Fortescue shares took a beating after its quarterly report. Is it time to buy?

Quarterly reporting season for ASX resources companies is hotting up with several major ASX listed producers reporting in the last 24 hours. Fortescue (ASX: FMG) is undoubtedly the biggest of them, certainly in terms of market capitalisation – but probably also in terms of investor interest.

Fortescue has been a market darling for several years now due its extraordinary dividend yield that topped out in 2018 at 24.4% on a grossed-up basis (i.e., accounting for franking credits). That eye-watering yield has ebbed somewhat lately, but based on consensus estimates, Fortescue is still likely to deliver a grossed-up yield in excess of 10% for FY24.

Fortescue shareholders will know that the company’s share price, whilst generally rising over the period referred to above, has been extremely volatile. This is typical of a commodity producer that is largely at the mercy of commodity price moves – in this case the price gyrations of iron ore.

Right now, Fortescue’s price is in a downturn. After falling just five cents shy of $30 in February, it’s now trading closer to $20. Is it time to cash in on the current price weakness and pick up a +10% yield?

Let’s investigate what the biggest brokers in the land had to say about Fortescue’s June quarter report, and whether they think investors should buy the current dip – or wait for even lower prices.

Fortescue Broker Consensus vs June Quarter Update

Let’s kick off with a summary of all the moves in broker ratings and price targets post report. The graphic above compares all the broker information we have on file going back three months to keep it current. We have filings for nine brokers in total, of which six issued updates today regarding Fortescue’s June quarter report.

There weren’t any rating changes, the brokers are still 3 HOLD and 6 SELL. I track broker ratings across ASX stocks very closely, and I am quite certain only Commonwealth Bank of Australia (ASX: CBA) is more broadly despised by the brokers with a unanimous eight out of eight SELL ratings. But at least CBA’s share price is rising…

There were several price target changes for Fortescue, however, all cuts. These cuts caused the average price target across the 9 brokers to decline by 82 cents, or 4.2%, to $18.91. This implies 7.8% downside based on the price at the time of writing of $20.50.

The highest price target of $23.50 is held by Citi, but they have not yet published a research note on the June quarter report, so this may change over the next few days. For what it’s worth, Citi’s target represents around 14% upside. The lowest price target of $14.25 is held by Macquarie, representing around 30% downside.

It makes sense the three HOLD rated brokers are the only ones with price targets above the current price. But what strikes me here is, how wide the range is for Fortescue’s valuation – a massive 45% in terms of its current share price from the lowest price target to the highest.

This is unusual for a company that really has only one source of revenue. Yes, that thought just popped into my mind too! Fortescue Future Industries. Possibly the elephant in the room in terms of why brokers’ views are split so widely on the company’s valuation.

Regardless of whether you’re a believer in Twiggy Forrest's green ideology and his intentions for Fortescue to become a global leader in renewable energy, current broker views are hardly a glowing endorsement.

So, purely based on broker ratings and price targets, we’ve answered the question of whether Fortescue is yet a buy.

Let’s take a quick look at the broker’s commentaries to see if we can glean any further information as to what factors they think could move the dial going forward.

Goldman Sachs

Retain SELL | Price Target $15.50⬇️ from $16.20

• Broker notes shipments were 2Mt above forecast

• Iron ore price realisation of 82% of the Fe 62% Index was below the broker’s forecast of 84% due to lower grades

• FY25 guidance was in line with expectations

• The broker gave 4 reasons for retaining its sell recommendation:

  • 1. “Relative valuation vs. BHP & RIO: the stock is trading at a premium to RIO & BHP on our estimates”

  • 2. “Widening of low grade 58% Fe product realisations over the medium to long term due to our expectations of increasing supply of low grade iron ore”

  • 3. “Execution and ramp-up risks on the Iron Bridge project in FY25 & FY26 due to water availability and also reliability and performance of key processing equipment”

  • 4. “Higher near to medium term capex, uncertainties around the Energy and Pilbara decarbonisation and impact on FCF, dividend and balance sheet”

JP Morgan

Retain NEUTRAL | Price Target $23⬇️ from $25

• Broker described the results as solid, noting that production volume beat its estimates, but costs were a miss

• FY25 guidance was provided, and this was below the brokers expectations in terms of shipments and capital expenditures (CAPEX)

• The broker remains NEUTRAL, seeking a better entry point in terms of share price before considering upgrading to a buy

Macquarie

Retain UNDERPERFORM | Price Target $14.25⬇️ from $14.50

• “We expect FMG to come under pressure over FY25E/ FY26E/FY27E, with FCF yields of 5%/2%/1% and DPS yields of 5%/3%/3%. We have concerns on FMG's ability to maintain high FCF and DPS yields as cash flows are funnelled into speculative long-duration investments.”

Morgan Stanley

Retain UNDERWEIGHT | Price Target $18.70

• “4Q production and price (greater proportion of Super Special fines sold) missed consensus and MSe. However, costs were better on lower-than-guidance strip ratio. FY25 higher vs. cons on costs and capex. ND in-line with MSe.”

• On FY25 guidance: capex guidance came in higher at the midpoint than forecast, costs of US$18.5-19.75/t are 10% lower than forecast.

UBS

Retain SELL | Price Target $17.70⬇️ from $18.90

• “FMG ended FY24 strongly with shipments at the bottom of the guided range which speaks to the operational health of the hematite business.”

• “We update estimates for higher costs and lower price realisations, resulting in 6%-11% EPS downgrades over FY24-26E”

• Looking to Fortescue’s FY24 results due 28 August: “We look for 2H-FY24 dividend of A66cps on a payout ratio of 50%”

• With respect to the company's green energy project: “with Pecem green hydrogen entering full feasibility/FEED studies, and Holmaneset to follow. We look to concrete studies on project economics to gain some transparency on green hydrogen project economics”

• On iron ore prices: “we expect prices to average US$100-105/t over FY25 on continued soft fundamentals, weak demand and slightly stronger supply resulting in a build in port inventory during 1H-CY25”

This article first appeared on Market Index on Friday 26 July 2024.