Could BHP Billiton be an income investment idea? The planet's largest diversified miner has been hammered, down by one fourth from AUD 40 August highs. The current yield of about 4.6% fully franked is attractive in a company of BHP Billiton's high quality. Though earnings are cyclical, we believe yield can be maintained and is almost certain to grow in time.
BHP Billiton's progressive dividend policy underpins well-tested stability in distributions, highlighting it as an income idea. This is despite resource companies being cyclical, capital-intensive, and typically poor dividend payers.
We think BHP Billiton is undervalued, with the market underestimating the resilience of earnings and growth options which come from long-life, low-cost, expandable assets. We are positive on the outlook for cost savings to support margins while the diversified business model offers a range of still-attractive investment options to drive growth, despite a less favourable price environment.
We expect earnings resilience and growth, coupled with rising dividends and capital returns or share buybacks, unlikely in the near term but probable in the medium to long term, will alert shareholders to the value on offer and help drive the share price toward our unchanged AUD 40 per share fair value estimate. The 4.5% fully franked yield, prospective high-single-digit price/earnings ratio by 2018, and potential capital management are attractive.
Our narrow moat and medium fair value uncertainty ratings for BHP Billiton are maintained, founded on low-cost, diversified operations and a solid balance sheet. Net debt/equity at 30% at the end of June is appropriately conservative, given declining capital expenditure commitments.