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Pendal’s head of equities Crispin Murray today challenged BHP’s proposal to collapse its dual-listed company (DLC) structure.
“As BHP Ltd (Australia) shareholders, we are not in favour of BHP’s proposal for the collapse of its DLC structure,” Mr Murray said.
On December 8, BHP announced a final board decision to end the DLC structure and unify its corporate structure under the existing Australian parent company, BHP Group Limited.
BHP Group Limited and BHP Group Plc shareholder meetings are expected to take place on January 20 with unification due to be complete by January 31.
“This proposal is transferring value from Australian Limited shareholders to offshore PLC shareholders. This value transfer has been evidenced by the material decline in the Australian multiple of earnings that BHP Ltd trades on,” said Mr Murray, who leads one of the Australia’s biggest Australian equities teams for independent asset manager Pendal Group.
“We appreciate that the main reason for the proposal is the greater flexibility it provides to do large M&A deals in the future. However, there are two questions we have around this. Firstly, BHP has had a poor track record in this regard historically. There is a risk that Australian shareholders pay the price for the unified corporate structure and then see more value destruction overtime. Secondly, while a unified corporate structure will make doing scrip-based M&A easier, the decline in multiple potentially negates this.”
Pendal expects that should the proposal not go through the long-term premium of the Australian listed company to PLC would return.
Below, Mr Murray outlines Pendal’s main issues with the proposal:
What has been the value destruction borne by Australian shareholders to date?
The BHP Ltd share price fell 14% in the two days (17th-18th August 2021) following the announcement of the DLC collapse.
The premium of BHP Ltd’s (ASX) share price to BHP PLC’s (LSE) share price — which had existed almost since the inception of the DLC — fell from more than 20% to around 5% after the announcement.
Even with the more recent recovery in resources, the stock has underperformed the market by about 15%, in line with the reduction in the Ltd premium to PLC.
This premium is likely to erode further if the vote goes through.
In our view, this represents a substantial, permanent and unnecessary value transfer from Australian to PLC shareholders.
BHP management expected the UK share price to re-rate to a multiple in line with the Australian listing.
In fact, the opposite has occurred.
The charts below show the absolute PE of BHP Ltd vs the ASX200 is at a 10-year low, despite the overall rise in market rating.
Relative to industrials, the stock is almost half the rating it was 10 years ago.
If a key motivation is to enable scrip-based M&A, the reduction in multiple makes any potential acquisition less appealing.
Source: Bloomberg as at 7 January 2021.
Has the dual listed structure impacted BHP’s ability to do M&A?
In our view, none of the reasons BHP is proposing as rationale for the collapse of the DLC structure would stand in the way of BHP executing its strategy.
The DLC structure was consciously put in place by BHP, at its discretion, at the time of the Billiton merger. It has now been in place for 20 years and through this time BHP has had no issue implementing its strategy or accessing capital.
BHP has a strong balance sheet and access to debt and equity capital markets across multiple geographies and listings.
In the preamble to the US Onshore petroleum stake in 2017 — and under activist shareholder pressure — BHP vigorously defended the DLC structure and concluded it was too expensive to unwind.
Most of the costs associated with the DLC collapse have increased in the interim and are expected to be $350mln to $450mln.
But M&A is not always a good thing…
We respect the BHP Board and management. However, we do note how difficult it is to execute effective, large-scale deals in the resources sector.
To highlight this, there are a number of examples of unsuccessful transactions under former BHP management. These include:
The merger with Billiton. After 15 years, BHP chose to demerge most of the Billiton assets into South 32 (S32), since they did not meet BHP’s standards of being low cost and long life. The demerger resulted in de-rating of the S32 earnings of about 33%, which persists today.
The 2011 acquisition of PetroHawk and Fayetteville for U$15.1bn and US$4.8bn respectively. An additional US$18.9bn was spent on the assets during ownership. Ultimately these assets were sold for US$10.8bn in FY18 after an attributable EBIT loss of US$5bn during ownership.
The 2005 acquisition of WMC Resources. This includes Olympic Dam and Nickel West. Neither asset has fulfilled the original expectation of returns.
