Why Some Investors See Opportunity in Major Mining Stocks

Here’s a look at three majors that have reported results in the last few days. Like most mining stocks, they have suffered due to lower commodity prices. But even so, some analysts and investors see reasons to be upbeat about their longer-term prospects.

Lower coal prices, higher costs hit Teck’s bottom line

Teck Resources (TSX:TCK.A,TSX:TCK.B,NYSE:TCK) reported its second-quarter results on July 25. Vancouver-based Teck is Canada’s largest diversified mining company.

Teck owns or has interests in 13 mines in Canada, the US, Chile, and Peru. In the second quarter, coal accounted for 60 percent of Teck’s operating profits and copper supplied 34 percent. The remaining 6 percent came from zinc.

Teck’s copper production rose to a record 90,000 tonnes in the quarter, up 13 percent from a year ago. The company said coal production was steady at 5.7 million tonnes, though it lost 700,000 tonnes of production because of a nine-day strike at Canadian Pacific Railway.

Even so, revenue slipped to $2.6 billion from $2.8 billion a year ago. Adjusted profits plunged 52.9 percent, to $312 million, or $0.53 a share, from $663 million, or $1.12 a share. Analysts were expecting $0.64 a share in profits on $2.47 billion of revenue.

The lower results were mainly the result of a drop in commodity prices during the quarter. Teck’s realized copper price fell 14 percent to $3.57 a pound. Coal declined 26 percent to $202 a tonne, and zinc slipped 15 percent to $0.87 a pound. As well, production costs for the coal and copper divisions rose due to higher prices for labor, energy, and “various consumables.”

The earnings drop caused the stock to fall more than 7 percent on the TSX, to $27.25.

Teck looks well-positioned to ride out soft resource demand

In its outlook, Teck acknowledged that the weak European economy, sluggish demand in the US, and slowing growth in China and India have held back demand for its products. These factors continue to cloud the company’s near-term prospects. “While we believe that the medium to longer term fundamentals for steelmaking coal, copper and zinc are quite favorable, the recent weakness in these markets may well persist over the near term,” Teck said.

Patricia Mohr, vice president of industry and commodity research at Scotiabank, echoed that sentiment. “[Commodity] prices did fall off [during the quarter],” she was quoted as saying in a Vancouver Sun article. However, Mohr also pointed out that the company’s core products, such as coal, copper, and zinc, remain profitable. “Teck is still in a number of sectors where profitability would be fairly well maintained,” she said.

In the company’s press release, CEO Don Lindsay pointed to Teck’s strong cash balance as another positive point. “[O]ur balance sheet remains strong, with $3.6 billion of cash, which positions us to continue advancing our longer-term growth plans,” he said.

Takeover talk heats up at Lundin Mining

The story was much the same at Lundin Mining (TSX:LUN), but there was a twist: as Lundin was reporting its latest results on July 25, rumors swirled that the company could soon become the target of a takeover bid by a group of Chinese investors.

Toronto-based Lundin produces copper, zinc, lead, and nickel at mines in Sweden, Ireland, Portugal, and Spain. It also holds a 24 percent stake in the Tenke Fungurume copper-cobalt mine in the Democratic Republic of the Congo.

In the second quarter of 2012, Lundin sold 16,749 tonnes of copper, up 11.5 percent from 15,023 tonnes a year ago. Zinc production jumped 58.8 percent, to 28,949 tonnes from 18,228.

But as was the case with Teck, lower prices for both commodities offset the rise in production. As a result, the company’s sales fell 6.4 percent, to $172.3 million from $184 million. Earnings declined 26.6 percent, to $44.1 million or $0.08 a share, from $60.1 million or $0.10 a share. Analysts had forecast profits of $0.21 a share on $253 million of revenue.

A higher tax bill, a rise in exploration and development costs, and lower equity earnings from an investment in the Tenke Fungurume mine also weighed on Lundin’s profits.

However, unlike many other miners, Lundin has been able to keep its costs under control; in the last quarter, its unit cash costs for copper fell 24 percent. Zinc unit cash costs declined 54 percent.

Separately, the Canadian Press reported that a group of Chinese investors may be interested in buying the company. These investors are reportedly led by Jinchuan Group, one of China’s largest base metal miners, and include the country’s sovereign wealth fund, China Investment.

Gold miner Newmont struggles to keep costs under control

Meanwhile, Newmont Mining (NYSE:NEM), the largest US-based gold miner and the world’s second-biggest, reported disappointing results on July 26, largely due to higher costs.

In the second quarter, Newmont’s costs applicable to sales (CAS) rose 17 percent for gold and 75 percent for copper as the company paid more for labor and fuel than it did a year ago. At the same time, average realized gold prices rose 6 percent, to $1,598 an ounce, while average realized copper prices declined 25 percent to $2.85 a pound.

The company is also struggling with lower ore grades at some of its mines. That is part of the reason why its gold production slipped 3 percent from a year ago to 1.18 million ounces. Copper production fell 10 percent to 38 million pounds.

As a result, Newmont’s earnings fell 47 percent to $279 million, or $0.56 a share, from $523 million, or $1.06 a share, a year ago. Revenue declined 6 percent, to $2.2 billion. That was far short of analysts’ expectations of a $0.93-a-share profit on $2.52 billion of revenue.

The company also slightly lowered its 2012 gold production outlook to 5 to 5.1 million ounces from its previous forecast of 5 to 5.2 million ounces, though it is standing by its earlier CAS forecasts of between $625 and $675 per ounce of gold and $1.80 to $2.20 per pound of copper.

“We also expect our advanced projects, exploration and G&A expenditures to collectively be approximately $100 million lower this year,” said Newmont CEO Richard O’Brien. “As we continue to optimize and refine our plans, we expect to deliver further efficiencies and cost savings for 2013 and beyond,” he added.

Newmont says its high dividend is sustainable

In October 2011, Newmont began linking its dividend to the price of gold. As a result, the company has increased its payout four times in the past year. Last week, the company declared a quarterly dividend of $0.35 a share. That’s up 17 percent from a year ago. Newmont shares now yield 3.1 percent on an annualized basis.

That’s part of a larger trend among major gold miners, according to Vedant Mimani, a portfolio manager at Atyant Capital Global Opportunities Fund. “The major gold miners are starting to pay meaningful dividends and this should attract a new constituency of investors, as well as provide support at some price level to the shares,” he said in a recent MarketWatch article.

Still, Newmont’s lower profits and rising costs have some investors wondering if its high payout is sustainable.

According to CEO O’Brien, the answer is yes. “We set the dividend policy in ways that we think are sustainable over the longer term. It is a policy and, as it suggests, that dividend policy does in fact enforce … capital spending and other spending requirements to ensure that we can keep the balance,” he said.

Securities Disclosure: I, Chad Fraser, hold no positions in any of the companies mentioned in this article.