Investors with a very long investing horizon and an interest in picking up bargains in the commodities sector may be beginning to wonder whether shares of South African platinum miner Lonmin (LSE: LMI) can only go up from current prices. Lonmin’s woes, with share prices off 97% over the past year, aren’t due solely to depressed platinum prices, which are only off 27% over the same period. The company has been saddled with high levels of debt and dramatically rising costs for years and has undertaken three rights issues since 2009. The latest rights issue in November was described by management as necessary for the company’s continued survival, but I fear it may not have been enough if platinum prices remain where they are.
The $400m raised was used to pay off $75m of soon-to-mature debt, but leaves $150m on the books with a mere $69m in cash and $203m in undrawn credit available. With Lonmin management forecasting each ounce produced to cost R10,400 this year and the average price received for the last quarter only R10,859, there’s very little cash to pay debts or fund capex expenditures. In fact, the company was free cash flow negative by $167m in the past fiscal year despite higher platinum prices. While significant headcount cuts have brought costs down, the outlook for Lonmin remains very bleak to me unless platinum prices increase significantly in the short term. I believe investors looking for a bargain in the commodities sector would be better off considering more diversified, less indebted operators than Lonmin.
Safety first?
While Lonmin could have significant upside if platinum prices were to unexpectedly skyrocket, investors may be better off going with the safety and stability of Unilever (LSE: ULVR), even if this hypothetical situation were to occur. While 2015 was a year of dramatic currency movements and upheaval in emerging markets, where more than half of its revenue is sourced, Unilever delivered 4.1% sales growth. And while year-on-year profits fell due to large asset sales in 2014, underlying profits and margins were up significantly once the effects of these disposals were stripped out.
2016 is expected (by both analysts and management) to be a tougher year for Unilever, but the long-term strategy of the company looks set to continue rewarding shareholders. Even as emerging markets were in the news for all the wrong reasons, sales grew 7.1% in these regions and Unilever was able to increase prices by 4.3%. This pricing power and geographic reach will serve the company well as growth in developed markets wanes and consumers in developing countries increasingly purchase the well-known brand name goods that Unilever offers.
The forecast 2016 dividend yield of 3.3% also has room to grow as cash flow from operations increased a staggering 19% year-on-year due to sales and margin growth. The bad news for investors intrigued by Unilever is that the attractive dividend and its growth prospects have sent share prices to a richly-valued 21 times forward earnings. However for long-term investors, the underlying quality of the company is what matters more than short-term valuations and Unilever is as quality a company as they come.