There was also the failed attempted acquisition of Potash of Saskatchewan (Canada) in 2011 at a price that subsequently fell away materially.
BHP has had cumulative write-downs of $22.9bn since 2001. Much of this relates to assets bought at too high a price.
M&A in the resource sector is difficult. The likelihood is that value accrues to the acquired company’s shareholders.
That Australian shareholders wear the current value destruction from the collapse of the DLC just to simplify M&A in the future is challenging to accept.
Isn’t this really about the de-merger of the petroleum business?
In our view, reassessment of the DLC structure is tied to the decision to de-merge the petroleum business.
While BHP has stated it would go ahead with the demerger even if the DLC was not collapsed, the company has highlighted that it would make the process simpler.
We believe these two strategic decisions need to be evaluated separately.
And, again, we are not sure it is in the interests of Australian shareholders to accept the value destruction of the DLC collapse for a simpler demerger that may or may not go ahead.
Are there broader implications for the market?
The consolidation of BHP on the ASX will see its ASX 200 index weight rising from about 5.8% to about 9.6%.
While this is not the concern of BHP management, taking a macro view highlights that such a concentration of index weighting is not ideal for Australian broad market investors. It reduces diversification and impacts expected risk-adjusted returns.
It certainly will, however, lead to an increase in ‘non-discretionary holdings’ from index funds and those managing benchmark risk. This could reduce active shareholder pressure on management. We would strongly argue that this is not in the long-term interest of BHP shareholders.
Conclusion
We appreciate the company’s motivation for seeking to collapse the DLC structure in terms of simplifying management of the organisation.
BHP PLC shareholders will also benefit from this one-off gain, though many of those with current PLC stock may not ultimately be long-term holders. This is why there is very little push-back on the proposal.
But in our view, as detailed above, this proposal is clearly not in the interests of Australian BHP Ltd shareholders.
Given the clear value destruction and the questionable benefits accruing from the change, Pendal will be voting shares under its management against the proposal.
What are the 2021 lessons that will help guide Aussie equities investors in 2022? Pendal's head of equities CRISPIN MURRAY explains in this fast podcast
"I think the more speculative end of the market could be challenged this year (2022), if we don't see inflation falling away quickly.
"That leaves you focusing your portfolio again on these stocks that we think are more predictable in terms of their earnings. They have a business model that can generate free cash flow, are able to return a lot of capital to shareholders.
"That is the area we think is good protection in this probably more uncertain policy environment.
"Telstra is a good example of this. This is a telecom industry where there has been historically quite low returns in Australia, but you're now getting a much more disciplined market structure.
"No one's been making enough money. There's quite a lot of debt in some of the other companies.
"And so you're seeing more discipline, better pricing, higher returns. That's translating into much higher cash flow and it's a company that's able to return a lot of that to shareholders."
Listen to the podcast for more examples
About Crispin Murray and Pendal Focus Australian Share Fund
Crispin Murray is Pendal’s Head of Equities. He has more than 27 years of investment experience and leads one of the largest equities teams in Australia. Crispin’s Pendal Focus Australian Share Fund has beaten the benchmark in 12 years of its 16-year history (after fees), across a range of market conditions.
Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management.
"Cyclicals are called cyclical for a reason. Think about that folks. The clue is actually in their title.
"So I think at the margin, you should be selling some cyclicals because we've had the first COVID rebound. Now we're looking at a slowdown -- and usually that's what happens. Cyclicals tend to perform not so well and the mid-cycle stocks tend to perform much better as clearly we're in the mid cycle now.
"That tends to be areas like healthcare. Healthcare used to be quite expensive, but used to have disappointing earnings growth.
"But looking ahead, I think healthcare joins tech as being the best two sectors.
"So you want some more the same in your portfolio – which is tech.
"In our process [tech] still has what we call 'two green lights'. It's a green light for the best fundamentals in the world. It's a green light for the best trend in the world.
"And healthcare looks like it's moving that way to becoming two green lights for next year.
"So at the margin, sell some cyclicals and buy some healthcare stocks to add to your existing tech winners."
About Chris Lees and Nudgem Richyal
Chris Lees co-manages Pendal Global Select Fund with Nudgem Richyal. The pair have been working together in global equities investing for more than 20 years.
