Glencore Signals Another Tough Year for Its Trading DivisionBy and
Commodities house lowers 2016 Ebit target for trading unit
Glencore suffering from reduced use of capital for trading
Glencore Plc signaled 2016 will be tough going for the world’s largest commodities trading business, cutting earnings guidance for the second straight year at the division that deals raw materials from cotton to coal.
The Swiss-based miner said it expected the trading unit to deliver earnings before interests and taxes of $2.4 billion to $2.7 billion next year, below the long-term target of $2.7 billion to $3.7 billion Glencore reiterated in August.
The relatively gloomy outlook for the trading business, which delivered more than $3 billion in Ebit at the peak of the commodities boom in 2008, shows how Glencore’s aggressive debt reduction plan and slower demand growth for commodities is impacting its ability to make money.
Glencore said on Thursday that "lower working capital levels" were partly behind the reduced earnings target. Commodities houses like Glencore and its rivals Vitol Group BV, Cargill Inc. and Trafigura Pte Ltd. use billions of dollars in leverage to boost their trading earnings. Glencore said on Thursday it would reduce its consumption of working capital by $500 million in 2016, deepening a cut of $1.5 billion it announced in August as part of a broader plan to reduce its debt.
The lower use of working capital will disrupt so-called "time arbitrage" deals, where trading houses such as Glencore borrow to buy commodities and store them to profit from the difference between prices for immediate delivery and forward contracts.
The trade is particularly popular among oil traders, who store millions of barrels of oil in tanks onshore and even on supertankers at sea.
Trafigura, for example, reported earlier this year its best-ever first-half result with $653 million in net income, in part due to storage deals. The in-house trading arms of BP Plc and Royal Dutch Shell Plc also reported strong profits on the back of what BP Chief Financial Officer Brian Gilvary described as "high return" storage deals.
Still, trading will be a key source of earnings for Glencore next year as its large mines suffer even more due to low metals prices, analysts said.
"While we expect the market to remain somewhat skeptical of this target given weak prices and demand, the trading business continues to underpin the cash flows and deleveraging of the group," Liam Fitzpatrick, an analyst at Credit Suisse Group AG, said in a note to clients.
Glencore also said lower production of copper, zinc, lead and coal will also reduce its trading profits as it lowers the volumes of commodities it can market.
The company said it expected its trading unit to report Ebit of $2.5 billion this year, the lower end of the $2.5 billion to $2.6 billion range it announced only four months ago.
Glencore has traditionally boasted that its trading unit can make money whether commodities prices are high or low, providing it with a cushion against volatile prices. Its trading unit is the world’s largest and most diverse, handling over 90 commodities including wheat, copper, sugar, oil and coal.
The company, led by South African Chief Executive Officer Ivan Glasenberg, raised its Ebit target for trading in 2014 to $2.7 billion to $3.7 billion, on the back of the acquisition of grain trader Viterra Inc. and the merger with miner Xstrata. Before, it guided investors to expect trading earnings of $2 billion to $3 billion.
"Glencore is well placed to continue to be cash-generative in the current environment –- and at even lower prices,” Glasenberg said in a statement Thursday before a call with investors.
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