Why Glencore continues to underperform

Glencore shares are at a three-year low as the commodity giant faces up to a series of challenges.

A week after Rio Tinto (LSE:RIO) unveiled bumper profits and a special dividend fuelled by soaring iron ore prices, Glencore (LSE:GLEN) has a somewhat different story to tell investors.

Half-year results today reveal a 32% decline in half-year underlying earnings to US$5.6 billion after a challenging few months for its mix of commodities, which range from copper, cobalt and nickel through to coal and oil.

Glencore's Africa copper business has underperformed operationally and the expected cobalt boom from the metal's use in batteries for electric cars hasn't materialised after industry over-supply caused the price to fall by 40%.

Glencore has responded by stopping production at its Mutanda mine in the Democratic Republic of Congo (DRC), which is the world's largest cobalt facility. It said the site was no longer economically viable due to the falling price, as well as the impact of inflation on some input costs and imposition of additional mining taxes.

The company is still confident that commodity fundamentals will move in its favour, adding that its copper business outside Africa and its coal assets delivered a robust performance.

Shares, however, fell sharply on today's opening bell and were later 2% cheaper at 227p. This means Glencore shares have lost a third of their value since April and are at their lowest point since 2016. 

The share price weakness reflects a long list of difficulties, many of which relate to DRC. A year ago, Glencore received a request from the US Department of Justice to produce documents relating to compliance with the Foreign Corrupt Practices Act in DRC as well as Nigeria and Venezuela. It has also had to untangle a dispute involving Israeli billionaire Dan Gertler that had threatened to disrupt supplies of cobalt. 

In contrast to Glencore, shares in Rio Tinto are just 7% lower since April and have more than doubled since 2016 on the back of some chunky shareholder returns. The strong price of iron ore, which accounts for about half Rio's sales, helped the Anglo-Australian miner to deliver its best half-year results since 2014 and underpinned a surprise $1 billion special dividend.

Glencore is in the process of paying shareholders $0.20 per share — equivalent to $2.8 billion —in two equal instalments across 2019. A $2 billion buyback will also run until the end of 2019, but there was no further guidance today on a pledge made in February to top this up in August should market conditions allow.

Net debt was higher than expected due to one-off impacts, with Glencore saying today it intends to manage the balance sheet over the next six to 12 months towards a target of one times net debt/adjusted earnings from a ratio of 1.24x currently. As a result, analysts at UBS said "additional cash returns above base dividend now appear unlikely".

They added:

"We expect the market to remain sceptical on H2 volume recovery/ African turnaround until visibility improves, especially with the DoJ investigation ongoing and trade tensions escalating."

UBS has a "neutral" recommendation and price target of 280p, whereas Morgan Stanley has an overweight stance and target of 320p. Glencore joined the London stock market at a price of 530p in 2011 but has not tested that level since.