Precious and industrial metals producers have faced sliding prices in the past couple of years. These market developments led to lower profit margins and smaller cash steams for metals companies. These companies had to adjust by selling their assets and reducing capital expenditures. Freeport-McMoRan Copper & Gold (NYSE:FCX), an international mining company, faced these problems much like other mining companies. But Freeport-McMoRan also has additional problems that may put the company at a higher risk than its peers. These problems could keep the company's risk level high.
1. Indonesia isn't a friendly place
As laid out in a recent Fool article, Indonesia plays a prime role in Freeport-McMoRan's operations. Even though Indonesia accounted for 12% of its copper sales in the first quarter, most of its gold reserves are in this country. The imposed 25% tax on exports led to a drop in the company's gold and copper sales during the previous quarter. These restrictions, which were intruded back in January, will also increase its production costs; this country's production costs are already the highest of the company's four regions it operates at. Until the company finds a way to reach a relief on this export tax, the higher costs and the risk of future tax restrictions will keep Freeport McMoRan Copper & Gold's level of risk elevated.
2. High debt burden
In terms of debt, other mining companies such as Barrick Gold (NYSE:ABX) have also faced growing debt and shrinking equity. But Freeport-McMoRan's current situation seems more dire than most of its peers. The company's current level of debt is close to $20.8 billion; back at the end of first quarter of 2013 it was only $10 billion. This burden of debt also contributes to its financial risk: Its debt-to-equity ratio is at 0.98. In comparison,Goldcorp's (NYSE:GG) ratio is only 0.15, and Newmont Mining's (NYSE:NEM) debt-to-equity ratio is 0.67.
The company's management is well aware of its high debt and is set to reduce it significantly to $12 billion by 2016. One way of doing so is by selling assets: Freeport-McMoRan's subsidiary recently sold its Eagle Ford shale assets for $3.1 billion in cash. This added cash could substantially reduce its debt burden. But even if the company uses these funds to pay off its debt, its debt-to-equity ratio will remain high at around 0.85.
Freeport-McMoRan's cash on hand has also dropped to only $1.3 billion at the end of March. This puts its quick ratio at 0.25 -- a low liquidity level. The recent asset sale, however, brings its cash on hand back to $4.4 billion and its quick ratio to 0.83.
This year, the company plans to allocate $7.3 billion toward capex. This latest sale could partly finance the company's capex. If the company wants to reduce its debt and maintain a healthy level of liquidity, the rest will have to come from its operating cash flow, which is projected to reach over $7.7 billion this year. But if the situation in Indonesia isn't resolved, this cash flow could be much lower.
The current operational and financial situation of Freeport-McMoRan is far from great. Until the company shows a significant improvement in its Indonesian operations and cuts down its debt burden, other mining companies offer a better option for investors.
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Lior Cohen has no position in any stocks mentioned. The Motley Fool owns shares of Freeport-McMoRan Copper & Gold. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.