How Safe Is Your Money In Rio Tinto plc?

Giant miner Rio Tinto plc (LON:RIO) is very profitable, but should shareholders be concerned by its dependency on iron ore?

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Iron ore giant Rio Tinto (LSE: RIO) (NYSE: RIO.US) bounced back to profit in 2013, but its share price performance hasn’t followed. After peaking at 3,680p in February, fears of a Chinese slowdown have driven Rio’s share price down to 3,175p — nearly 5% lower than twelve months ago.

High levels of share price volatility are quite common with mining companies, and don’t always indicate that the company itself is on precarious footing. In Rio’s case, I don’t think there is much to worry about, but to make sure, I’ve taken a closer look at three key financial ratios which should highlight any weakness in the firm’s underlying business.

1. Operating profit/interest

What we’re looking for here is a ratio of at least 1.5, preferably over 2, to show that Rio’s earnings cover its interest payments, with room to spare:

Operating profit / net interest paid

$7,430m / $1,164m = 6.4 times cover

Rio’s interest cover looks pretty safe, and allows plenty of headroom for a fall in the price of iron ore, which accounts for around 80% of the mining giant’s earnings.

Rio’s gross profit margin on iron ore is around 65%, enabling it to remain profitable at much lower prices than at present, but any sustained drop in the price of iron ore would impact the miner’s profits, as its interest payments would remain fixed.

2. Debt/equity ratio

Commonly referred to as gearing, this is simply the ratio of debt to shareholder equity, or book value. I tend to use net debt, as companies often maintain large cash balances that can be used to reduce debt if necessary.

rio tintoAt the end of 2013, Rio’s net debt was $18.4bn and its book value was $53.5bn, giving net gearing of 34%. I’m comfortable with this, although I’d like to see further reductions over the coming year, to strengthen the firm’s ability to cope with weaker commodity prices.

3. Operating profit/sales

This ratio is usually known as operating margin and is useful measure of a company’s profitability.

Rio’s operating margin of 14.5% is lower than the 23% average it achieved during the 2008-2011 mining boom, but is attractive, and may rise this year as Rio’s giant Oyu Tolgoi copper-gold mine in Mongolia makes a larger contribution to the firm’s earnings.

Is Rio a safe bet?

I’m comfortable with Rio’s finances, and as a shareholder, I’m happy to ignore the miner’s volatile share price and simply sit back and collect my dividends (the payout is forecast to rise to 3.9% this year).

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Roland owns shares Rio Tinto.

More on Investing Articles

Investing Articles

Should I buy more Rolls-Royce shares near 500p?

This investor is wondering whether to buy more Rolls-Royce shares this summer or to just stick with those he already…

Read more »

Investing Articles

After its big fall, is the National Grid share price dirt cheap now?

The National Grid share price fell sharply in reponse to new rights issue plans. But is it an even better…

Read more »

Aerial shot showing an aircraft shadow flying over an idyllic beach
Investing Articles

Starting in June, I’d invest £1,000 a month to aim for a £102,000 second income in retirement

This author highlights a less well-known FTSE 100 stock that could help his portfolio generate a very big second income…

Read more »

Investing Articles

Down 47% in 5 years, is the IAG share price due a bounce?

Many companies in the travel sector have seen fierce rallies since 2020. But with the IAG share price still down…

Read more »

Young black colleagues high-fiving each other at work
Investing Articles

Despite its drop, I reckon this is one of the best FTSE 100 stocks to buy and hold!

The FTSE 100 has been climbing in 2024 but this favourite of our writer's has been falling. Despite this, she’s…

Read more »

Investing Articles

AI stocks vs EV shares; which is the best sector for me to invest in?

Jon Smith considers the recent rally in AI stocks and weighs up whether to allocate more money there versus EV…

Read more »

A graph made of neon tubes in a room
Investing Articles

Do Greggs shares have even more growth ahead?

Greggs shares have seen some solid growth in the last few months, as the economy shows positive signs. But is…

Read more »

Investing For Beginners

How I’d aim to grow my Stocks & Shares ISA from £20k to £1m

Jon Smith explains how diversification and focusing on sectors for the future can help grow his Stocks and Shares ISA.

Read more »