Codelco Losing to BHP on Record Investment: Andes Credit

Codelco Seen Narrowing BHP’s Lead in Bond Yields
An worker transports rocks at the El Teniente copper mine, owned and operated by Corporacion Nacional del Cobre de Chile, near Rancagua, Chile. Photographer: Morten Andersen/Bloomberg

Codelco, Chile’s state-owned copper producer, is poised to narrow BHP Billiton Ltd.’s lead in the bond market even as it prepares the biggest investment plan since dictator Augusto Pinochet created the company in 1976.

The gap between yields on Codelco’s dollar bonds and BHP’s due in 2021 grew to 55 basis points on Nov. 16 from a record low of 15 on Sept. 12, according to data compiled by Bloomberg. The difference, the widest in three months, probably will shrink as the Santiago-based company discloses financing plans and boosts output, according to Jefferies Group Inc.’s Richard Segal.

Codelco, the only major miner to share BHP’s A1 rating from Moody’s Investors Service, has boosted net debt to the highest in more than a year to upgrade aging mines in Chile’s northern deserts at the same time that its biggest rivals -- BHP, Rio Tinto Group and Vale SA -- scale back investments as demand growth from China slows. Chief Executive Officer Thomas Keller signaled last month he may tap capital markets again for 2013 investments after selling a record $2 billion of bonds in July.

“Factors such as funding that hurt Codelco in the past may fade,” said Segal, the head of international credit strategy at Jefferies, who has followed emerging-market debt for two decades. “Like any large commodity company, it’s not the uncertainties about its ambitions but putting out the details on how much it wants to raise and in what time frame.”

BHP Yields

BHP’s 3.25 percent dollar bonds due in 2021 yielded 2.31 percent on Nov. 21, down 20 basis points, or 0.2 percentage point, from 2.51 percent at the end of August, according to prices compiled by Bloomberg. Yields on Codelco notes declined two basis points to 2.82 percent over the same period. Investors demand 75 basis points extra yield to hold Codelco debt rather than Chilean government bonds, the most since Aug. 21.

Keller, the former managing partner for Latin America at Toronto-based Brookfield Asset Management Inc. who replaced Diego Hernandez as Codelco’s CEO in June, plans to spend $25 billion over the next five years to increase annual output to 2.1 million metric tons by 2020. While the company postponed a decision on expanding its smallest mine because of electricity constraints, the five-year plan remains intact, according to a Nov. 16 statement.

$2 Billion Sale

Output slid 5 percent in the first nine months of this year from a year ago on lower ore grades, the company reported today. Keller expects annual output to be “just below” 1.7 million tons, down from 1.73 million tons in 2011, he told reporters in Santiago after the results were published.

Codelco will look for “opportunities in the capital markets” to help finance the projects needed to revamp its mines, Keller said in an Oct. 16 interview in London. The company has no immediate needs for funding and will sell debt when market conditions are favorable, he told reporters in Santiago on Nov. 12.

“Our view is it will be able to fund its capex program through internally generated cash flows,” said Stephen Keck, a corporate credit analyst at TCW Group Inc. “As a government-owned company, it’s got a significant dividend policy that can be adjusted to support that program.”

In July, the company sold $2 billion of bonds, including 30-year securities at an extra yield of 180 basis points above U.S. Treasuries and 10-year bonds at a spread of 165 basis points.

No Constraint

Codelco has $7.2 billion of dollar bonds outstanding and $346 million worth of peso notes, with $935 million of securities falling due in the next 12 months, according to data compiled by Bloomberg. Its last-reported ratio of net debt to earnings before items was 1.35 versus BHP’s 0.72, the data show.

The company is rated A by S&P, making it the second highest rated major mining company behind BHP. Keller, 55, vowed last month to maintain an investment grade rating.

While lagging behind BHP because of the spending plans, Codelco won’t have difficulty funding expansion, said Keck.

“If you look relative to BHP or Vale the concern would be the high capex program over the next two years,” he said by telephone Nov. 14 from Los Angeles. “Our view is that you may see some weakness on copper prices but overall credit fundamentals will remain strong.”

