South32 (S32) was formed via a demerger of BHP Billiton’s (ASX: BHP) non-core assets, which BHP identified as not fitting its four-pillar strategy. The de-merger was approved by shareholders on 6 May 2015 and S32 started trading on the ASX on 18 May 2015.
S32 is a diversified miner, primarily exposed to aluminium and alumina, but spread across geographies, mainly Australia, Brazil and South Africa. Other commodity exposures include manganese, nickel, thermal & coking coal, silver, lead and zinc.
The Company operates under a regional model, with the Australian-based assets run from its head office in Perth (WA) and its Southern African assets run from the Johannesburg office in South Africa. S32’s primary listing is on the ASX with secondary listings on the Johannesburg and London stock exchanges.
Our View on S32
For the full summary of our findings, please contact us. However, essentially we believe S32 can do well over time.
While S32’s existing asset base has only modest production growth opportunities (they were after all considered non-core to BHP Billiton), we consider the investment attractions in S32 are: i) The potential to generate an earnings surprise to the upside as a result of targeted cost savings, ii) Capital management opportunities and iii) The likelihood of a higher dividend (currently 2.7% on a 1-year forward basis) as the payout ratio progressively increases in FY16 and FY17.
Earnings are likely to be volatile, however then this makes S32 leveraged to any improvement in global economic activity. Nonetheless, S32 has a diversified earnings stream, mid-second-quartile cost position and a robust balance sheet that positions it to capitalise on any cyclical upswing through improved operating cashflow.
The payout ratio initially is expected to be around 40%, rising to 50-60% in FY16. The relatively low payout ratio of 40% reflects S32’s limited ability to fully frank its dividend in its first year as a result of not gaining any franking credits from BHP Billiton.