Essay: BHP Billiton Financial Performance Analysis And Investment Recommendation.

BHP Billiton shares fall to lowest point in decade after announcing write-downs.

He Use of Technical and Fundamental Analysis in the Stock Market in Emerging and Developed Economies.

Iron ore still has an important role to play in Australia’s economy.

Annual Report Analysis

BHP Billiton is a multinational company operating in many countries across the globe. The company started operations in the year 1851 and since then it has grown manifold expanding the business to various countries outside its origin country, Australia (BHP Billiton, 2018). The company is head quartered in Melbourne, Australia but since it has business in the USA and the UK also so it has subsidiaries spread in these countries. The company’s stock is listed and trades, apart from on the Australian Stock Exchange (ASX), on London Stock Exchange (LSE) and New York Stock Exchange (NYSE) also. The lead business of the company is to explore and distribute the natural resources which it operates through four segments such as petroleum, coal, copper, and iron ore (BHP Billiton, 2018). Here, a report has been prepared to analyze the financial performance of BHP Billiton Limited and recommend the investors for investment in the company.   

The annual report is an essential document that each and every listed company in Australia has to submit to ASX annually (Dagwell, Wines, and Lambert, 2015). The annual report of BHP Billiton Limited for the year 2017 has been submitted to ASX and it is available on its website for public use. Anybody who wants can retrieve soft copy of the annual report of the company from the bhp.com investor relations section. The annual report of BHP Billiton is quite vast containing total 292 pages due to vide spread business (BHP Billiton, 2018).

Mainly, the annual report of BHP Billiton is divided into seven major sections. The first major section contains strategic report, which initiates with chairman’s message and goes through discussion on company’s strategies, vision, and its sustainability. Further, the strategic report also provides financial performance of the company at a glance. The second major section of the annual report contains governance at BHP Billiton. The section provides essential information on the arrangements made and the steps taken by the company to ensure strong governance within its business (BHP Billiton, 2018).

The matters connected with the governance such as composition of board of directors, independence of the board, formation of different committees namely remuneration committee and risk committee etc have been discussed here (BHP Billiton, 2018). Further, other matters such as disclosure of remuneration of board and its shareholding in the company are also included here. Extracting this information the shareholders can ensure the board is acting on the principles of legitimacy and in the best of their interest (Dagwell, Wines, and Lambert, 2015).

Financial Performance Analysis

Further, section three of annual report specially reports on the remuneration drawn by the directors. The section four contains director’s report which provides information on the performance of director’s duties. The section five of annual report is the most important one because it contains the financial statements of the company and auditor’s report on these financial statements. For the year 2017, the financial statements of BHP Billiton were audited by one of the world’s biggest accounting firms, KPMG (BHP Billiton, 2018).

The audit was conducted in accordance with the Australian auditing standards and also the international auditing standards. The auditors have issued unqualified audit opinion certifying that the financial statements of the company comply with the corporation’s act 2001 and the Australian accounting standards (BHP Billiton, 2018).         

The financial performance of BHP Billiton has been quite volatile in the recent past five years as could be observed from the trend in profitability shown in appendix-1. The net profit of the company was approx $11 billion in the year 2013 which increased to approx $14 billion in the year 2014 (Appendix-1). However, the profits of the company dropped severely down to approx $3 billion in the year 2015 and in the next year the company incurred losses. The demand of minerals like coal and iron ore in Australia diminished significantly in the year 2015 and 2016. In particular, China, which has been a major importer of coal and iron ore from Australia, reduced its imports of coal and iron ore from Australia (Menezes, 2016). Due to decrease in demand, the Australian producers of coal and iron were forced to reduce the prices, which caused reduction in the profitability. In order to recover the impact of reduction in prices, BHP Billiton reduced the cost of production and operations which is evident from the appendix-2. The unit of coal production was reduced from $148 per tonne in 2012 to $60 per tonne in 2017. Likewise, the cost iron ore was reduced from $30 per tonne in 2012 to $15 per tonne in 2017.

Figure 1: Trend in Financial Performance and Position

It could be observed from the figure presented above that the sales, retained earnings, and net assets have gone down after 2014. As discussed above, the major reason for downfall in the financial performance of the company is recession in the Australian mineral and mining industry. Over the period of five years, the sales went down from $53.86 billion in 2013 to $38.26 billion in 2017. Further, due to decreased sales, net profits decreased which caused reduction in the retained earnings from $66.98 billion to $60.00 billion (figure-1). The retained earnings are the backbone of company’s growth and expansion and hence reduction in retained shows that the company is in real trouble.   

