Right now I’m looking at some of the most popular companies in the FTSE 100 to try and establish whether or not they have the potential to return to historic highs.
Today I’m looking at Rio Tinto (LSE: RIO) (NYSE: RIO.US) to ascertain if its share price can return to 6,969p.
Initial catalyst
To establish whether or not Rio’s share price is able to return to 6,969p, we need to figure out what caused it to reach that level in the first place. In the case of Rio, it would appear that like many of the company’s peers, the rally was spurred by the market euphoria of 2008.
In addition, this record share price of 6,969p came after three years of impressive performance on Rio’s part, which saw the company drive up earnings by 125% from 2004 to 2007.
Indeed, this rapid growth in such a short period of time meant that investors were prepared to pay a premium for Rio’s shares, as it seemed that the good times would never end. In particular, at a price of 6,969p per share, Rio was trading at a historic P/E of 24.6.
In comparison, BHP, which at the time was Rio’s smaller peer, (BHP is now nearly twice the size of Rio) was trading at a historic P/E of 18.5.
But can Rio return to its former glory?
As we all know, the 2008 crisis hit the prices of all assets hard and as commodity prices slumped, so did Rio’s earnings, up to 50% in the following two years.
Unfortunately, volatile commodity prices continue haunt Rio and the company’s revenue figure for 2012 was 10% below that reported for 2008, despite higher output. Additionally, the company’s operating margin has slumped by nearly a third from the figure reported at the end of 2007.
What’s more, the outlook for the commodity markets continues to remain uncertain. It is also unlikely that Rio’s growth will return to pre-2008 rates any time soon.
Still, Rio is now in a better financial position than it was back in 2008. For example, the company’s net debt is now around $19 billion, half the figure of $45 billion reported for 2008. Shareholder equity is also shot up from 2007’s level of $26 billion, to $46 billion reported at the end of 2012. That’s book-value-per-share of around 2,500p, which gives the company a more stable footing to make a run at 6,969p.
Foolish summary
All in all, Rio’s the initial catalyst that pushed Rio’s share price up to 6,969p was the company’s rapid earnings growth. Unfortunately, due to uncertainty within the commodity markets, it is unlikely that Rio will return to this rate of growth any time soon.
So overall, I feel that Rio Tinto cannot return to 6,969p.
