BHP Group Limited

Moat: 2/5

Understandability: 4/5

Balance Sheet Health: 4/5

A global diversified mining and metals company, BHP extracts a variety of resources, including copper, iron ore, coal, and potash, while navigating the dynamics of commodity markets and increasing its focus on sustainability and transition to cleaner energy.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

BHP’s economic moat is limited and faces risks from several directions.

Business Overview

BHP Group Limited is a global diversified resources company involved in the exploration, development, and production of a wide array of commodities. These include iron ore, copper, metallurgical coal, and nickel. The company operates primarily in Australia and the Americas with a focus on high-quality, long-life assets. Their key products are essential for global industries, playing a crucial role in construction, energy, and manufacturing.

Revenue is primarily driven by the commodities market with notable dependence on external demand and global market prices.

Revenue Distribution

  • Iron Ore: Forms the largest portion of revenues, sourced mainly from Western Australia.
  • Copper: A key metal in electronics and the green economy transition, copper assets are primarily in Chile and Australia.
  • Coal: Metallurgical coal is used for steel production, is focused on production out of Queensland. Thermal coal is also mined with its primary use in power generation.
  • Nickel: Primarily sold to battery manufacturers, for use in electric vehicles, is mined from the WA operations.
  • Potash: Is in the developmental phase, with the Jansen project in Canada.
  • Other: Includes exploration activities and small sales in other commodities.

BHP is in a transition towards commodities needed in the green economy, with copper and nickel set to become more important revenue drivers in the coming years.

  • Global Demand: Driven by urbanization and industrialization, especially in Asia.
  • Price Volatility: Commodity prices are subject to significant fluctuations based on economic conditions and global events.
  • Sustainability: Increased focus on environmental and social performance is pushing towards more responsible and low emissions operations.
  • Technological Disruption: New technologies, automation, and digitization are impacting operations.
  • Geopolitical Factors: Global relations, trade policies, and security issues present challenges to the resource supply chain.
  • Energy transition: the increasing push to lower emissions is changing the landscape of commodity production with the growth of copper and nickel and reduction in coal sales.

BHP has an overall benefit from strong industry demand for their products, but will face increased pressure from sustainability and changes in technology.

Margins

  • Profit margins are influenced by commodity prices, production costs, and operating efficiency.
  • BHP has often maintained respectable margins, but these are vulnerable to fluctuating commodity prices and rising operating costs.
  • Cost advantages due to low-cost mines and scale often lead to higher margins in the commodity markets.

Even though BHP’s revenues and earnings fluctuate due to volatility of commodities market, the scale of their operations has helped them sustain high margins.

Competitive Landscape

  • Global Majors: BHP competes against other large diversified miners like Rio Tinto, Glencore, Vale, and Anglo American.
  • Local Competitors: Many local and regional competitors for specific resources.
  • New Entrants: Barriers to entry are high, but new tech and new strategies can influence competition.
  • Industry Consolidation: The mining sector has been consolidating in recent years with mergers and joint ventures.

BHP’s market dominance is more of a volume one, without significant pricing power, due to commoditized product.

What Makes BHP Different

  • Diversified Portfolio: BHP operates across multiple commodities, which can partially shield it from specific market declines.
  • Scale and Experience: They are among the largest producers of most of their resources and thus have scale advantage.
  • Geographical Diversification: Operating across Australia, Americas, and the Middle East provides some geographical diversification against localized downturns and helps with supply chain security.
  • Focus on Sustainable Production: The company is making strides to embrace sustainable practices and meet new global emission standards.
  • Asset Quality: They focus on high-quality, long-life assets to secure long-term profitability.

While BHP operates across many commodities and geographies, they rely heavily on external market forces and global demand for their products and don’t have much pricing power.

Financial Analysis

The financials of BHP are significantly influenced by the volatile nature of commodity prices. They rely on extensive financial planning to manage the impacts of fluctuating prices.

BHP’s financials fluctuate heavily due to commodity prices, and despite its large size, the company does not have control over such fluctuations.

  • BHP’s revenues, profitability, and cash flows are heavily dependent on commodity prices.
  • Their financial position is moderately strong but subject to volatile earnings.
  • BHP maintains a moderate amount of debt to support large-scale investments.

Earnings Calls

  • Focus on Decarbonization: Emphasis on reducing carbon emissions in all operational sectors by at least 30 percent by 2030, and to achieve net-zero status by 2050.
  • Investment in Growth: BHP has been increasing capital expenditures on new opportunities, including potash and copper expansion.
  • Efficiency Initiatives: Management is taking initiatives for cost savings, through efficiency measures, automation, and digitalization.
  • Managing Volatility: Management focuses on having strong balance sheets and financial discipline to manage the volatility of commodity prices.
  • Strong Cash Flows: BHP has recently experienced significant free cash flow, owing to higher commodity prices. This cash will primarily be used for maintaining the dividend and some share repurchases.
  • Emphasis on value creation: CEO has mentioned that value is created when they have the right people, apply the best processes to produce the needed products and has mentioned that any project should be above the cost of capital.

Challenges and Controversies

  • Brazil dam collapse: Concerns around social and environmental liabilities tied to the Mariana and Fundao dams that failed and spilled contaminated waste materials into the nearby area.
  • Climate Change: Increasing regulation and consumer shifts in the energy sector are forcing them to reevaluate their thermal coal operations.
  • Labor Relations: Labor unions and employee relations are extremely important with several labor disputes arising in various regions.

BHP needs to take proactive steps to reduce its carbon footprint. They also need to be prepared for legal and other liabilities from their operations, which might affect future earnings.

Moat Rating: 2 / 5

BHP’s moat is categorized as narrow, owing to the cyclical nature of the commodity business and the variability in prices. The sources of moat are:

  1. Economies of Scale: Being large player in certain key commodities gives them slight cost advantage.
  2. Resource ownership: access to high grade and rare minerals can be an advantage.
  3. Long term contract and relationships: for specific commodities.

However, even with above strengths, price fluctuations, new competitors, technology changes and government regulations can greatly impact operations of BHP and can cause disruption of any moat.

Understandability Rating: 4 / 5

BHP’s business model is largely based on commodity production, which is straightforward for an experienced investor to understand. The high volume operations make it easy to understand the core business model, but the technicalities of the mining operations and their financial statements might be difficult to analyse.

Balance Sheet Health: 4 / 5

BHP has a strong balance sheet due to cash generated from their current operations, however, some debt and liabilities remain. The long-term nature of their operations, and need for capital investment implies higher levels of risk. Overall, the financial position is reasonably healthy but could be impacted by changes in market dynamics. They have also managed to maintain an adequate credit rating for their operations. They also have access to large credit facilities, providing liquidity and stability for their operations. Overall, I would rate the balance sheet as fairly healthy and stable.