November 30, 2011 in Uncategorized
A couple of things worth noting yesterday, there was news from one of our major holdings, BHP Billiton and that they were looking to get rid of their diamond business. They might be forever, but seemingly they are not core to their shareholders. Makro announced that they were doing a massive overhaul of their distribution centre, which is excellent news. Another airline casualty in the very long list in the US, the parent company of American Airlines, AMR, filed for bankruptcy yesterday. And then we continue to look at the Euro zone debt and liquidity issues that face the Europeans, who thinks what and where.
Jozi, Jozi. 26o 12′ 16″ S, 28o 2′ 44″ E. A bit of a mixed bag here yesterday, banks were on the back foot for much of the day, collectively down over two and one quarter of a percent. The overall market sank 0.61 percent, down nearly 193 points to 31636 is where we ended the day. We had no power here for most of the day at work, a monster power failure (City Power, not Eskom) in the area left us confined to lap tops and mobile connections before heading elsewhere to work remotely. Disruptive at best!! Must explain why general retailers were up half a percent on the day, Gold stocks almost enjoyed the same gains. The resource stocks lost exactly the same amount as the broader market.
It turns out that diamonds are not always your best friend. At least this is the case for BHP Billiton. You might have heard us talk about the diamond business that the world’s biggest mining company has, but it has always been a small contributor. You remember just less than one month ago, we wrote in a post titled Anglo American acquiring De Beers stake from Oppenheimer family, about the opposite from their industry peer. In that piece, there was the link to the Anglo presentation in which they compare themselves to some other diamond producers. Both BHP Billiton and Rio Tinto are on that list, although those businesses are no way core to either of those companies.
And as such, BHP Billiton said in the announcement that they were “reviewing its diamonds business, comprising the Group’s interests in the EKATI Diamond Mine and the Chidliak exploration project in Canada.” And the reasons for the review are to “examine whether a continued presence in the diamonds industry is consistent with BHP Billiton’s strategy and evaluate the potential sale of all or part of the diamonds business.”
With the ownership of the two mines not the same, when the review is finished by the end of January (someone is crunching in both the ice and numbers this Christmas), we might well see two separate transactions. The reasons I say that is because one of the two mines in question, Chidliak is 49 percent owned by a business Peregrine Diamonds limited. Peregrine is listed on the Toronto Stock Exchange. Have a look at the beautiful weather at the site of the Chidliak Project.
The other mine, EKATI is actually where all the juice is. As per the BHP Billiton website: “The cornerstone of BHP Billiton’s diamond business is EKATI Diamond Mine in Canada’s Northwest Territories. Annual sales from EKATI (including the 20 per cent minority share) represent around three per cent of current world rough diamond supply by weight and 11 per cent by value.” So what would a mine of this importance be?
EKATI produced 2.5 million carats for the last financial year. Inside of the BHP Billiton numbers, the division that the diamonds divisions and by extension EKATI falls into is “Diamonds and Specialty Products”, with total revenue for the full year to June 2011 just over 1.5 billion Dollars. Out of a total of 71.7 billion Dollars for the group. With underlying EBIT 587 million Dollars for that division, versus 31.9 billion Dollars for the group. So, as you can clearly see, this division is not key. But wait, this division, the specialty products includes a business division that is going to be key! Because it includes the potash division and the Jansen mine that is going to a bigger contributor. From around 2016. From what I can tell from the BHP Billiton Report for the year ended 30 June 2011, on page 14: “Strong demand and a shortage of rough diamonds resulted in higher prices, which increased Underlying EBIT by US$254 million.”
Is that then the answer? What would you be prepared to pay for 250 million plus USD EBIT? What is the corporate tax rate in Canada? Seems like it is quite low, 16.5 percent. And as of next year falls further to 15 percent. And then it seems like there is a provincial or territorial rate too, around 14 percent. So be careful, I suspect that the rate is about the same as it is here. I would think that BHP Billiton would get a fair price, the asset itself is not the best I guess, but if they get in excess of two billion Dollars for EKATI I would think that they have done well. Some suggest for all the assets, 2.7 billion Dollars. In the bigger picture, unlike for Anglo American, this is not big news. A divestment, simply because the business, as shown above, is not core to the group, that is all.
The Makro distribution centre is set for a monster overhaul, space is set to be expanded by 11 thousand square metres at the existing facility to 27 thousand square metres. Camp Nou, the San Siro and Old Trafford are apparently “standard size” football fields around 7140 square metres, so this gives you a little bit of size and scale. So around four football fields, that is going to be the size of the improved facility. The facility is expected to be finished by the middle of next year, check out the Engineering News take -> Investec Property to develop Makro’s distribution centre. I suspect that we are really close to online shopping through Makro like perhaps we have not seen before. The Makro website perhaps needs an upgrade of sorts, the prices have been added, but it still lacks something, not too sure what!
