In early 2017, discussions between BHP Billiton Limited (NYSE:BHP) and Elliott Management spilled out into the open. The activist investor is looking for BHP to make changes that it believes will enhance shareholder value, most notably spinning off the miner's oil business. Elliott has had success cajoling other companies to actions lately, notably metal parts maker Arconic (NYSE:HWM), which means investors should be asking what will happen to BHP Billiton's oil business.
Elliott has three main requests of BHP. The first is to simplify its corporate structure, which involves dual shares, buying back $6 billion worth of stock, and spinning off the company's oil business. BHP is pushing back on all three, suggesting that the company's unique corporate structure isn't an impediment to its business, it's not the right time to spend so much on share buybacks, and that the oil business is a good fit for BHP.
The demands are notable because of Elliott Management's track record. For example, it recently got into a public spat with Arconic. In that case the dissident investor was looking for the ouster of the CEO and additional board seats. In the end, Arconic's CEO left the company and Elliott and Arconic came to terms about the board without having to resort to a disputed shareholder vote.
Elliott also took on technology giant Samsung. In this case it wanted Samsung to restructure its business as a holding company. Although Elliott didn't get what it wanted, Samsung did agree to cancel treasury shares and to start paying a dividend. I count that as another broad win.
So it's legitimate to wonder how long BHP can resist with Elliott pushing for change.
Not on my watch?
Saying no to changing the dual corporate structure is relatively easy. Making that change would be technically difficult, time consuming, and would require regulatory approval. It's probably not worth the effort since the current structure hasn't really been much of an impediment so far. Share buybacks on the scale that Elliott is asking, meanwhile, would require BHP to use roughly 40% of the cash it has on its balance sheet or the issuance of new debt. It could easily afford the expense, but BHP says it would rather have additional balance sheet flexibility right now. I'm willing to take management at its word on this one, but it's probably not a big deal either way.
The last requested change, however, is a big one: Jettisoning the oil business. Elliott makes a good case for a spin-off. For example, drilling for oil is a different business than mining iron ore, copper, and metallurgical coal. BHP suggests that its knowledge of geology gives it an edge here. I'm not so sure being that it competes with oil industry giants like ExxonMobil.
That said, the company's oil assets do separate it from competitors like Rio Tinto plc and Vale SA that don't drill for oil. It clearly gives BHP a unique level of diversification. And oil is a big business for BHP, accounting for around 20% of underlying EBITDA through the first six months of the current fiscal year. Moreover, over the last five years the oil business' EBITDA margin exceeded that of all of its mining segments. This is a notable and profitable business and BHP has big plans for it.
A compromise, perhaps
BHP, however, can't claim that its oil business has been a perfect investment. In early 2016 it announced it was writing down the value of its U.S. shale oil assets by roughly $7 billion. Adding that to earlier write-offs brings the total to around $13 billion on roughly $20 billion in investments in the U.S. shale space. Clearly, Elliott can easily point to mistakes that have been made that suggest BHP shouldn't be in the oil business.
But that's just one part of the company's oil portfolio and BHP has started looking at "alternatives" for its U.S. shale operations. The rest of the oil business, however, isn't included in this process. It appears that BHP is hoping to give Elliott a little something so it doesn't have to give the dissident shareholder everything it wants. For now, based on BHP's pushback against Elliott, getting out of the U.S. shale business is probably all that investors should expect to see happen in BHP's oil business.
Time isn't of the essence
At the end of the day, that's probably not a bad thing. BHP just went through a huge spin off, jettisoning assets into South32 in early 2015. That means it's still only a couple of years removed from its last big makeover. That's not really enough time to assess if the new focus is working. And commodities are only just starting to show signs of strength, including oil, which has lifted off its lows of around $30 a barrel to hit the $50 area.
It's also important to remember that the oil assets aren't exactly going anywhere. So BHP can spin them off at a later date just as well as it could spin them off today -- why rush into a new spin off so soon? Fine tuning the oil business seems like a more prudent move at this point. With BHP clearly willing to defend its position, I wouldn't expect much more than that for now.