Analyst: BHP's De-Merger From South32 Hands It 'A Balance Sheet With Firepower'

In a report published Tuesday, RBC Capital Markets analysts maintained an Underperform rating on

, with a price target of GBp 1,300, after the company released documentation for the demerger of South32. In the report, RBC Capital Markets noted, "South 32 is to start life with very modest gearing of 5%, it will target a 40% dividend payout ratio, and maintain a strong focus on cost improvement and shareholder returns." The documentation issued indicates how the demerger would foster significant productivity benefits "beyond the US$4b+ in cost gains already targeted." As expected, the documentation focuses on costs, productivity and delivering strong shareholder returns. Although BHP would have to bear demerger costs of a whooping $738m, this is expected to be "offset through reduced functional costs of over US$100mpa longer term," the analysts said. The shareholder vote for the demerger is scheduled for May 6. "S32 will start life with a net debt balance of US$674m, on top of this rehabilitation and closure provisions will total US$1.54b (a 23% reduction for BHP). We estimate gearing (ND/ND+E) of only 5%, or 14% including the provisions. There is an undrawn US$1.5b revolver available to S32. We estimate H1 FY15 pro-forma EBITDA interest cover of 12x and Net Debt to EBITDA of 0.3x, highlighting a very manageable balance sheet for S32," RBC Capital Markets mentioned. The existing S32 project pipeline, including the projects currently underway, adds "only modest incremental volume," the analysts pointed out. Moreover, there are no exploration assets in this portfolio, which is why volume growth is likely to be "M&A driven." The analysts added, "Given the low gearing, substantial undrawn debt facility, and robust cash flow outlook, we believe S32 is well set up for this."