Fortescue Metals Group Ltd

Company Overview: Fortescue Metals Group Ltd (ASX: FMG) is engaged in the extraction and production of iron ore. It has its operations spread out in the Pilbara region of Western Australia, which comprises of Chichester, Solomon and Western mining hubs. The mines are well connected to the five berth Herb Elliott Port and Judith Street Harbour facility in Port Hedland, through a heavy haul railway. China forms a major part of its clientele, and it has also expanded its exports into the markets of Japan and South Korea.

FMG Details

Decent Growth in FY21 Aided by Record Shipments: There has been strong demand for steel and iron ore driven by global economic growth and also incentivising crude steel production. The company’s operations include three mining hubs in the Pilbara, Western Australia region.

Decent Dividend Pay-Out:

• The company declared a fully franked final dividend of $2.11 per share in FY21, and the total dividends during the year amounted to $3.58 per share, reflecting pay-out ratio of 80%, compared to a dividend of $1.76 per share in FY20.
• The dividend in absolute numbers amounted to US$8.2 billion during the year.
• It plans to maintain to a dividend policy pay-out of 50 to 80 per cent of the full-year NPAT.

Look At FY21 Financial Performance:

FMG delivered a decent performance in FY21 and reported record annual shipments during the year.

• It delivered total shipments of 182.2mt in FY21, surpassing the market guidance of 182mt.
• Revenue grew by ~74% to ~US$22.3 billion in FY21, compared to the prior corresponding year. The growth was achieved on the back of an improvement in operating performance, decent customer demand and record shipments.
• The Group has reported substantial improvement in the underlying EBITDA to US$16.4 billion in FY21, reflecting an increase of ~96% on FY20.
• Free cash flow improved to US$8.96 billion in FY21, compared to US$4.45 billion in FY20.
• NPAT stood at US$10.30 billion in FY21, compared to US$4.73 billion in FY20.
• It ended the period with a strong balance sheet having a cash position of ~US$6.9 billion as of 30 June 2021, and gross debt of ~US$4.3 billion during the same period end.

Increasing Trend in Revenue (Source: Analysis by Kalkine Group)

• The ramp-up and integration of operations at Eliwana contributed to the performance in FY21. The first ore processing was achieved in December 2020, and the operations team has achieved the annualised rate of production of 30 million tonnes per annum within the first six months.
• The strategic investment in the Iron Bridge project provides FMG with an enhanced product range to meet the customer demand in the future. It is expected to commence production by December 2022 and deliver 22 mpta of high grade 67% Fe magnetite concentrate product.

Top 10 Shareholders: The top 10 shareholders together form around 55.53% of the total shareholding, while the top 4 constitute the maximum holding. Forrest (John Andrew Henry) and Valin Investments (Singapore) Pte. Ltd.  are holding a maximum stake in the company at 36.62% and 7.38%, respectively, as also highlighted in the chart below:

Top 10 Shareholders (Source: Analysis by Kalkine Group)

Key Metrics:  The company reported an improvement in performance in FY21 and its key operating metrics registered an increase during the year. ROE of the company stood at 66.5% in FY21, compared to 39.8% in FY20. There has been an improvement in the liquidity profile with the current ratio at 2.31x in FY21, from a level of 2.25x in FY20.

Profitability Metrics and Leverage Profile (Source: Analysis by Kalkine Group)

Key Risks: The company is exposed to the following risk factors:

• Safety Risk: Its line of business makes its prone to safety risks for the concerned workers. In this regard, adequate safety measures have to be ensured by the Group for its on-site employees.
• Environment Risk: The Group’s operations also expose its activities to be deemed harmful to the environment, and it is under the strict purview of regulatory bodies.
• Demand Risk: The earnings of the company are dependent on the demand for iron ore and the subsequent role of market dynamics on the prices realised. Any adverse impact on the demand might pose a threat to the profitability of the company.

Outlook: After a successful year in record shipments in FY21, FMG has given a guidance of 180-185 mt of iron ore shipments in FY22. It anticipates the capital expenditure to be between US$2.8 billion – US$3.2 billion in FY22 and expects C1 cost to be in the range of US$15-US$15.50/wmt. The company is focused on iron ore and commodities which support its objective of decarbonisation. The iron ore tenement footprint in Pilbara and early-stage target generation for copper-gold in WA, NSW and SA provides it with further optionality to expand its production base. FMG is also focused on creating a global portfolio of green hydrogen and green ammonia projects. In this regard, it has established Fortescue Future Industries (FFI) in order to accelerate its commitment for a reduction in emissions going forward.

Valuation Methodology: EV/Sales Multiple Based Relative Valuation (Illustrative)

Source: Analysis by Kalkine Group

*% Premium/(Discount) is based on our assessment of the company’s NTM trading multiple after considering its key growth drivers, economic moat, stock's historical trading multiples versus peer average/median, and investment risks.

Stock Recommendation: As per a recent update, the Company’s Director, Jennifer Morris has undergone a change of shareholding in the company and has acquired 295 ordinary shares for a total consideration of $5,994.40. As per ASX, the stock of FMG is trading below its average 52-weeks’ levels of $15.620-$26.580. The stock of FMG gave a negative return of ~20.93% in the past three months and a positive return of ~5.88% in the past one year. The stock has been valued using an EV/Sales multiple-based illustrative relative valuation method and arrived at a target price of low double-digit (in percentage terms). The company might trade at a slight premium to its peers’ average, considering the provided guidance for FY22, and its investment in growth strategy. For the purpose of valuation, few peers like Rio Tinto Ltd (ASX: RIO), BHP Group Ltd (ASX: BHP), Champion Iron Ltd (ASX: CIA) have been considered. Considering the expected upside in valuation & current trading levels, record ore shipment, robust growth in top-line & bottom-line performance, strong balance sheet and optimistic outlook, we recommend a ‘Buy’ rating on the stock at the current market price of $18.30, (as on 13 September 2021, 03:19 PM (GMT+10), Sydney, Eastern Australia)

FMG Daily Technical Chart, Data Source: REFINITIV

Note 1: The reference data in this report has been partly sourced from REFINITIV

Note 2: Investment decisions should be made depending on the investors’ appetite on upside potential, risks, holding duration, and any previous holdings. Investors can consider exiting from the stock if the Target Price mentioned as per the analysis has been achieved and subject to the factors discussed above alongside support levels provided.

Technical Indicators Defined: -

Support: A level where-in the stock prices tend to find support if they are falling, and downtrend may take a pause backed by demand or buying interest.

Resistance: A level where-in the stock prices tend to find resistance when they are rising, and uptrend may take a pause due to profit booking or selling interest.

Stop-loss: It is a level to protect further losses in case of unfavourable movement in the stock prices.

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