BHP Group Ltd (ASX: BHP) is one of Australia's most well-known companies, as well as one of the largest mining companies in the world, with a market capitalisation of $177.64 billion and over 62,000 employees.
The BHP share price mostly traded sideways throughout 2018, seeming to stay in the $30-$34 range. BHP has broken this pattern, sharply rising to reach over $37 at the time of writing, an increase of over 13% since January 24 and over 21% since November last year.
I have long been bullish on BHP, as well as rival Rio Tinto Limited (ASX: RIO) as it is one of the lowest-cost producers of iron ore, coal, petroleum and copper in the world.
CEO Andrew Mackenzie has been implementing strategies to improve efficiencies and trimming costs for the company since 2013, and this has been paying dividends (literally). BHP has refocused on its four key commodities of iron, coal, petroleum and copper, with its former interests in zinc, lead, silver and aluminium listed into South32 Ltd (ASX: S32). BHP has successfully lowered its cost-base for production even further by refocusing on these four core commodities, and now has one of the slimmest business models in the industry.
With BHP's management promising to keep its payout ratio at 50% or above going forward, this meant shareholders were poised to benefit substantially from any price rises in these commodities.
Enter iron ore. Iron ore is BHP's largest commodity exposure, providing almost 40% of its EBITDA alone. Since mid-November, the iron ore spot price has risen almost 50% to over $92 per tonne and at the time of writing is trading at around $88. BHP's cost of mining a single tonne of iron ore is $14.26 and as miners' costs of production are relatively fixed (and in BHP's case, very low), any rises in spot price over the cost of production increases profit exponentially. Although the iron ore price rose almost 50%, BHP's profit margin from mining iron has risen almost 65% in the same period. This is what has lit the fire under BHP's share price and will continue to do so if the iron ore price continues its run.
Foolish Takeaway
Although commodity prices are highly volatile, BHP's extremely low costs and lean business model ensures that shareholders will continue to benefit from any rise in the iron, coal, oil or copper markets. Although I don't believe now would be the best time to jump into BHP, I love their efficiency and will be looking forward to any slump in commodity prices and a more attractive entry point in the future.
BHP is due to release its first-half FY2019 earnings report this afternoon.
