Structural Changes for Glencore's Value

The company's underperformance should be ending now that its ESG performance is much improved

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Aug 26, 2022
Summary
  • Investors are paying too much attention to backward-looking issues at Glencore.
  • Following coordinated resolutions with U.S., U.K. and Brazilian authorities, Glencore has a clean slate.
  • Glencore's recycling, technology and carbon emission reduction plans are all greatly unappreciated.
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Over the past 10 years, Glencore PLC (LSE:GLEN, Financial) has underperformed its two main peers, Rio Tinto (LSE:RIO, Financial) and Anglo American (LSE:AAL, Financial). This has been because of terrible performance during 2018 through 2020 thanks to its exposure to coal and Department of Justice and U.K. Serious Fraud Office investigations into regulatory and corruption issues.

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This was also the period when environmental, social and governance analysis as an investment tool in Europe started to take hold. On May 24, Glencore announced a settlement of these investigations with the U.S., U.K. and Brazilian authorities, with the overall settlement value expected to be in line with the previously disclosed $1.5 billion provision. I think this announcement is the start of Glencore turning from an ESG laggard into an ESG leader.

Many institutional investors have refused to invest in the company, but this could be about to change.

Glencore has identified decarbonization as a key priority and set ambitious targets to reduce Scope 1 through 3 emissions by 50% by 2035 versus the 2019 baseline (and 15% by 2026). The company reduced Scope 1 and 3 carbon dioxide emissions by approximatesly 15% and 25% in 2021 (versus 2019 base year).

The Swiss company has linked its capital allocation strategy to the achievement of its climate targets. Glencore’s strategy is to harvest cash from its coal business and focus investment on transition metals. Management has intensified this focus by simplifying the portfolio to prioritize larger, higher-margin assets that are essential to the energy transition. Since 2021, this has generated about $3 billion in proceeds through the disposal of non-core assets. There is further upside from potential disposal of remaining non-core assets, some of which are in the process of being sold.

Glencore’s capital expenditure is heavily weighted toward energy transition metals, including various South American copper projects, African copper and cobalt, Kazakhstan polymetallic investments and nickel projects in Canada. In 2021, the industrial capital expenditure was $4.4 billion, of which $724 million, or 16%, was related to coal. The currently approved capital program for the coal business is limited to stay-in-business capital expenditure and extensions at existing mines.

Another important ESG topic is the employee health and safety performance. Glencore has had a bad safety track record, with 119 fatalities recorded at its operations since 2013, including eight in 2020 and four in 2021. Most of these fatalities are related to its operations in the Democratic Republic of Congo, Zambia (the Zambian asset was sold in 2020) and Kazakhstan. While any fatality at a mining operation is a tragedy, Glencore has made strong progress in reducing the number of fatalities at its operations over the past several years. This has included management’s renewed focus on safety and a strategy to sell lower-quality assets, which in many cases have higher ESG risks. As a result, fatalities have reduced to four in 2021 and two so far in 2022. Glencore’s total recordable injury frequency rate and lost time injury frequency rate have also consistently decreased over the past five years.

Recycling

A key competitive advantage Glencore has over its peers is its exposure to recycling. By recycling copper, nickel, cobalt, zinc and other precious metals, the company contributes to the circular economy, diverts materials from landfills and reduces environmental impacts.

As one of the world’s largest processors of secondary nickel and cobalt-bearing materials, in 2021, its nickel recycling business processed 17,900 tonnes of recycled material containing 4,400 tonnes of nickel (4%), 1,500 tonnes of cobalt (5%) and 900 tonnes of copper. Recycling has the added advantage of using significantly less energy than mining and smelting primary metal.

While overall volumes are still small compared to group production levels, Glencore is uniquely placed given it is the only large, diversified miner with a sizeable metallurgical processing asset base to grow the recycling business with increasing focus on salvaging future-facing commodities.

Climate

Glencore is the only diversified miner with Paris Agreement-aligned targets on a total emission basis by 2035 as the other diversified miners are typically only aligned on a Scope 1 and 2 basis.

The company's strategy is focused on three areas: efficiency of operations, shifting its portfolio to future-facing commodities such as nickel, copper, cobalt and zinc and its plan to responsibly decommission its coal production over time.

Glencore is looking at opportunities to increase the proportion of green metals it can supply customers from its own mines and through its extensive marketing (commodity trading) activities. As part of this initiative, the company is also ramping up its power and carbon trading teams to help provide carbon solutions for commodity supply chains as these markets evolve and mature. In the race to net zero, this is a rapidly growing service that industrial corporations will need from the likes of Glencore.

Other ESG-friendly initiatives

In February, Glencore partnered with Century Aluminium Co. (CENX, Financial), in which it holds a minority position, to begin supplying Natur-Al aluminium to customers. This aluminium has been specially designed to have one of the lowest CO2 footprints in the world for the metal.

Glencore also partnered with BritishVolt earlier this year, announcing a battery recycling joint venture. Recycling will take place at its Britannia Refined Metals operation in the U.K. The facility is expected to be operational by mid-2023, with a long-term aim of being 100% powered by renewable energy.

Finally, by this time next year, the company will have completed its compliance with the new Global Industry Standard on Tailings Management, brought about by the Global Tailings Review, a safety initiative overseen by the International Council on Mining and Metals, UN Environmental Programme and Principles for Responsible Investment.

Glencore’s tailings storage facilities risks are relatively elevated, given it owns 22 upstream dams, which is a large number even for a major mining company. By aligning tailings storage facilities management with global industry best practices, institutional investors can tick another box on the Glencore investment case.

New technologies

Until digging deeper into the company, I had always assumed Glencore was behind Anglo and Rio on the technology front. But I must erase that view.

Glencore is building lower-emission, next-generation nickel mines in Canada. The Onaping Depth mine will be comprised of a full electric vehicle fleet with real-time remote operation, monitoring and management utilizing advanced Wi-Fi systems. The benefits include the elimination of diesel emissions, reduced ventilation and lower noise pollution. The company expects to reduce greenhouse gas emissions by 45% compared to a similar mine with diesel-powered vehicles. Glencore expects to commission these assets by 2024-25.

Glencore’s wholly-owned Carbon Transport and Storage Company Project aims to demonstrate carbon capture and storage technology that will enable its customers and other users to improve the management and reduction of their emissions. This is planned for the Millmeerran coal-fired power station in Queensland and will be one of Australia’s most advanced onshore CCS projects. A final investment decision on the project is expected later this year.

Conclusion

Glencore’s ESG improvement should lead to a re-rating of the stock as the market applies a lower discount rate to valuations since it better understands the lower risks the company is running. Its recycling business is a true differentiator to peers, and its unique marketing business also underpins the dividend.

The coal assets are likely to produce generous free cash flows in the era of Russian sanctions, which can be reinvested in future-facing commodities that ESG-focused institutional investors value more highly.

Disclosures

I/we have no positions in any stocks mentioned, and may buy the stocks mentioned or may initiate a short position in any of the stocks mentioned over the next 72 hours. Click for the complete disclosure