Much of the market seemed to be spooked by the material drop in profitability vs the pcp. This shouldn’t have been unexpected and the key metrics of Revenue, EBITDA and NPAT were all basically in-line or ahead of both our forecasts and consensus – from that point of view it was a good result.
We are also in a very different operating environment compared with last year and FMG has been facing significant headwinds from a blowout in iron ore pricing spreads. We are broadly in FMG’s camp when it comes to the outlook for these pricing spreads – taking the view that the Chinese steel industry will respond to the windfall margins created by the policy intervention that has restricted steel production.
In other words, while we think there is an aspect of structural change underway, we think that the industry will respond and there is a good chance these spreads are as wide as they are going to get.
That being the case – how is FMG’s underlying business performing in these tough conditions? We take a look at the underlying free cash flow for 1HFY18, believe it has remained resilient and that FMG is still making very good money despite the tough trading conditions.
Net of a lumpy cash tax installment of US$811m and allowing for accrued tax during the period of US$293m we estimate underlying free cash flows (operating cash flows less investing cash flows) of A$673m for the period – this is after CAPEX and enough to maintain strong shareholder returns and service debt.
Has our view changed?
We have been backers of FMG’s business, the quality of the operations and the positive culture within the company that has seen it respond impressive to a number of challenges over the last few years in particular.
We view FMG as a top quality business with long-life assets that can weather the commodity price cycle. If anything, this result has reinforced that view by demonstrating it can still make good money when times are tough. Furthermore, through the various challenges the company has faced it has become stronger, not weaker.
We like it.
What is the market missing?
The key thing the market is missing is probably the long-term view and an appreciation of the true quality and longevity of FMG’s assets.
Look through the noise and there is a good quality business that will be around for a long time and is building an exceptional platform for growth. Tough periods like this one are the ideal opportunity to build exposure to the name.
More insights from results
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