- BHP's share price has underperformed the S&P 500, but its high dividend yield makes it a potentially lucrative long-term investment.
- The company's financial performance has been weak, but H2 FY23 results could improve due to a pickup in metal prices and some expected strengthening of activity in China.
- Long-term investors may find BHP attractive for passive income, but short to medium-term investors might not see significant gains or losses.
Australian mining giant BHP ( OTCPK:BHPLF ) has had an underwhelming year at the stock markets so far. Its share price is down by 3%. By contrast, the S&P 500 ( SP500 ) has seen 13.2% growth in 2023. It trails the index even over the past year, with a 9% increase compared to 14.5% for the S&P 500.
There is a catch here, though. BHP is a dividend heavyweight, with a trailing twelve months [TTM] dividend yield of 8.9%. So total returns from it are actually 15.7% over the past year. In fact, over the past decade, a big proportion of returns from it have been in the form of dividends, driving them up to 104.2% compared to just price returns of 20.3%.
This then indicates, that as long as BHP's dividends remain strong, there is a case for it being a lucrative long-term investment. But even for investors who are interested in short to medium-term investment in the stock, the dividends can just not be ignored.
Softening financials
These dividends, of course, are a function of the company's financial performance. So far, for its current financial year which goes up to June 2023, the numbers haven't been great, which explains the weak price performance.
To be fair, they are a bit dated now (BHP has only released an operational update since). The last financial update was for its H1 FY23 ending December 2022. But still, they are indicative. A come off in prices for iron and copper, which contribute to three-fourths of its revenues, led to a 16% year-on-year (YoY) decline in revenue and a 32% fall in profit. Dividends were down by 40%.
Better outlook
But results for H2 FY23 could be better with some pickup in prices of both metals. The company too, was optimistic about the next six months in its last earnings release on "strengthening activity in China" and despite a slowdown in other parts of the world. It had added, "We expect domestic demand in China and India to provide stabilizing counterweights to the ongoing slowdown in global trade and in the economies of the US, Japan and Europe.".
Analysts are not optimistic about its revenue growth though, with expectations of a 15.7% decline. This needs to be seen in context, however. 2021 saw a rise in commodity prices, resulting in a jump in revenue growth. So a correction was to be expected. In any case, EPS is still expected to rise in FY23 by 4%. This gives a forward dividend yield however stays healthy at 5.4%.
What the market multiples say
Even with an expected rise in EPS though, BHP's forward price-to-earnings GAAP (P/E) ratio at 13.6x however, is running slightly higher than the 13.1x for the materials sector, indicating no upside to the stock.
But that is just one market multiple. The company's TTM GAAP price-to-earnings (P/E) ratio is at 8.3x, which is a fair discount to the 12.7x for the materials sector. It is also lower than the average P/E over the past 10 years of 14.2x . Both these multiples together indicate a significant upside to the stock.
Commodity price outlook
Even though some market multiples predict an upside, at this point it is essential to take a judgment call based on the state of the global economy, which has a direct link to commodity demand. Consider iron ore prices. Even though they have not dropped back to the lows seen in the second half of 2022 (see chart below), the forecasts aren't entirely bullish. Goldman Sachs, for example, expects them to soften considerably from current levels in the second half of the year. It has also cut its copper price forecast recently.
On the other hand, the likes of Australian fund manager Wilson Asset Management has increased its exposure to miners like BHP, betting on Chinese recovery. The recovery, though, hinges upon a fiscal stimulus as the economy itself has shown signs of weakness recently. From retail sales to industrial production, key economic indicators indicate that the post COVID-19 recovery might not exactly play out as hoped.
What next?
In sum, in the foreseeable future, it is harder to gauge the direction of BHP's share price than it would be normally. For one, the commodity price outlook is really up in the air at best. Chinese government intervention could still perk up industrial metal demand, which can be a positive for BHP. But how far that impacts demand and prices sustainably remains to be seen.
In the meantime, its FY23, which comes to a close at the end of June, is expected to see a weakening in revenues. This is driven by a high base effect, though, so I would be careful to read too much meaning into it. Projections for some EPS growth are encouraging, but they are unlikely to reflect in a dividend increase.
Further, the EPS increase already seems to be factored into its share price, with the forward P/E trading at slightly higher levels than that for the materials sector. Its TTM P/E however, is trading low, which blurs the potential direction of the share price in the future.
On balance though, there is unlikely to be a downside to the price for now. This means that the total return on the stock is still likely to be upwards of 5% in the year ahead, driven by its forward dividend yield. This is then a good time as any for long-term investors to buy the stock, especially with an eye to passive income from it.
However, short to medium-term investors might find it underwhelming to buy it now. There will probably not be any dramatic losses on the stock unless its H2 FY23 results really disappoint, but there might not be opportunities for sustained gains either. I'm going with a Hold for now.
For further details see:
BHP Group: One For Dividend Investors