In a world where major governments are printing money without restraint, it makes sense to transfer a good slug of your capital into some "hard asset" plays that can be marked upwards to market as the U.S. dollar gets revalued downward on global currency markets.
Rio Tinto Plc (RIO) would be a prime beneficiary of that trend. Rio Tinto Plc is a major producer of aluminum, copper, diamonds, coal, uranium and assorted other industrial minerals such as borax, titanium oxide and rock salt. They have operations on six continents and employ about 77,000 people.
Both revenues and EPS are expected to hit all-time records in 2010 at $62 billion in sales and about $10 per share in earnings. At their April 13, 2011, close of $71.66, Rio Tinto Plc is offered at just 7.2 times this year’s estimate — the lowest valuation in more than a decade (excluding the 2008-2009 meltdown period).
When commodities were surging in late 2007 through the middle of 2008, Rio Tinto touched annual highs of $121 and $139.70 on EPS that were well below both 2010’s final tally and the 2011 expectations.
Rio Tinto’s balance sheet is rock solid with total debt of only $1.43 billion as of YE 2010 against $9.99 billion in Treasury cash. Total interest coverage is outstanding at over 25x.
The shares have been in a sustained uptrend since bottoming in late 2008, and every previous pullback has proven to be a buying opportunity. The shares were over $76 just a few days ago before Goldman Sachs’ well publicized call of "a top" in oil and other commodity prices.
What is Rio Tinto truly worth? A rebound to even 12 times this year’s estimate would bring it back to the $120 mark. That could be a bit optimistic if the market sees this year as a high point so maybe $90-$100 would be a more conservative target.
Morningstar assigns Rio Tinto 4 stars (out of 5) and sees "fair value" as $90 per share. Standard & Poor's calls that analysis, and raises Morningstar with a 5-Star rating and a 12-month goal price of $92. Value Line assigns Rio Tinto an A for financial strength and notes that Rio Tinto shares have outperformed 80% of the 1,700 stocks in their main research universe over the years.
From 2001 through 2010 Rio Tinto paid out dividends each year ranging from a low payout ratio of 12% (in 2010) to a high of 77% (in 2001). Management is poised to pay about $1.25-$1.40 this year even if they stick near the low end of historical payout ratio. That makes for at least a 1.75% yield with the possibility for much more either this year or in the relatively near-term future.
If you buy into my theory for Rio Tinto’s prospects and the target zone of $90-$100, then you’ll see that there’s a 25%-39% upside potential over the next year or so. Here’s a conservative way for the option savvy crowd to garner even better total returns with a built-in margin of safety.
Dr. Paul Price
April 13, 2011
Dr. Price publishes articles every business day on OptionsProfits.com, a division of the TheStreet.com.
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