Chris has more than 32 years of investment industry experience. He joined Pendal Group's UK-based asset manager J O Hambro Capital Management (JOHCM) in 2008 after spending 19 years at Baring Asset Management, ultimately as head of its global sector team.
Pendal Global Select Fund is a global equities portfolio with a distinctive, yet proven approach and a 17-year track record of outperformance. Since its inception, the underlying strategy (JOHCM Global Select Fund) has delivered top-decile performance in Lipper and 2nd decile in Morningstar.*
This is the final weekly note from Pendal’s Australian equities team for 2022. We wish our clients and readers a well-deserved rest after a very busy year.Our weekly note will return early in the new year.
COVID and inflation have been the two big issues to watch all year. Both have taken significant turns in recent weeks, leaving the outlook for 2022 as uncertain as ever.
This does not mean that the outlook is necessarily negative.
Rather, the potential paths we head down next year look very different:
On Covid: We could be in the early phases of the largest wave. This could put substantial strain on healthcare systems, prompting renewed restrictions which could drag on the economy and escalate supply chain problems.
Alternatively we may discover the effects of the vaccines, anti-virals and potential lower virulence of Omicron mean the virus becomes more benign — to be handled without restrictions.
On inflation and rates: We could see economic strength and a tight labour market sustain inflationary pressures. This could prompt both the Fed and markets to realise that higher real rates are needed, prompting a sell-off in equities and growth stocks in particular.
Alternatively, we may see inflationary pressures ease as supply chains resolve themselves, people re-enter the labour force and structural factors such as tech and debt re-assert. In this scenario growth and earnings are good and we see bonds and equities rallying, with growth resuming leadership.
Now is not the time for betting the house on one of these directions.
We should have a far better understanding of the Omicron issue within three weeks, while the rates issue will take much of next year to play out.
Our portfolios are low on thematic risk. Instead we are looking for features such as good cash flow, strong stock-specific stories and good franchise strength.
We are maintaining a tilt to re-opening plays given the poor sentiment right now. But we are mindful of the near-term path, given the potential for more negative short-term news flow.
Markets were down last week. The S&P/ASX 300 fell 0.7% and the S&P 500 lost 1.9%.
Concerns about central bank policy and the degree to which rates need to rise to contain inflation weighed. So too did uncertainty over Covid due to contradictory research on Omicron risks and increasing government restrictions heading into Christmas.
Covid and vaccines outlook
Surging case numbers in a number of countries — notably the UK and Denmark — are fanning concerns about healthcare systems coming under strain.
The interplay between Delta and Omicron waves is complicating an assessment of the situation and government reactions. For example The Netherlands has reimposed lockdowns despite material falls in new cases, fearing that an Omicron wave will see new cases hurtle higher again.
The risk of Omicron breakthrough infections — ie vaccinated people catching the virus — is 5.4x higher than it was for Delta, according to research from the Imperial College in London.
The key question concerns the disconnection between cases and hospitalisations.
South African data is hard to interpret because it is subject to large backward revisions. For example, the number of people in hospital with Omicron was revised up 61%. Many of these patients are in hospital for other reasons and have incidentally tested positive. This is leading some to conclude that there have been far more asymptomatic cases than first thought.
The number of new daily cases in Gauteng Province — home to more than a quarter of South Africa’s population — is falling.
This has happened within a month of the wave’s start — rather than the usual two to three months in previous waves.
There are a number of theories to explain this:
Case numbers are being significantly understated due to a higher proportion of asymptomatic cases
Changes in social behaviour — people self-isolating more quickly — may have a containing effect
Better medical treatment
A portion of the community is not susceptible to the variant
A significant portion of the population is transient and has left the province as we approach Christmas
Each of these explanations have quite different interpretations.
The other issue is a disconnection with hospitalisations. Does this reflect lower severity or is it a function of the younger demographics in Gauteng?
A study from Imperial College — not yet peer-reviewed — claims there is no reason mutations in Omicron should lead to less severity. If there are lower case numbers it is because of vaccinations, the study says.
