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The Vale Between Two Peaks
Whether it's the anticipated end of QE2, ongoing growth in emerging markets, the economic recovery in North America and parts of Europe, or the fact that hundreds of companies are furiously digging new holes around the world, there are a lot of crosscurrents in the commodity space.
Although commodities have pulled back in early May, it seems early to call an absolute end to the secular rally. With that in mind, maybe Brazil's Vale (Nasdaq:VALE) is still worth a look for value-oriented investors who want some commodity exposure. (For more, see Investing In The Metals Markets.)
TUTORIAL: Commodities: Introduction
A Disappointing Start to the Year
The first quarter is virtually always the weakest for this huge iron ore and nickel producer, but this quarter was even weaker than analysts had in mind. All of that said, "weak" is a relative notion. Revenue was still almost double the year-ago level, while adjusted EBITDA climbed over 3.5 times from last year's first quarter. So although that EBITDA figure was about 10% below the consensus, clearly it is not as though Vale is scraping bottom.
Production volumes were interesting this time around. Nickel and copper sales volume rose 79.7% and 107.9% respectively, while iron ore sales volumes were up just 4% on a year-over-year basis. (Iron ore, copper, and aluminum took similar plunges in the face of dropping production. For more, see Using Base Metals As An Economic Indicator.)
Vale: New, But Maybe Not Improved
A lot has been going on at Vale that has next to nothing to do with the prospects for the company's iron ore business. The company has undergone change at the CEO level due to government pressure - pressure that came about from the prior CEO's controversial decisions to lay off workers at politically inconvenient times and to buy cargo ships from foreign builders (because they were cheaper).
Assuming that the new CEO reads the newspapers, it is fair to wonder just how much investors will suffer from what is likely to be a more politically "sensitive" Vale. Developing more mineral resources in Brazil is not necessarily a bad thing, and seeing more ore go to Brazilian steel customers like Gerdau (NYSE:GGB), Companhia Sideurgica (NYSE:SID) may not cripple business. Still, government interference on this level is troubling.
On a possibly more positive note, Vale has completed the divestiture of its aluminum operations to Norsk Hydro (Nasdaq:NHYDY.PK) in exchange for a large stake in that Norwegian company. Now, getting rid of aluminum isn't such a bad idea (sorry, Alcoa (NYSE:AA), but aluminum has been a big laggard and the stock has trailed other miners like Freeport McMoRan (NYSE:FCX) and steel companies like Arcelor Mittal (NYSE:MT)).
But here's the thing - first of all, Vale put up with aluminum for such a long stretch of underperformance, it almost seems like they might be selling it as the prospects for this metal actually look decent. Second, they're exchanging their aluminum business for a major stake in ... what is basically an aluminum business. Granted, Vale may well look to sell that stake over years, but at this point they've exchanged an aluminum asset they can control for one that they cannot. (Learn the contract specifications for a few of the most heavily traded commodities. For more, see Trading The Soft Commodity Markets.)
The Bottom Line
If Brazil's government is going to risk its future by interfering with major industries, investors may want to consider other iron ore majors like Cliffs Natural Resources (NYSE:CLF), Anglo American (Nasdaq:AAUKY.PK) or Fortescue (Nasdaq:FSUMY.PK). Of course, there is the option of more diversified miners like BHP Billiton (NYSE:BHP) and Rio Tinto (NYSE:RIO) (and to be fair, Anglo American is rather diversified).
Vale looks fairly cheap, trading at less than six times forward EBITDA. That said, if the commodity cycle is peaking, it would be natural to assume that the forward multiples would be unusually low. There are plenty of reasons to believe this cycle has longer legs, though, especially as emerging market demand is staying strong. For investors who aren't afraid to hang around this party a little longer, Vale could be a good, albeit risky, name to consider. (This simple measure can help investors determine whether a stock is a good deal. For more, see Value Investing Using The Enterprise Multiple.)
Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!
Although commodities have pulled back in early May, it seems early to call an absolute end to the secular rally. With that in mind, maybe Brazil's Vale (Nasdaq:VALE) is still worth a look for value-oriented investors who want some commodity exposure. (For more, see Investing In The Metals Markets.)
TUTORIAL: Commodities: Introduction
A Disappointing Start to the Year
The first quarter is virtually always the weakest for this huge iron ore and nickel producer, but this quarter was even weaker than analysts had in mind. All of that said, "weak" is a relative notion. Revenue was still almost double the year-ago level, while adjusted EBITDA climbed over 3.5 times from last year's first quarter. So although that EBITDA figure was about 10% below the consensus, clearly it is not as though Vale is scraping bottom.
Production volumes were interesting this time around. Nickel and copper sales volume rose 79.7% and 107.9% respectively, while iron ore sales volumes were up just 4% on a year-over-year basis. (Iron ore, copper, and aluminum took similar plunges in the face of dropping production. For more, see Using Base Metals As An Economic Indicator.)
Vale: New, But Maybe Not Improved
A lot has been going on at Vale that has next to nothing to do with the prospects for the company's iron ore business. The company has undergone change at the CEO level due to government pressure - pressure that came about from the prior CEO's controversial decisions to lay off workers at politically inconvenient times and to buy cargo ships from foreign builders (because they were cheaper).
On a possibly more positive note, Vale has completed the divestiture of its aluminum operations to Norsk Hydro (Nasdaq:NHYDY.PK) in exchange for a large stake in that Norwegian company. Now, getting rid of aluminum isn't such a bad idea (sorry, Alcoa (NYSE:AA), but aluminum has been a big laggard and the stock has trailed other miners like Freeport McMoRan (NYSE:FCX) and steel companies like Arcelor Mittal (NYSE:MT)).
But here's the thing - first of all, Vale put up with aluminum for such a long stretch of underperformance, it almost seems like they might be selling it as the prospects for this metal actually look decent. Second, they're exchanging their aluminum business for a major stake in ... what is basically an aluminum business. Granted, Vale may well look to sell that stake over years, but at this point they've exchanged an aluminum asset they can control for one that they cannot. (Learn the contract specifications for a few of the most heavily traded commodities. For more, see Trading The Soft Commodity Markets.)
The Bottom Line
If Brazil's government is going to risk its future by interfering with major industries, investors may want to consider other iron ore majors like Cliffs Natural Resources (NYSE:CLF), Anglo American (Nasdaq:AAUKY.PK) or Fortescue (Nasdaq:FSUMY.PK). Of course, there is the option of more diversified miners like BHP Billiton (NYSE:BHP) and Rio Tinto (NYSE:RIO) (and to be fair, Anglo American is rather diversified).
Vale looks fairly cheap, trading at less than six times forward EBITDA. That said, if the commodity cycle is peaking, it would be natural to assume that the forward multiples would be unusually low. There are plenty of reasons to believe this cycle has longer legs, though, especially as emerging market demand is staying strong. For investors who aren't afraid to hang around this party a little longer, Vale could be a good, albeit risky, name to consider. (This simple measure can help investors determine whether a stock is a good deal. For more, see Value Investing Using The Enterprise Multiple.)
Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!
by
Stephen D. Simpson, CFA
Stephen D. Simpson, CFA, is a freelance financial writer, investor, and consultant. He has worked as an equity analyst for both sell-side and buy-side investment companies in both equities and fixed income. Stephen's consulting work has focused primarily upon the healthcare sector, while he has also written extensively for publication on topics pertaining to investments, security analysis, and healthcare. Simpson operates the Kratisto Investing blog, and can be reached there.
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