Liquidity Analysis

The profitability of BHP Billiton has gone weaker in the recent years due to diminution in the demand of coal and iron ore. All the companies in the mining industry in Australia have perceived downfall in the profitability, Rio Tinto, one of the biggest rivals of the company has also faced decrease in profitability. However, despite adverse market conditions, BHP Billiton has been able to stand ahead of its competitors with net profit margin of 15.39% in 2017. Rio Tinto has net margin of 13.68% as depicted from the graph given below.

Figure 2: Net margin and Return on Equity

The primary reason of higher net margin of BHP Billiton is the reduction in the cost of production. The cost of sales of BHP Billiton was $5.45 billion against the revenues of $38.28 billion, which accounts for 14.24% of sales. On the other hand, Rio Tinto had cost of sales amounting to $26.78 billion against the revenues of $33.78 billion, which account for 79.28% of sales.     

Though the net margin of BHP Billiton is better than that of Rio Tinto but the return on equity is weaker. The return on equity of BHP Billiton is 10.29% whereas Rio Tinto has a return on equity of 11.76%. The lower return on equity shows that BHP Billiton has not been able to utilize its capital adequately. The company has big equity capital base but due to lower demand its utilization has not been optimum.   

The assessment of liquidity is crucial to understand that whether the company is able to meet out its short term liabilities. It is considered that the current ratio and quick ratios are the best indicators of liquidity position of the business. In the case of BHP Billiton, the current ratio has been found to be 1.85 times, on the other hand Rio Tinto has current ratio of 1.61 times. Thus, BHP Billiton has higher current ratio depicting company’s better position in regards to liquidity as compared to the competitor. Further, the quick ratio of BHP Billiton is also higher than the competitor.   

Figure 3: Liquidity Ratios

The quick ratio of BHP Billiton is 1.53 times as against 1.30 times of Rio Tinto. High current and quick ratios indicate that the company does not face any problem in meeting its short terms commitments. Further, it also depicts that the company’s working capital management has been efficient. The cash flows from operations have also been found to be increasing over the period of five years as evidenced from the appendix-1.

Solvency Analysis

The solvency risk is a big concern for any investor because high solvency risk may endanger the very survival of the company. It is considered appropriate to compute and assess the ratios such as debt equity, debt to assets, and times interest to evaluate solvency risk. In regards to BHP Billiton, the debt equity ratio has been found to be 1.04 times as against 1.27 times of Rio Tinto. The debt to total assets ratio is 0.51 times and 0.56 times for BHP Billiton and Rio Tinto respectively. Thus, BHP Billiton has lower debt equity ratio and debt to assets ratio which implies lower risk of solvency as compared to its competitor.

Figure 4: Solvency Ratios

However, it is to be noted that though BHP Billiton is better than its competitor but still the ratio greater than 1 indicates high risk of solvency. If the debt to equity ratio is greater than 1 then it means that the company is using more debt than equity in financing its assets, which exposes it to the risk of solvency.         

Further, the times interest shows that whether the company is generating enough profits to be able to make periodical debt repayments. The times interest of BHP Billiton has been found to be 9.12 times as against 7.13 times of Rio Tinto (appendix-3). BHP Billiton has higher times interest which means that the company is earning better operating profits than the competitor.     

The mining industry forms a major part of the overall economy of Australia. A major part of overall GDP is generated by the mining industry in Australia. In the recent years, the mining industry has been facing decline due to low demand. The recession in the mining industry affected the stock market so not only the individual companies but the overall market index slopped downward.  

Figure 5: Five Year Share Price

It could be observed from the graph shown above that the price of BHP Billiton’s stock started falling down after January 2013. The stock went down from $61.69 to $56 in February 2013 and then further went down to 48 in May 2013. However, it showed recovery towards the end of the financial year 2013 and start of 2014. It happened due to positive results declared by the company.

Further, at the end of 2014, the company reported growth in revenues and net profits which cause the stock to rise regain the position. In the month of June 2014, the stock traded at $61.47 showing that it reached to the level where it dropped from. However, the stock could not sustain the rising trend for longer. In the year 2015, China announced cut in the imports of coal and iron ore from Australia. The demand decreased and it caused fall in prices of coal and iron ore.

