Rio Tinto’s Stock Recovers Almost 60% In 70 Days; Is The Party Over?

by Trefis Team
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Rio Tinto
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Rio Tinto stock (NYSE: RIO) has seen lot of movement so far this year – dropping by about 39%, from $59 at the end of 2019 to $36 as on 23rd March 2020, as growing fears around the coronavirus outbreak triggered a sell-off across global equity markets. But with the US government announcing a string of measures along with stimulus packages announced in other economies to keep businesses afloat, investor sentiment improved over recent weeks – helping RIO’s stock to recover 58% in the last two and a half months to reach $57 as on 4th June 2020. Though the current stock price is still marginally lower than the level at the beginning of the year, we believe that RIO’s stock is likely to hover around the current level as the world still awaits the sign of abatement of the pandemic. Our dashboard What Factors Drove 7% Change In Rio Tinto Stock Between 2017 And Now? provides the key numbers behind our thinking.

RIO’s stock price saw a slight drop from $53 at the end of 2017 to around $48 in 2018, but the trend reversed with the stock price rising to $59 by the end of 2019. This rise was primarily driven by a 7.9% increase in Rio Tinto’s revenues, from $40.5 billion in 2017 to $43.7 billion in 2019, mainly due to the rise in iron ore prices and higher shipments. But the revenue rise was offset by a 27% decline in profitability, with net income margins dropping from 21.8% in 2017 to 16% in 2019. Margins were unusually high at 33.8% in 2018 due to significant gain from the sale of assets, while profits fell in 2019 to below 2017 levels because of a high impairment charge related to RIO’s ISAL Aluminum Smelter and Oyu Tolgoi (copper and diamond unit). This, in turn, led to a drop in EPS from $4.92 in 2017 to $4.25 in 2019.

The P/E multiple increased from 10.8x in 2017 to 14.0x in 2019 as EPS dropped while stock price increased during this period. This divergence was also because the market expected higher growth in the future with iron ore prices increasing significantly in 2019. However, the multiple decreased slightly in 2020 and stands at 13.3x currently. The drop in P/E multiple in 2020 was due to reduction in growth expectations compared to what was factored in earlier, due to the impact of coronavirus, which we explain below.

Effect of Coronavirus

The global spread of coronavirus has led to lockdown in various cities across the globe, which has affected industrial and economic activity. The iron ore demand from industry players affects global iron ore price levels, in turn impacting the company’s price realization for its products. Lower demand from construction players and shedding of capacity by major steel companies, mainly in China, has led to a drop in global iron ore prices recently. Additionally, the lockdown is affecting the global supply chain for companies like Rio Tinto which have operations spread across geographies, leading to decline in production and shipments. A drop in copper and aluminum prices is also set to hit a diversified miner like RIO. This was confirmed to a certain extent in the Q1 2020 production report of the company. Though iron ore and bauxite production went up y-o-y, the production across all its major segments saw a drop ranging from 4% to 16% sequentially (Q1 2020 vs. Q4 2019). Though global iron ore prices increased to about $100 recently, this rise is because of the spread of coronavirus in Latin America, which is a major supplier to China (which is starting to open up), leading to fears of lower supply amidst a pick up in demand. But the price rise is likely to be offset by lower shipments of iron ore globally.

Q1 2020 saw only a partial impact of the current crisis, with the actual gravity of the situation likely to be reflected in the half yearly results (likely to be out in July-August this year), which are expected to report a sharp decline in revenues and earnings year-on-year. If there are no signs of containment of the virus by end of June 2020, RIO’s stock could see a drop in price to below $50. Until then it is unlikely that the stock will fully recover to its pre-crisis levels soon. In the near term, RIO’s stock could hover around the current level of $54-$57. Trefis has a fair price estimate of $55 for Rio Tinto’s stock, close to its current market price.

In contrast here’s how Vale’s stock could look post Covid-19. Interestingly, RIO’s peer Cleveland-Cliffs’ stock plunged despite revenues being stable.

Our dashboard forecasting U.S. COVID-19 cases with cross-country comparisons analyzes expected recovery time-frames and possible spread of the virus. Further, our dashboard -28% Coronavirus crash vs. 4 Historic crashes builds a complete macro picture. The complete set of coronavirus impact and timing analyses is available here.

 

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