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COLUMN-BHP's new chairman has choice between exciting and boring: Russell
June 19, 2017 / 6:40 AM / 2 months ago

COLUMN-BHP's new chairman has choice between exciting and boring: Russell

(The opinions expressed here are those of the author, a columnist for Reuters.)

By Clyde Russell

LAUNCESTON, Australia, June 19 (Reuters) - There has been no shortage of advice doled out to incoming BHP Billiton chairman Ken MacKenzie on how to boost the world's largest mining company, but ultimately his role comes down to a fairly straightforward choice.

Does BHP want to be a cutting edge mining company always on the prowl for the next big opportunity, or does it want to be a cautious, dividend-focused cash generator, something akin to being the telecoms utility of the mining world?

If there is anything that can be learned from the performance of BHP, and indeed most of its global mining rivals, in the past decade, it's that escaping the ups and downs of the commodity cycle is extremely difficult for a miner.

BHP's Australia-listed shares ended at A$22.99 ($17.51) on June 16, down 8.3 percent since the end of last year, but still above the closing low of A$14.20 on Jan. 21, 2016.

On that view BHP's share price performance doesn't actually look that bad, with the stock gaining rapidly from the January low last year on the back of sharp gains in the price of its main profit earner, iron ore, as well as other commodities, especially coal.

But over the longer term, BHP's performance becomes much less impressive.

The stock dropped to just above A$19 in November of 2008, in the wake of the global financial crisis.

Buying BHP at that point would have been a good investment as the shares took off as China poured massive amounts of money into resource-heavy infrastructure projects in order to stimulate growth after the global downturn.

BHP rode the wave to a peak of A$44.89 on April 11, 2011, but after that it was all downhill until the low of January 2016, as iron ore and coal notched up five consecutive losing years.

BHP'S ROLE IN ITS OWN DOWNTURN

It would be a simple argument to say that BHP merely tracked the decline in commodity prices, but that ignores the company's own complicity in causing prices to slide.

In common with its peers, BHP decided to use the cash generated from the sharp rise in commodity prices on the back of Chinese stimulus to dramatically boost production, particularly in iron ore.

As soon as one major producer decided that the China story was a never-ending gift to miners, basically they all had to follow or stand to lose market share.

The management and board of BHP at the time made the mistake of believing the optimistic view of forecast Chinese steel output, while ignoring the historic fact that virtually every commodity boom is ended by too much supply being built.

The company was perhaps too loose with its cash. With the benefit of hindsight it overpaid for its U.S. shale assets and it frittered money away on failed attempts to take over a Canadian potash producer.

It took a few years to realise the errors, and BHP dramatically shifted course when appointing Andrew Mackenzie as chief executive in May 2013, with his razor-like focus on driving down costs and pulling back from the deal-making beloved by his predecessor Marius Kloppers.

BHP today still appears to be running very much along the lines Andrew Mackenzie set, namely a strong focus on cost-control and boosting efficiencies in order to generate strong cash flow.

The problem is some investors want more, with activist shareholder group Elliott Management pushing for BHP to exit its U.S. petroleum business and focus more on giving returns to shareholders.

The appointment of former packaging executive Ken MacKenzie as chairman can be chalked up as a victory for Elliot, given the hedge fund's demand for board renewal and new thinking.

But how much should MacKenzie listen to shareholders such as Elliott, given they are most likely focused on maximising returns on a fairly short-term basis, as opposed to longer-term investors such as pension funds that make up the bulk of BHP's shareholders.

It's here where MacKenzie has to look at what kind of company BHP wants to be.

If he chooses the Andrew Mackenzie model of trying to be the best at digging up and shipping various minerals, then BHP should focus on returning as much money as possible to shareholders as dividends, while making it explicit that those returns will be linked to the vagaries of commodity prices.

On the other hand, BHP can try to run as leanly as possible while still aggressively seeking expansion opportunities using the cash generated from its existing operations.

That sounds like the best path, but the problem is it seems that virtually every major mining company struggles to simultaneously be both a cutting-edge, growth-focused innovator and a cost-driven dividend play.

Disclosure: At the time of publication, Clyde Russell owned shares in BHP as an investor in a fund. (Editing by Richard Pullin)

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