Almost three fourths of our BHP (BLT) valuation derives from just three commodities: iron ore, copper and petroleum. We stick to these in our commentary on second-quarter fiscal 2011 output.
Iron ore production rose 5% to 33.7 million tonnes, a good result and better than expected. The company has expanded output by around 25% from levels three years ago and has sizable ongoing expansion programmes. It approved expenditure including early works on Rapid Growth Project 6 (RGP6) to increase installed Western Australian capacity to 240 million tonnes per annum by 2013 (BHP's share 85%). This is a rise of 60% on current annualised production levels. Beyond RGP6, long-term growth to 350 million tonnes per annum is also considered. BHP has aggressively pushed expansions since the collapse of the proposed Pilbara joint venture with Rio Tinto. BHP's plans are comparatively more aggressive, though coming off a lower base and representing a smaller share of group earnings. All things considered, expansion plans are probably similarly meaningful for each, despite Rio Tinto's comparatively less onerous target.
BHP grew fourth-quarter copper production 4% to 302,000 tonnes, ahead of expectations. It had warned of weaker near-term output at Escondida due to scheduling issues and declining head grades. Solid performances were enjoyed from Olympic Dam and Antamina. Escondida is still likely to see a 5%-10% decline over 2010 due to grade. Olympic Dam expansion plans are ongoing, but it will be a slow process to move that monster forward. Lethargy in copper production is in stark contrast to iron ore's expansion. Declining head grades and prohibitively expensive up-front development temper production growth. It has also made sense to limit new production, as the plus $4 per pound copper price can attest. BHP has held its ground with Spence in Chile, offsetting copper decline elsewhere. For the moment, it seems to be happy to let copper revenues grow in the face of stagnant volumes.
BHP grew petroleum production at an impressive cumulative average rate of 11% from 2007. Against the trend, second-quarter fiscal 2010 output fell 14% to 37 million barrels of oil equivalent, though only marginally below expectations. Deferral of drilling in the Gulf of Mexico, flooding in Pakistan, lower than average East Australian seasonal demand, and planned facilities downtime all had an impact. We anticipate a return to trend and gas projects Angostura and Macedon to come on in 2011 and 2013, respectively.
Our BHP valuation is marginally higher. Contributing are higher near-term iron ore and longer-term aluminium price assumptions. We don't believe $1.07 per pound spot reflects realistic longer-term aluminium fundamentals. Near-term earnings forecast an increase on iron ore prices, but also after accelerating iron ore capacity upgrades. BHP guided more aggressive expansion milestones than we had previously factored in.