Share Price Performance Analysis

The price of stock is affected by the expectations of investors from the company. If the investors expect good performance in future, the stock’s price tend to rise, on the other hand, if they expect bad performance, the stock’s price is likely to go down (Kumar and Mohapatra, 2015). Thus, when China declared cut in imports of coal and Iron ore from Australia, it caused the investors to expect bad performance from the mining companies in future years. The investors started speculating on the stock of BHP Billiton. In the year 2014, the stock kept declining each month. It went to the lowest level of $20.59 in December 2015. In the year 2016, the company suspended the mining operations in Brazil and reported financial losses on a consolidated basis (Australian Associated Press, 2016).

However, in the year 2017, the company recovered from the losses reporting profits for the financial year 2016-17. The positive move in the profitability affected the stock’s price positively. By the end of financial year 2017, the stock showed a tremendous amount of recovery reaching at $42 from $20.59.               

BHP Billiton is a well established company and it has been operating the business successfully over a decade. However, in the recent past few years, the company is facing risk of fall in demand. In-fact this risk is not only faced by BHP Billiton, but the entire industry is being hit. BHP Billiton operates at large scale so it got affected more than anyone else (BHP Billiton, 2017). Thus, due to low demand, in particular of coal and iron ore, the risk of decrease in revenues and profitability is always there. However, the company is capable to return back on track. As of now, the company has suspended few of its operations, but it can resume back those operations once the market stimulates (BHP Billiton, 2017).

If we analyze the risk and return of BHP’s stock for the current financial ended on 30^th June 2017, it would be observed that the stock earned annualized return of 26.52% with the standard deviation of 9.14% (appendix-5). Further, considering the size and the historical background, it is expected that the company can make good recovery. China has limited its imports of coal and iron ore, thus, BHP will have to look to developing countries to penetrate market. If the company is able to find out new importers, the demand will rise, which will turn the financial position in favour of the company in no time.        

Conclusion and Recommendations for Investors

This report presents discussion on the importance of information in annual reports and further it analyzes the financial performance of BHP Billiton from investment few point. From the discussion, it could be concluded that the annual report provides all the essential information at one place. The investors can get information on financial performance, corporate governance, future risks and hazards from the annual report.

From the financial analysis of BHP Billiton, it could be concluded that the company has been struggling a bit in the recent years but it is quite capable to bounce back. There is slack in the whole mining industry in Australia. However, BHP Billiton is still performing better as compared to its competitor, Rio Tinto. The company’s net margin (15.39%), current ratio (1.85), Quick ratio (1.53) and debt equity ratio (1.04) are better than Rio Tinto.

Thus, based on the overall analysis, it could be advised that the investors should make investment in BHP’s stock. As of now, the stock prices are low, so the investors could by the stock cheaply. The company has all the potential to make losses good in future and return back on the track. If it happens, the investors could make huge money out of this investment.     

References

Australian Associated Press. 2016. BHP Billiton shares fall to lowest point in decade after announcing write-downs. [Online]. Available at: https://www.theguardian.com/business/2016/jan/20/bhp-billiton-shares-fall-to-lowest-point-in-decade-after-announcing-write-downs [Accessed on: 10 January 2018].

BHP Billiton. 2018. Annual report of BHP Billiton 2017. [Online]. Available at: https://www.bhp.com/-/media/documents/investors/annual-reports/2017/bhpannualreport2017.pdf [Accessed on: 08 January 2018].

BHP Billiton. 2018. Our History. [Online]. Available at: https://www.bhp.com/our-approach/our-history [Accessed on: 08 January 2018].

Dagwell, R., Wines, G., and Lambert, C. 2015. Corporate Accounting in Australia. Pearson Higher Education AU.

Kumar, N.B. and Mohapatra, S. 2015. The Use of Technical and Fundamental Analysis in the Stock Market in Emerging and Developed Economies. Emerald Group Publishing.

Menezes, F. 2016. Iron ore still has an important role to play in Australia’s economy. [Online]. Available at: https://theconversation.com/iron-ore-still-has-an-important-role-to-play-in-australias-economy-54476 [Accessed on: 10 January 2018].