This article was updated on Friday, January 18th with new details about Morningstar's fair value estimate for Rio Tinto. It was originally published on Thursday, January 17th.
Rio Tinto's (RIO) share price took a tumble on Thursday after it was announced that the company's CEO, Tom Albanese, would be leaving the mining giant and the company revealed a $14 billion writedown. The company appointed iron ore chief executive Sam Walsh to replace Albanese with immediate effect.
The bulk of the $14 billion non-cash impairment charge is related to the miner's acquisition of Alcan in 2007. The overall writedown also includes a $3 billion charge related to a recent coal acquisition in Mozambique.
"The Rio Tinto Board fully acknowledges that a write-down of this scale in relation to the relatively recent Mozambique acquisition is unacceptable," stated Rio Tinto chairman Jan du Plessis in a press release. "We are also deeply disappointed to have to take a further substantial write-down in our aluminium businesses, albeit in an industry that continues to experience significant adverse changes globally."
Rio Tinto says the charges will be included in its full year results, which will be released on February 14, 2013.
Investment Opportunity
While some investors would rather not bother with Rio Tinto, especially after this latest announcement, Morningstar analysts believe the shares present a good value opportunity.
At the close of trading on Thursday, the company's share price sat at 3,439.5p per share, but Morningstar analyst Mark Taylor believes the company's fair value should be closer to 5,700p per share. In fact, he boosted his fair value estimate from 5,500p per share to 5,700p per share after the company announced the writedown and the management change.
"It's taken a long time, but Rio Tinto CEO Tom Albanese has finally fallen on his sword (or was felled by his sword) and is replaced by respected Rio iron ore head Sam Walsh," stated Taylor in a recent research report. "[The Albanese] departure is a positive for Rio and despite headline-grabbing writedowns of $14 billion, we expect Rio shares to rally as the news is thoughtfully digested."
"We expect a return to old-style Rio values under Walsh--stingy with the wallet, excruciatingly patient when it comes to assets purchases and a regular seller of non-core assets," he said.
As for the impairment charges, investors shouldn't be too surprised, especially when it comes to the Alcan-related writedowns, said Elizabeth Collins, Morningstar's director of equity analysis for basic materials companies.
"A good chunk of the impairment charge stems from the ill-timed and overpriced acquisition of Alcan in 2007, and that knowledge has been in our rear-view mirror for some time. Intrinsic value depends much more on our estimate of future cash flows."
"That the Mozambique coal assets are not living up to expectations is perhaps a relatively newer piece of information, but [investors should keep in mind] that the vast majority of Rio Tinto’s value lies in iron ore and copper," she said.
"There’s a lesson here, in my view," said Collins. "When a company acquires an asset that’s highly sought after by multiple other parties--as both Riversdale Mining and Alcan were--it’s a good leading indicator of shareholder value destruction," said Collins.
About Morningstar's Star Rating System
Of all the London-traded companies that our Morningstar equity analysts follow, Rio Tinto is the only one with a 5-star rating as of January 18, 2013.
Morningstar's Star Ratings for equities are calculated based on what the current value of the shares are in the market versus what Morningstar analysts believe the fair value of the shares should be.
A high star rating, such as a 4- or 5-star rating, indicates that Morningstar believes the shares are very undervalued and this could be a time to buy in for cheap. Alternatively, if you see a stock with 3-stars that indicates the stock is being fairly valued by the market. Stocks with 1- or 2-star ratings are being overvalued by the market, according to Morningstar analysts.
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