A study by CRU International, the London-based group of commodity market analysts, suggests that the most accurate determinant of share value for metal producers is the relationship between capital costs and return on investments.
Market fundamentals and metal prices certainly influence the performance of metals and mining companies, but that is not all that determines shareholder value.
Over a long period, shareholder returns are closely related to how effectively companies use capital. This is measured as a ratio of returns on invested capital (ROIC), relative to the weighted average cost of capital (WACC).
Companies such as Alcoa, the star performer among metals equities in recent years, have been careful not to sink their earnings into investments that do not achieve their cost of capital. CRU’s research shows this to be a far more important factor than having low cash operating costs.
Certain metals sectors have consistently outperformed others. For example, the average ROIC from 1995 to 1999 for aluminum companies was 14.2%, while it was only 4.6% for gold companies.
CRU has also developed FinPAC, which gauges the relationship among London Metal Exchange prices, market fundamentals, profit margins and returns to shareholders. FinPAC forecasts LME prices and mine and industry costs, and links them to project earnings by sector, while, at the same time, highlighting the best-performing companies.
Alcoa
S&P 500
Buenaventura
Grupo Mexico
Rio Tinto
Impala Platinum
Comalco
Alcan
Reynolds Metals
Anglo Am. Plat’m
Pechiney
Percentage of return
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