Price Slump

Expanding means spending as copper falls 25 percent from its February 2011 record high. Copper for delivery in three months traded at $7,692 on the London Metal Exchange yesterday, down from a $10,190 all-time high. China’s refined-copper imports fell to the lowest level in 15 months in October after local inventories swelled, according to data e-mailed by the General Administration of Customs yesterday.

Keller said today he doesn’t expect a “marked decline” in copper demand and prices will stay at “attractive levels.”

“Macro uncertainties are something we need to keep an eye on,” Jefferies’s Segal said by telephone yesterday. “Those companies with more aggressive expansions may fall out of favor first because their planning has to change more radically.”

BHP CEO Marius Kloppers reiterated in August the Melbourne-based company’s commitment to maintain its credit rating, and delayed plans to approve major projects including the Olympic Dam expansion in the state of South Australia, which would have created the world’s largest uranium mine. BHP spokesman Ruban Yogarajah declined to comment on investments or bond trading in an e-mailed response to questions.

Rio Spreads

Rio Tinto, based in London, announced plans Oct. 9 to cut jobs and delay decisions on projects because it expects slower growth in China, its largest customer. Vale is trimming investments and selling assets as the Rio de Janeiro-based iron-ore producer works with “more conservative premises,” Chief Financial Officer Luciano Siani said Oct. 25.

The extra yield, or spread, investors demand to buy BHP’s 1.625 percent bonds due in 2017 instead of U.S. Treasuries fell to 36 basis points yesterday from 91 basis points on June 4, according to Trace, the price reporting system of the Financial Industry Regulatory Authority. The cost of protecting BHP’s debt against default using credit default swaps fell to a two-year low of 64 basis points from 127 basis points on June 5.

The spread investors demand to buy Rio Tinto’s 1.625 percent dollar bonds due in 2017 fell to 84 basis points yesterday from 111 basis points on Sept. 26, according to prices from Trace. Rio Tinto’s credit-default swap spread fell to an eight-month low of 102 basis points from 177 basis points on June 5.

World’s Biggest

The spread on Vale’s 6.25 percent dollar bonds due in 2017 dropped to 183 basis points yesterday from 266 basis points on June 4, according to prices compiled by Bloomberg. Its credit-default swaps fell to 136 basis points yesterday from 172 basis points on June 28.

Chile depends on copper mining for 11 percent of gross domestic product, according to central bank data. Keller’s plan to keep Codelco the world’s biggest copper producer includes building an underground mine at Chuquicamata, the century-old open pit expropriated by President Salvador Allende from U.S. mining companies Anaconda Corp. and Kennecott Corp. in 1971.

Pinochet, the military dictator who overthrew Allende in 1973, didn’t return the mines to their owners and created Codelco in 1976. The five democratically elected governments since have used Codelco profits to help make Chile the wealthiest country in the region and the highest-rated, with an A+ ranking from Standard & Poor’s and Aa3 by Moody’s.

Record Yield

Chile’s per capita GDP is the highest in Latin America, according to the International Monetary Fund. The government sold $750 million of 10-year dollar bonds last month at the lowest yield in the region’s history, according to the Finance Ministry. The spread on the bonds fell two basis points to 68 basis points yesterday.

Yields on Chile’s 6 percent domestic peso notes maturing in 2020 rose two basis points yesterday to 5.49 percent and have risen 30 basis points this year. The peso was little changed at 477.95 per dollar yesterday. The currency has risen 8.7 percent this year, the most in the world after the Hungarian forint.

Default Protection

The cost of protecting Chilean bonds against default for five years was little changed at 77 basis points at 7:44 a.m. in Santiago, according to prices compiled by Bloomberg. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent if a borrower fails to adhere to its debt agreements.

“Everyone is expectant about what the company could do in terms of maneuvering or raising cash for investments over the coming years,” Bernardo Galan, a fixed-income trader at Tradition Chile Agentes de Valores in Santiago, said by telephone. “Any new issue wouldn’t affect the rating. As a quasi-sovereign it’s on a higher level than others.”

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