Glencore’s (LSE: GLEN) share price is down 37% from its 20 May 12-month high of £5.05. Such a drop could indicate that the stock is fundamentally worth less than it was before. Or it may signal a bargain-basement buying opportunity for investors whose portfolios it suits.
To ascertain which is true here, I took a deep dive into the core business outlook and relative stock valuations.
The short-term view
The commodity giant’s preliminary 2024 results released on 19 February looked broadly poor to me.
Adjusted earnings before interest, taxes, depreciation, and amortisation fell 16% year on year to $14.358bn (£11.36bn). And last year’s $4.28bn net income attributable to equity holders swung into a $1.634bn loss.
Breaking these numbers down operationally, its Marketing division’s earnings before interest and taxes fell 8% to $3.2bn. And its Industrial division’s earnings fell 20% to $10.6bn.
The Marketing division is responsible for selling, buying, and transporting commodities. The Industrial division’s focus is mining, extracting and processing commodities.
The long-term view
The main reason for much of the decline in these key numbers was lower average thermal coal prices. This is coal used to generate heat rather than that used in steel making and chemicals.
The World Bank expects the price of energy coal to decline by around 12% this year and next.
That said, Glencore sees income from coal mining as the best way of creating value for shareholders. And it believes this revenue can be used to fund opportunities in its transition metals business, notably steel and copper.
The principal risk here for Glencore is that China’s uncertain economic recovery from its Covid years. However, last year its economy grew 5%, and the same target is in place this year. India – which together with China accounts for over two-thirds of global coal consumption – is forecast to see GDP growth this year of 6.5%.
Overall, analysts estimate Glencore’s earnings will increase by a stunning 43% a year to the end of 2027. And it is this growth that ultimately drives a firm’s share price (and dividend) higher.
Are the shares undervalued?
My starting point in evaluating Glencore’s share price is to compare its key valuations with its peers.
On the price-to-sales (P/S) ratio, Glencore is way behind its 2.2 peer group average – at just 0.2. These peers comprise Anglo American at 1.3, Rio Tinto at 1.9, BHP at 2.4, and Antofagasta at 3.3. So, it looks extremely undervalued on this measure.
The same is true of its 1.2 price-to-book (P/B) ratio compared to its competitors’ average of 2.2.
The second part of my assessment looks at where Glencore’s share price should be, based on cash flow forecasts for the firm.
Using other analysts’ figures and my own, the resulting discounted cash flow (DCF) analysis shows the shares are 47% undervalued at £3.20.
Therefore, their fair value is technically £6.04, although market forces may push them lower or higher than that.
I think strong earnings growth should push Glencore’s share price and dividend much higher. However, as I already have other commodities-sector holdings I will not buy it right now.
If I did not have these, I would take a holding in Glencore as soon as possible and believe it is worth investors considering.
