Mining and commodities trading giant Glencore Xstrata (LSE: GLEN) has modestly surprised the market with better-than-expected numbers in its latest full-year results.
Improved cost management and better synergies from its recent acquisition Xstrata helped offset some of the weakness in commodity pricing we’ve seen in the past year or two, while stronger production figures – especially for copper, where output increased 26% to 1.5million tonnes – also boosted its top and bottom line.
However even these full-year results only hint at what I believe is the long-term argument for owning these shares.
Here are three reasons why the shares currently have a place in my portfolio.
1. Improving efficiency and capital management
As is normally the case, the mining industry did not cover itself in glory during the last commodity boom. Numerous expensive acquisitions and speculative new projects have had to be written down in value after the cycle turned. And company management – in many cases new management, after the old leaders were ousted – has subsequently struggled to wring costs out of their businesses without incurring even more financial pain.
While Glencore was not the worst offender in the boom years, you’re still getting some of the benefits of this fresh air breathing through the sector by owning the shares today, most notably thanks to its full acquisition of its fellow mining giant Xstrata.
The company now says it has identified $2.4 billion in annual savings from the merger, which was formally completed last May. That’s more than expected and enough to move the dial every year, even for a £44 billion mega-mining giant.
True, Glencore took a massive $7.5 billion impairment charge on the merger, but that reflected more the weakness in the wider sector. Besides, it’s a paper charge – the actual financial outlay is long since done and dusted. New investors in the shares are more interested in where the company is going from here, and on a pro-forma basis Glencore says its cash flow was steady between 2012 and 2013, reflecting its operational strength.
Even its scary $36bn net debt figure needs to be seen in this light. The company is coming to the end of several large projects, and says capital expenditure is on a “steeply declining trajectory”.
Assuming commodity prices don’t lurch even lower, the benefits of all this expenditure coming out of the business should start to flow through in future years.
2. Insider ownership
One reason to have confidence that management really is interested in delivering shareholder value is that unlike its fellow UK behemoths in the mining sector, Glencore Xstrata has significant insider ownership.
Around a quarter of the company is owned by staff and directors. Most significantly, CEO Ivan Glasenberg owns an 8.3% stake in the company, and other key figures also retained big holdings following the company’s IPO in May 2011.
Admittedly, the share price is still much lower than the heights it hit shortly after it floated, so insider ownership is hardly a guarantee of a strong performance in the price of the shares.
But it does give me more faith that management will look to make decisions that deliver shareholder value, rather than just expand the Glencore empire for the sake of executive ego. I’m sure Glasenberg has plenty of ego, but I think his big holding – which just delivered a $183 million dividend for him, after all – should override any desire to justify a bigger pay packet through needless conquest.
I even see that high flotation price as a positive. It wasn’t great for those who bought into the hype, but it did prove Glencore’s traders could call the top of a market.
In the future they’ll be doing that for all shareholders’ benefit.
3. Stealthy creation of a soft commodity giant
A third reason for owning Glencore has nothing to do with metals, coal, oil or the other commodities we think of when it comes to big London miners.
Rather, it’s for its exposure to soft commodities, which I think could be a massively important business in the future. Soft commodities are basically those that grow – think wheat, corn, pork, timber and the like. They’re renewable, unlike metals, but equally the world’s growing population has an ever greater appetite for them, too.
Following its acquisition of Canadian grain handling giant Viterra in early 2013, Glencore is the only one of its peers with significant exposure to this crucially important sector. This sector was a laggard in 2013, but I think agriculture will only get more important in the years ahead. The commodities business is all about scale (the clue is in the name!) and few have the scale to match Glencore Xstrata.