Nevertheless, the proportion of people needing critical care — as well as the length of hospitalisations — are materially lower than the last wave. This suggests there is some factor helping reduce severity.
Covid in the UK and US
The UK will provide an acid test. It is too early to draw conclusions on hospitalisation rates. But we are seeing a high incidence of positive tests among British patients hospitalised for other reasons. This suggests a high rate of asymptomatic cases.
The UK will provide the lead for US, which will be the key driver of market sentiment.
US cases overall are still not rising quickly. They are up 3% week-on-week. But this was held down by declining numbers in the Midwest. Lead indicators suggest a material acceleration with the New York testing positivity rate doubling in three days.
The most effective response to Omicron is the third jab. This reloads the number of immune antibodies, materially reducing risk of breakthrough infection.
The case growth has triggered an acceleration of boosters in most affected countries, though capacity to administer shots at this time of year is constrained.
The key issue for markets is the policy response to this wave of cases.
The near-term risk is that markets fear the worst and governments feel the need to act, reimposing restrictions. We are already seeing this come through with US Q4 GDP forecasts moderating to 6%, down from 7-8%.
This could see a sentiment-driven sell-off in markets. But it is important to note the strength of nominal GDP growth, which means earnings should remain firm.
Economics and policy
The Fed came in at the hawkish end of the expected range, doubling the rate of Quantitative Easing tapering. QE should now end in March. The Fed’s “dot points” now indicate three hikes in 2022.
The market was initially positive because there was no escalation of inflation concerns. It is worth noting that the expected terminal value of rates did not budge, remaining at 2.1% by the end of 2024.
There are two disconnections worth noting.
First, the market does not currently believe the Fed will need to raise rates in 2023. It sees rates peaking around 1.5%, reflecting confidence in inflation fixing itself.
Second, the Fed and the market both believe inflation can be fixed without real rates ever going positive.
There is a school of thought that believes this is not credible because of key differences between this cycle and previous examples:
Household balance sheets are far stronger
Fiscal stimulus is far greater
The degree of QE has been much higher
Changes to the labour market and supply chains
The impact of greenflation
Real rates have been far lower for longer
There are small signs that the Fed’s pivot is already prompting inflation expectations to moderate and that we may have passed through peak fear on this front.
There are also signals that people are returning to the labour market in the US, with the participation rate edging up.
Outside the US, the Bank of England raised rates from 0.1% to 0.25%, surprising a market that expected them to hold steady given the risk from Covid. This was seen as a negative, suggesting the BOE sees inflation as a key risk.
The ECB was more balanced, announcing the end of its pandemic program of QE but putting in place a transition program. This is designed to prevent fears that early rate rises put peripheral bond markets under pressure. Inflation is less of an issue in the EU currently, which gives them more latitude.
US fiscal policy took a twist today with Senator Joe Manchin announcing he will not support the current Build Back Better package in its current form.
This likely means the current model, which was to put in programs for one, three and five year periods to reduce their apparent cost, is dead.
Rather Biden will need to reduce the programs he wants to commit to and ensure they are fully funded. This still looks likely, given Manchin’s relationship with Biden. But it will take time and will be a set-back for renewable energy-related stocks.
Markets
Overall we believe the market environment is still reasonably constructive.
Growth is strong, companies have pricing power, rates remain very low and sentiment is not over-confident.
In the near term the Covid case spike could hold the market back. The early read on Omicron suggests any further sell-off would be an opportunity for bombed-out cyclicals.
The medium term issue is that the market seems to be underestimating the policy response required to contain inflation.
In this environment a focus on higher-returning, good-quality franchise positions is an important part of the portfolio.
It is also worth noting the continued rebound in iron ore.
This is partly driven by inventory re-stocking, but also reflects improved sentiment on China. Beijing continues to signal a more pro-growth policy shift, albeit with no major stimulus yet announced.
About Crispin Murray and Pendal Focus Australian Share Fund
Crispin Murray is Pendal’s Head of Equities. He has more than 27 years of investment experience and leads one of the largest equities teams in Australia. Crispin’s Pendal Focus Australian Share Fund has beaten the benchmark in 12 years of its 16-year history (after fees), across a range of market conditions.
Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management.
Greater employee power and digitalisation are two pandemic trends that will endure to shape the investment landscape in 2022. CLIVE BEAGLES explains
Covid has forced many companies to catch up with digitalisation
The best have adapted and created new opportunities
Wage pressures will eat into some earnings in 2022
THE pandemic has breathed new life into some sectors of the economy that otherwise would have been swamped by technological change — and that could open opportunities for investors.
The pandemic forced some old-world industries to ramp up their digitalisation – the use of technology to provide new revenue and value-producing opportunities.
These enhancements will have long lasting benefits says Clive Beagles, a senior fund manager who focuses on equity income at Pendal Group’s UK-based asset manager JO Hambro Capital Management.
“There were some sectors that pre-Covid were structurally compromised, and their outlooks weren’t positive, Beagles says. “But that’s transformed during the pandemic and emerged as part of the vanguard of the recovery.
“Everyone talks about Covid accelerating ten years of change — and that’s helped some of these industries.”
Some old-economy industries will emerge from the pandemic in much stronger shape than where they started.
“They haven’t exactly reinvented themselves, but they have reacted in a meaningful and agile way.
“Yet some of them are still being valued as if they’ll have declining profits and at some point will become terminal.”
Beagles nominates recruitment and advertising-reliant industries as sectors that will emerge from the pandemic in 2022 in better shape than when Covid hit.
Two examples in the United Kingdom are broadcaster ITV and recruiter Michael Page.
“In the case of media and particularly broadcast TV, the ability to provide much greater data on audiences and who is being reached provides the medium with a whole new selling point,” Beagles says.
“In the case of recruiters, they’ve used the pandemic time to go digital, and there’s strong demand for labour.”
Greater employee power
Another big change for firms and earnings in 2022, Beagles says, is the emergence of employee power. Because of the strong demand for labour, workers can demand more.
“It’s still some way out but it could eventually be one of the biggest changes in the past 20 years, because for the last two decades all the power has been with employers,” Beagles says.
“There will be sectors where the employees will become much more strategic. We know about medical staff but also areas which weren’t considered strategic before like HGV (heavy goods vehicles) drivers.”
Labour pressures – there’s 1.4 million people unemployed in the United Kingdom currently and 1.2 million job vacancies – will put pressure on prices, and that will eat into earnings in some sectors.
“Twenty-twenty-two is only about the second or third innings, to use a baseball analogy, of a longer change period. It has a way to go and the rotation in markets in 2022 should be quite powerful.”
About Clive Beagles
Clive Beagles is a senior fund manager with Pendal Group's UK-based asset manager, J O Hambro Capital Management. Clive is one of the UK’s most highly respected equity income managers. He has 32 years of industry experience and co-manages the JOHCM UK Equity Income Fund.
About Pendal Group
Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management.
Rising inflation, full equity valuations and volatility will provide opportunities for active investment managers in 2022, says Pendal’s head of multi-asset, Michael Blayney.
Active investors should benefit in 2022
Volatility throws up opportunities
Conviction important as is ability to re-position.
CONDITIONS will suit active investment management in 2022 says Michael Blayney, head of Pendal’s Multi-Asset investment team.
“If your starting point is that inflation is rising, that tends to reduce the diversification benefits in a portfolio,” says Blayney.
“And 2022 is starting off with equity valuations being very full around the world. In these circumstances you don’t necessarily want to be a passive investor.”
Active investing looks even more attractive when you add the fact that volatility generally provides more opportunities.
“During the period of stimulus and easy monetary policy, it’s been okay to be a passive investor from an asset allocation and a stock perspective,” Blayney says.
“You have had asset classes that have had a steady trajectory upwards.
“When there’s been bouts of volatility, central banks have generally come to the rescue and people have been able to buy the dip.”
But what about the next five years, when interest rates are more likely to be rising, than falling?
“If we have a more volatile environment going forward — because central banks can’t be as accommodating due to higher inflation, and you start to see bonds and equities correlating positively — bonds won’t be as good at providing defensive qualities as in the past.
“That’s an environment where it will be more important to adopt an active approach to asset allocation.”
Volatility throws up opportunities for active asset allocators and active stock pickers.