Flexing muscles in Brussels. I have suddenly thought, what would Europe look like when the “Euro is finished”? Would they go back to the cave way of living? How can the Euro even end, is what I thought? Is that even practical? Those thoughts came after reading Could Germany just leave the euro zone? Not easily. Not easily. And a very expensive exercise with huge unintended consequences for even German’s exports. And even more so, the citizens.
The Washington Post story links to the research report from UBS titled Euro break-up – the consequences. Read this carefully and then think for a second whether or not any politician could get their citizens to suck this up:
“The cost of a weak country leaving the Euro is significant. Consequences include sovereign default, corporate default, collapse of the banking system and collapse of international trade. There is little prospect of devaluation offering much assistance. We estimate that a weak Euro country leaving the Euro would incur a cost of around EUR9,500 to EUR11,500 per person in the exiting country during the first year. That cost would then probably amount to EUR3,000 to EUR4,000 per person per year over subsequent years. That equates to a range of 40% to 50% of GDP in the first year.”
If you read further down the report (this one is actually sensible), you see that leaving would inevitably mean defaulting on domestic debt. “Default on sovereign debt – in either example – would generate lasting economic costs as the long-term cost of capital for the government would increase.” Sounds awful. There are even worse longer lasting impacts in leaving the Euro zone, and that relates to the banking systems, and more importantly free trade across the zone. Imagine having to piece that all together.
Our sense all along is that this will be resolved by itself. Tax compliance is improving. Spending is being hauled in. Even severely constrained countries (think Greece) take the bail out money, because the other option is to not pay your civil servants. How is that going to turn out? Anarchy. It is better to take the pain over the next half a decade (or more) than to have to deal with returning to the Drachma. So the way we see it is that muddling through, rather than a grand plan is going to be the order of the day. Germany and France might be working on closer fiscal integration, this whilst the ECB continues to buy sovereign bonds, and Italy will continue to raise money at more expensive rates. Italy strangely has always had a primary surplus, but of course a creaking debt burden.
I quite liked this Economist piece from yesterday, alarmist in parts, possibly because the Polish want the Germans to act more swiftly: Sikorski: “I fear German inactivity”. Perhaps that is the outside view. That the Germans are not doing enough to “save the Euro”. This goes back to the original question, how would the Euro just end? This integration of all Europeans came out of the idea of fighting each other (on the battle field) was becoming tiresome. Economic integration was necessary to tie countries together so much so, that the likelihood of fighting each other again would be greatly diminished. And businesses are starting to mull what the process of an exit from the Euro zone, what that would mean for them, that is the lead in the FT today. Again, we are going to stick our necks out here and say that we do not believe that the Euro will fail.
New York, New York. 40o 43′ 0″ N, 74o 0′ 0″ W. It was better at the beginning as a result of a consumer confidence read, which was better than anticipated. A home price indices measure showed a slightly bigger decline than expected. So the housing market in the US is still stodgy. There are multiple monthly numbers that tell me that, over and over again. After all was said and done, blue chips and the broader market managed to keep their noses in front, whilst tech stocks slipped relative to the rest of the market.
The parent company of American airlines, AMR Corp. has decided to file for bankruptcy. As the WSJ points out (via CreditSights), American Airlines labour expense in cents per available seat miles is much more expensive than their competitors. American Airlines are thirty percent more expensive than US Airways and around 60 percent more expensive on the metric than JetBlue. Amazing. As this article titled American Lands in Bankruptcy, points out, this is the sixth bankruptcy of a major American airline in the last decade. Of a major! I found a list of bankrupt and discontinued airlines since 1979 and the number is nearly 190. Six a year. A tough old business airlines, ask Carl Icahn, his purchase of TWA did not end up like he would have liked. Not sure what it means, if anything.
Commodities and currencies corner. Dr. Copper was last at 332 US cents per pound, the gold price is 1706 Dollars per fine ounce, the platinum price is lower, 1515 Dollars per fine ounce. The oil price is last at 99.13 Dollars per barrel. What, nearly 100 bucks again? Robust price don’t you think, considering that the wires are all reporting daily that the Euro is finished. Turns out that even if you do not have a currency to use, you will still need to drive your car around, wondering about the implications of a “finished currency”. The Rand is weaker, 13.06 to the Pound Sterling, 8.40 to the US Dollar and 11.15 to the Euro.
You are going to shout at me. I have not covered South African GDP from yesterday. Which was disappointing. I shall cover it tomorrow. Promise. We have started marginally lower here this morning, but keep bouncing up and down. News that S&P has cut bank ratings leaves me with the same feeling as eating a heavy and oily breakfast. By late this afternoon that feeling would have vanished. Or after some Eno.