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Bhp Billiton Ltd and Its Financial Position

Essay details

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This research project analyses the business and financial performance of BHP Billiton LTD over a period of three years. The financial year end of BHP is 30th June therefore at the commencement of this project the latest available full year period is to June 30 2017 so the preceding 3 full years of June 2015, 2016 & 2017 will be used as the basis of this analysis- in addition Rio Tinto will be used as a comparator.

Company background

BHP is a global resources company and produces various commodities iron ore, metallurgical coal, copper and uranium. Segments include Petroleum, Copper, Iron Ore and Coal. BHP operates through 100 locations in 25 countries, comprises of approximately 60,000 staff and contractors, and is head quartered in Melbourne, Australia.

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BHP operates in the mining industry which is very cyclical in nature being closed connected to the highs and lows of the global economy and demands from developed and emerging economies. Over the last 5 years there has been a significant downturn in the mining industry which bottomed in 2017 a presented significant challenges to all industry participants. Also declining ore grades resulting in higher extraction and refining costs have forced miners such as BHP to drive investments in innovation and implement digital agendas to remain competitive.

Research questions

The aim of this research project is to understand from a shareholder perspective if value has been added over the last 3 years and if I was an investor why would I chose to invest in BHP. I will research this by answering the following three questions

  • Does BHP have a position of strength in the mining industry?
  • What is the overall attractiveness of the mining industry and how do competitive forces influence BHPs performance?
  • Due to the Mining downturn over the last few years, what strategies were successfully/ unsuccessfully implemented to create/destroy shareholder value?
  • How does BPH compare to its peers within the mining industry and how is BHP’s performance when benchmarked against its rival Rio Tinto.

Research approach

I will adopt a systematic and appropriate approach to researching BHP to answer my project objectives. I intend to do this by collecting mostly secondary information from news reports, journals and business reports about the mining industry in general and in addition also research various management strategy concepts to gain an understanding of theoretical models of business strategy to use as the basis of my research. I will then synthesize this information into the various models I intend to use. The models chosen will be a SWOT analysis, Porters 5 Forces and Porters generic strategies, these will be elaborated on in part two how I will apply the models to my research approach.

I will download the quarterly financial statements as issued by BHP and Rio Tinto and enter the financial information into a spreadsheet and use formulas to calculate ratios and create graphs to present as part of my analysis and for ease of understanding. I will conclude this report by making recommendations and observations in line with my project objectives.

Information Gathering and Business Techniques

Primary Information or Secondary Information

There are two sources of Information: Primary and Secondary, the differences are detailed below

Primary sources of information provide first-hand accounts of the events or conditions. In most cases these are documents that were created by witnesses of events at the time they occurred and include questionnaires, letters, photographs, financial records, memos and emails.

Secondary sources of information are created by someone who did not experience first-hand or participate in the events or conditions. Secondary sources are generally reference materials, books, encyclopedias, magazines, video or audiotape, TV, newspaper.

As I do not have access to any directors or internal materials such as email or memos produced within BHP or Rio Tinto all the information used in this RAP consists of Secondary Information.

One of the challenges of this project will be information overload as my initial research has revealed literally thousands of documents relating to BHP similarly by using a comparator I will have almost double the information as I need to research Rio Tinto as well – a google search of “BHP articles” returned just under 13 Million hits in 0.35 seconds.

Sources

Most of my sources will come from the use of Internet. The internet is a virtual library of reference materials, views and opinions and I will use and internet to research articles, and use sites such as YouTube for news reports and podcasts. Some initial searches has revealed Google eBooks to contain a lot of reference material and about BHP, Rio Tinto and the mining industry in general. In addition the BHP and RIO websites are a great source of current and historical information as well as current information on the Reuters website which also guided me in evaluating trends and growth of BHP.

One of my main sources of data will be the annual and quarterly reports of BHP and RIO these reports contain the profit and loss, balance sheet and cash flow statements that are prepared at the end of each quarter and year. It also includes BHP’s corporate structure & board of directors, the chairman’s statement, the yearly overview, a statement of corporate governance which include issues relating to social and environmental responsibility, information on internal controls, and an analysis of the financial results.

As the annual reports are issued by the company as guidance for investors and are audited by reputable audit firms one would expect the annual reports to be factual and represent a good source of information, yet history has shown this is not necessary the case. One example is that of Enron which declared bankruptcy in 2001 after it engaged in systematic and deliberate falsifying of its accounts to maintain profitable reporting. For years Enron was able to fool auditors, shareholders and regulatory bodies and its subsequent collapse resulted in the loss of thousands of jobs and millions in shareholder value.

Limitations of information sources.

The two main limitations with the sources of information will be reliability and bias.

Reliability is the quality and accuracy of the information and if it is trustworthy to be used in any analysis. When using secondary information there is always a question as to the reliability of the source as data entry mistakes can happen from one source to another and similarly in situations where a piece of information is passed from one person or source to the next it may be changed slightly each time it is told.