“Active stock picking in Aussie equities has always been pretty fertile ground for local money managers.
“In Australian equities, the average manager has consistently been able to add value in the order of magnitude of 1% per annum.
“So Australia has been a pretty good place to be an active investor,” he says.
“Stock picking globally has been more challenging, in part because there’s been a handful of FAANG stocks that have dominated and become a larger part of the index.
“When you have a narrow part of the market running, it’s difficult for active investors to outperform.”
But when a period of excessive valuation in a narrow part of the market unwinds, that can be a great time for active management.
Active investors globally outperformed significantly after the tech bubble burst in the early 2000s, Blayney points out.
“It was one of the best periods for active investing in global equities.
“Passive has been good strategy to ride the rising markets of the past decade. But rising inflation and a steady reduction in stimulus means we are now at a potential turning point where a more difficult market regime is likely to need a more active approach.
“To be an active investor you need to have conviction and be willing to back yourself,” Blayney says. “But you also need to be able to re-visit your thinking when things change,” Blayney says.
An investment strategy that adapts as the facts change?
That recalls a famous quote often attributed to legendary economist John Maynard Keynes (though some say it was another economist, Paul Samuelson).
When accused by a rival of inconsistent views, Keynes is said to have replied: “when the facts change, I change my mind. What do you do, sir?”
Pendal’s head of equities Crispin Murray today challenged BHP’s proposal to collapse its dual-listed company (DLC) structure.
“As BHP Ltd (Australia) shareholders, we are not in favour of BHP’s proposal for the collapse of its DLC structure,” Mr Murray said.
On December 8, BHP announced a final board decision to end the DLC structure and unify its corporate structure under the existing Australian parent company, BHP Group Limited.
BHP Group Limited and BHP Group Plc shareholder meetings are expected to take place on January 20 with unification due to be complete by January 31.
“This proposal is transferring value from Australian Limited shareholders to offshore PLC shareholders. This value transfer has been evidenced by the material decline in the Australian multiple of earnings that BHP Ltd trades on,” said Mr Murray, who leads one of the Australia’s biggest Australian equities teams for independent asset manager Pendal Group.
“We appreciate that the main reason for the proposal is the greater flexibility it provides to do large M&A deals in the future. However, there are two questions we have around this. Firstly, BHP has had a poor track record in this regard historically. There is a risk that Australian shareholders pay the price for the unified corporate structure and then see more value destruction overtime. Secondly, while a unified corporate structure will make doing scrip-based M&A easier, the decline in multiple potentially negates this.”
Pendal expects that should the proposal not go through the long-term premium of the Australian listed company to PLC would return.
Below, Mr Murray outlines Pendal’s main issues with the proposal:
What has been the value destruction borne by Australian shareholders to date?
The BHP Ltd share price fell 14% in the two days (17th-18th August 2021) following the announcement of the DLC collapse.
The premium of BHP Ltd’s (ASX) share price to BHP PLC’s (LSE) share price — which had existed almost since the inception of the DLC — fell from more than 20% to around 5% after the announcement.
Even with the more recent recovery in resources, the stock has underperformed the market by about 15%, in line with the reduction in the Ltd premium to PLC.
This premium is likely to erode further if the vote goes through.
In our view, this represents a substantial, permanent and unnecessary value transfer from Australian to PLC shareholders.
BHP management expected the UK share price to re-rate to a multiple in line with the Australian listing.
In fact, the opposite has occurred.
The charts below show the absolute PE of BHP Ltd vs the ASX200 is at a 10-year low, despite the overall rise in market rating.
Relative to industrials, the stock is almost half the rating it was 10 years ago.
If a key motivation is to enable scrip-based M&A, the reduction in multiple makes any potential acquisition less appealing.
Source: Bloomberg as at 7 January 2021.
Has the dual listed structure impacted BHP’s ability to do M&A?
In our view, none of the reasons BHP is proposing as rationale for the collapse of the DLC structure would stand in the way of BHP executing its strategy.
The DLC structure was consciously put in place by BHP, at its discretion, at the time of the Billiton merger. It has now been in place for 20 years and through this time BHP has had no issue implementing its strategy or accessing capital.
