BHP Billiton Limited (ASX: BHP), the world's largest mining company, today announced a landmark $US7.2 billion ($10.31 billion) write-down of its US Onshore assets.
"Oil and gas markets have been significantly weaker than the industry expected," BHP CEO Andrew MacKenzie said in an ASX announcement. "We responded quickly by dramatically cutting our operating and capital costs, and reducing the number of operated rigs in the Onshore US business from 26 a year ago to five by the end of the current quarter."
Oil and gas prices have plummeted in recent times as production from US shale producers and countries included in the Organization of the Petroleum Exporting Countries (OPEC) sent world markets into oversupply, as they sought to force one another out of the market.
"While we have made significant progress, the dramatic fall in prices has led to the disappointing write down announced today," MacKenzie added. "However, we remain confident in the long-term outlook and the quality of our acreage. We are well positioned to respond to a recovery."
Write-downs of this magnitude are somewhat rare because it requires an enormous project to have its value heavily discounted. Rio Tinto Limited's (ASX: RIO) disastrous acquisition of aluminum producer, Alcan, prior to the global financial crisis (GFC) saw it write-down $US8 billion in goodwill in just one year (2012).
Write-downs occur when the accountants who value a company's assets, in this case, BHP's oil and gas projects, believe the future value derived from those assets won't meet previous expectations. Oil prices fell from over $US100 a barrel in mid-2014 to below $US30 a barrel yesterday.
Write-downs are subtracted from profit in a company's income statement, so BHP will be forced to recognise the charge in its upcoming report. "This charge will be recognised as an exceptional item in the financial results for the half year ended 31 December 2015," the company said.
Foolish takeaway
Today's announcement should serve as a reminder of:
- Why investing in the mining sector is very risky; and
- You cannot rely on simple valuation tools like the price-book ratio, dividend yields and price-earnings ratio in your analysis of a resources company' shares.