Bias is a prejudice in favor of, or against something, compared with another. Bias is usually considered to be unfair and used in information sources to influence the reader to act in a certain way. For example investment information may contain bias as the writer tries to influence the reader to purchase certain investments.

I will overcome these limitations by cross verifying the same information from different sources and reducing bias by forming an understanding of the motivations of the writer who produces the information and researching multiple documents to ascertain if there is a consensus of similar information and views.

Ethical Issues involved with the use of data,

The main ethical issue involved with research is plagiarism, this is defined taking someone else's ideas or written material and passing them off as one's own work. I will overcome this issue by correct referencing techniques if I use any quotes or ideas for other published material. Another way I will overcome this issue is to paraphrase by reading and re-writing any other authors ideas in my own words instead of directly copying verbatim. To help manage this I intend to keep two lists of anything researched, one a bibliography of everything I have read and secondly a list of everything I have referenced.

Models Used

In addition as mentioned in part one I will also use business models to discuss the strategies of BHP.

The advantages of using models is that they can simplify the business environment into an easily understandable and communicable form yet this is also one of the limitations in that through simplification some of the detail and complexity needed to understand the business is lost. To overcome limitations I intend to use a range of different business models to analyze the business environment and strategy of BHP compared to that of RIO. The models used are: SWOT, Porters 5 Forces and Porters generic Strategies.

SWOT: A SWOT analysis (strengths, weaknesses, opportunities and threats) will be used to identify and understand key issues affecting BHP. Strengths and weaknesses are internal value creating or destroying factors such as assets, skills or resources. The opportunities and threats are external value creating or destroying factors that a company cannot control. .SWOT limitations are that it does not necessarily offer solutions to business performance and it is difficult to address two sided factors that could be either a strength or weakness, for example BHP purchasing a mining concession (a strength) but the cost may be expensive (weakness).

Porters 5 Forces: “Porter's Five Forces is a model that identifies and analyzes five competitive forces that shape every industry". It helps to define the attractiveness of an industry and can be used to determine strategy within an industry or industry segment. Its advantage is that it can be used at any level of the organization i.e. BHP 5 forces within the global mining industry, but can also be used to drill down to various levels within segments, i.e. BHP 5 forces in the copper mining segment in South America.

A limitation with this model is that it is static and provides a current snapshot of the industry based on past information of what the forces are doing, as competitive forces are constantly changing as each market participant is changes their strategy based on movements of the others (game theory& kind of like chess) the model can quickly become outdated and irrelevant – one example of this could be Kodak in the early 90’s completely underestimating the impact of digital cameras and resulting in its subsequent bankruptcy.

Porters generic Strategies: Porter suggested that a key strategic issue is to gain a sustainable competitive advantage over competitors in the market. This can be gained by offering customers better value by either lower prices or by providing value added benefits and service that justify higher prices. Porter suggested four "generic" strategies to gain competitive advantage along two axis, one axis defines the business activities from narrow to broad in scope the other axis being the extent to which a business differentiates its products or services.

One of the advantages of Porters strategies is that it offers a solution to the business on which type of strategy to implement. A limitation is that it forces an organization to choose one strategy over another with Porter defining those companies as trying to implement both strategies at once as “stuck in the middle”. Kay however has argued that Toyota was successful at implementing more than one generic strategy.

Ratios

Financial statement analysis is a judgmental process. One of the primary main objectives is the identification of major changes in trends & their relationships and the investigation & explanation of the reasons underlying those changes. The most widely used financial analysis technique is ratio analysis where these financial ratios are expressed in terms of percentages and multiples.

The financial ratios to be used for the analysis of BHP financial performance fall into the following categories:

Profitability ratios – will be used to assess management’s ability to control expenses and to earn a return on the resources committed to the business. The profitability of BHP will be analyzed using:

  • Gross Profit Margin
  • Net Profit Margin
  • Return on Assets
  • Return on Equity
  • Liquidity ratios - measure a firm’s ability to meet its current obligations. I will measure the liquidity of BHP by analyzing:
  • Current ratio
  • Acid Test ratio

Gearing ratios – assess the financial risk of a company, if a company has too much debt it can fall into financial distress in time or high interest rates and low profits., I will use the following gearing ratios to assess the financial fitness of BHP:

  • Total Debt to Asset
  • Debt to Equity
  • Interest Coverage Ratio
  • Efficiency ratios will be used to analyze the company’s ability to manage its assets and liabilities. These ratios focus on BHPs working capital management and include:

  • Asset Turnover
  • Receivable collection days
  • Creditor payment days
  • Shareholder ratios will be used to assess the level of return received by the shareholders of the company, the following will be used:

  • Earnings per Share (EPS)
  • Price to earnings (P/E)
  • Dividend Yield
  • Profitability
  • Activity
  • Liquidity
  • Leverage

Conclusion

Recommendation

Limitations financial year end differences – use quarterly reports one does not issue quarter reports so need to cut year in half and add, so this would be a limitations as it implies some assumptions , ie balance sheets need to take average in the balance sheet, any manipulation of data involves assumptions.

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