BHP has a strong balance sheet and access to debt and equity capital markets across multiple geographies and listings.
In the preamble to the US Onshore petroleum stake in 2017 — and under activist shareholder pressure — BHP vigorously defended the DLC structure and concluded it was too expensive to unwind.
Most of the costs associated with the DLC collapse have increased in the interim and are expected to be $350mln to $450mln.
But M&A is not always a good thing…
We respect the BHP Board and management. However, we do note how difficult it is to execute effective, large-scale deals in the resources sector.
To highlight this, there are a number of examples of unsuccessful transactions under former BHP management. These include:
The merger with Billiton. After 15 years, BHP chose to demerge most of the Billiton assets into South 32 (S32), since they did not meet BHP’s standards of being low cost and long life. The demerger resulted in de-rating of the S32 earnings of about 33%, which persists today.
The 2011 acquisition of PetroHawk and Fayetteville for U$15.1bn and US$4.8bn respectively. An additional US$18.9bn was spent on the assets during ownership. Ultimately these assets were sold for US$10.8bn in FY18 after an attributable EBIT loss of US$5bn during ownership.
The 2005 acquisition of WMC Resources. This includes Olympic Dam and Nickel West. Neither asset has fulfilled the original expectation of returns.
There was also the failed attempted acquisition of Potash of Saskatchewan (Canada) in 2011 at a price that subsequently fell away materially.
BHP has had cumulative write-downs of $22.9bn since 2001. Much of this relates to assets bought at too high a price.
M&A in the resource sector is difficult. The likelihood is that value accrues to the acquired company’s shareholders.
That Australian shareholders wear the current value destruction from the collapse of the DLC just to simplify M&A in the future is challenging to accept.
Isn’t this really about the de-merger of the petroleum business?
In our view, reassessment of the DLC structure is tied to the decision to de-merge the petroleum business.
While BHP has stated it would go ahead with the demerger even if the DLC was not collapsed, the company has highlighted that it would make the process simpler.
We believe these two strategic decisions need to be evaluated separately.
And, again, we are not sure it is in the interests of Australian shareholders to accept the value destruction of the DLC collapse for a simpler demerger that may or may not go ahead.
Are there broader implications for the market?
The consolidation of BHP on the ASX will see its ASX 200 index weight rising from about 5.8% to about 9.6%.
While this is not the concern of BHP management, taking a macro view highlights that such a concentration of index weighting is not ideal for Australian broad market investors. It reduces diversification and impacts expected risk-adjusted returns.
It certainly will, however, lead to an increase in ‘non-discretionary holdings’ from index funds and those managing benchmark risk. This could reduce active shareholder pressure on management. We would strongly argue that this is not in the long-term interest of BHP shareholders.
Conclusion
We appreciate the company’s motivation for seeking to collapse the DLC structure in terms of simplifying management of the organisation.
BHP PLC shareholders will also benefit from this one-off gain, though many of those with current PLC stock may not ultimately be long-term holders. This is why there is very little push-back on the proposal.
But in our view, as detailed above, this proposal is clearly not in the interests of Australian BHP Ltd shareholders.
Given the clear value destruction and the questionable benefits accruing from the change, Pendal will be voting shares under its management against the proposal.
Pendal’s head of equities Crispin Murray today challenged BHP’s proposal to collapse its dual-listed company (DLC) structure. “As BHP Ltd (Australia) shar...
What are the 2021 lessons that will help guide Aussie equities investors in 2022? Pendal’s head of equities CRISPIN MURRAY explains in this fast podcast Y...
Where are the opportunities – and risks – likely to be found in 2022? Pendal Global Select Fund co-manager CHRIS LEES explains in this fast podcast You can ...
Here are the main factors driving the ASX this week according to our head of equities Crispin Murray. Reported by portfolio specialist Chris Adams. Find out ab...
Greater employee power and digitalisation are two pandemic trends that will endure to shape the investment landscape in 2022. CLIVE BEAGLES explains Covid has f...
Rising inflation, full equity valuations and volatility will provide opportunities for active investment managers in 2022, says Pendal’s head of multi-asset, ...
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