Inflation has been accelerating and has manifested in the form of higher industrial commodity prices. Copper has surged in 2021, and it seems that the rally is far from over.
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Bank of America (BAC) commodity strategist Michael Widmer opines that copper prices can hit $20,000 per metric ton by 2025. A key reason is a surging demand for copper in electric vehicles and the renewable energy sector.
With multi-year tailwinds, it might still be a good time to consider exposure to a copper mining company. Freeport-McMoRan (FCX) looks like an attractive stock to consider. Even after an upside of 110% in the last 12-months, I am bullish on FCX stock. (See Analysts’ Top Stocks on TipRanks)
Let’s discuss the reasons to be bullish.
Improving Fundamentals
The first factor that needs to be analyzed for cyclical stocks is the balance sheet. With rising copper prices, Freeport has witnessed a steady improvement in credit metrics.
In particular, there are two points to note.
First, Freeport reported net debt of $7.6 billion for Q3 2020. For the most recent quarter, the company’s net debt declined to $2.0 billion. Additionally, Freeport reported a net-debt-to-adjusted EBITDA ratio of 0.2 for Q3 2021. Therefore, the company has ample financial flexibility to benefit from secular industry tailwinds with low leverage.
Furthermore, Freeport reported operating cash flow of $2.0 billion for Q3 2021. This would imply an annualized operating cash flow of $8.0 billion. It’s worth noting that the company expects capital expenditures of $2.9 billion for 2022.
Assuming that the annual operating cash flow is $8.0 billion, the company is positioned to report free cash flow of $5.1 billion.
This would further improve the balance sheet. Therefore, it’s not surprising that Freeport has recently announced a $3.0 billion share repurchase program. If copper prices remain firm in the coming years, investors can also expect higher dividends.
Capital Expenditure to Accelerate Cash Flows
Freeport is positioned to benefit from higher copper prices coupled with growth in sales volume.
To put things into perspective, Freeport expects a sales volume of 3.8 billion lbs for 2021. In the coming year, the company has guided for sales volume to increase to 4.4 billion lbs.
Even if the average realized copper price remains the same in 2022, Freeport would likely clock revenue growth of 16%. At the same time, operating cash flows might be closer to $10.0 billion.
With this growth visibility, Freeport stock looks attractive at a forward price-to-earnings ratio of 13.06.
It’s also worth mentioning here that Freeport expects gold sales to increase from 1.3 million ounces in 2021 to 1.8 million ounces in 2023. While copper remains the key cash flow driver, higher gold prices will also support cash flow upside in the coming years.
Another critical point to note is that Freeport is likely to pursue acquisition-driven growth beyond 2022. In January 2020, the company’s CEO said that mergers and acquisitions will be considered after the current expansion projects are completed in 2022.
Considering the outlook for copper and the company’s financial strength, it seems entirely likely that Freeport will pursue inorganic growth.
As of Q3 2021, Freeport reported cash and equivalents of $7.7 billion. Additionally, the company had an undrawn credit facility of $3.5 billion. This implies a total liquidity buffer of $11.2 billion for investments.
Wall Street’s Take
Turning to Wall Street, Freeport has a Moderate Buy consensus rating, based on six Buys, three Holds, and two Sells assigned in the past three months. The average Freeport price target of $41.45 implies 8.5% upside potential.
Concluding Views
In general, commodity stocks have a relatively high beta. However, the demand for copper is likely to remain strong in the coming years. This might imply lower price volatility.
Freeport has benefited from higher copper prices and strengthened its balance sheet. The company seems well-positioned to benefit from positive tailwinds.
In the last six months, FCX stock has remained sideways. Considering the fundamental developments, another rally seems to be in the cards.
Disclosure: At the time of publication, Faisal Humayun did not have a position in any of the securities mentioned in this article.
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