This article is part of our Rising Star Portfolios series.
It's been a bit over a month since I first purchased shares of Freeport-McMoRan Copper & Gold (NYSE: FCX) for my Messed-Up Expectations portfolio. A month ago, I felt the shares were cheap because Mr. Market seemed convinced the world was coming to an end. Well that hasn't happened (yet), and I still believe the share price of Freeport is cheaper than the value of the company.
Three reasons to buy
In my original write-up, I gave three reasons for buying shares in this company:
- A low consolidated cost of production, allowing profits to roll in at today's copper prices.
- A strong balance sheet, especially when compared to competitors, and low debt to equity.
- A share price sitting well under its net-net price.
Those haven't changed.
First, over the first nine months of this year, average cash cost per pound of copper has been $0.84, nicely below last year's level of $0.87. With copper currently trading at about $3.45 per pound, Freeport is nicely profitable.
Second, its balance sheet remains as strong as ever. Especially pleasing is that Freeport has increased its net cash position by more than $700 million in the last quarter.
|
Company |
Net Cash (net debt) |
Total Debt to Equity |
|---|---|---|
| Freeport | ($1.6 billion) | 19.6% |
| Rio Tinto (NYSE: RIO) | $10.3 billion | 26.2% |
| BHP Billiton (NYSE: BHP) | $5.8 billion | 27.6% |
| Newmont Mining (NYSE: NEM) | $2 billion | 25.4% |
| Southern Copper (NYSE: SCCO) | $972 million | 66.6% |
Source: S&P Capital IQ, for latest reported quarter.
Third, on a net-net basis, including its proven and probable reserves as a salable asset (and pricing the copper at just $2 per pound), I put the shares at more than $43, up slightly from a month ago. Currently, the shares are trading about 10% below that and should, arguably, be trading well over that.
What to watch
The concern I raised before about economic slowdown still holds as that would lower demand for copper. Yet the long-term trend for demand remains upward and Freeport will benefit from that.
Another near-term concern is the continuing strike at the Grasberg mine in Indonesia. This is entering a third month and is interfering with production. What concerns me here is what pay level the company and miners will ultimately settle upon and how that would affect cost of production.
Messed-up expectations
At last night's closing price of $39.59, the market is currently pricing in absolutely no growth in free cash flow from here on out for this company (using my normal 15% hurdle rate to discount). Yes, the labor disputes are a problem and the macro environment is worrisome. But no growth forever? Not even a smidgen?
Tomorrow, I'll purchase a second position in Freeport for my Rising Star portfolio. And, while waiting for the market to get past its current concerns, I'll be enjoying its 2.5% dividend.
Come and discuss this decision on my Messed-Up Expectations discussion board, or follow me on Twitter.
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