To read part I of Fat Prophets report, on Anglo American, click here. 

Following up Anglo American’s (NASDAQ: AAUK, Stock Forum) solid performance was BHP Billiton (NYSE: BHP, Stock Forum), the world’s largest miner. This week, the company announced a strong full-year (ending June 30th) earnings result of $15.4 billion. This is also a record and bang in line with market expectations. Not surprisingly, the 15% lift in profit from last year was driven predominantly by commodity price strength and to a lesser degree increased output.   

 With respect to commodity output for the year, the most encouraging aspect in our view was the breadth of BHP’s output growth: it wasn’t just iron ore. 

There were, however, production records across seven commodities. The record cash flow generated by the strong output has allowed for higher dividends to be paid, which will be welcomed by investors and the market. The result also keeps the pressure on Rio Tinto in the current takeover game. Perhaps most interesting of all, and echoing Cynthia Carroll at Anglo, was CEO Marius Kloppers’ positive comments on the outlook for the resource sector. 

Since our last review in July, an extension of the corrective retreat has seen BHP touch a low of $63.06. However, it is encouraging that downward momentum has slowed over the course of the past week, with support between $64.33 and $60.57 remaining largely intact. 

In the coming weeks, we anticipate a period of consolidation above $60.57, with additional support between $50.74 and $49.42 to limit downside risks. Such a move will allow for the formation of a base with potential to support a future revival of upward momentum. In our opinion, a sustained break above $76.65 would greatly improve the outlook for BHP.  

The longer-term weekly chart reveals the resilience of the underlying upward trend. While new highs may be some months away, we believe that potential remains for a continuation of the upward trend to new highs above $95.61 in due course. 

In our view, BHP’s outstanding record profit announced this week is significant in so many ways. Not only is it important for BHP’s shareholders, who are continuing to benefit from the ongoing resource boom, but it is also important in terms of refocusing investor attention on a company and a sector where the longer-term growth picture remains hugely attractive, despite the recent sell-off related to financial and credit market worries. 

Let’s begin our analysis with the result itself. Although full-year profit rose an impressive 15%, underlying EBITDA rose even more strongly by 22.1% to $28.0 billion. Meanwhile, net operating cash flow, also a very important barometer of a resource company’s health, grew solidly by 13.8% to $18.2 billion, as we had anticipated.  

This strong cash flow has in turn allowed BHP to increase its full-year dividend by 49% from 47 cents last year to 70 cents this year, beating consensus estimates of around 65 cents a share. 

This should please financial markets, which will have been looking forward to higher dividend returns. Due to its pursuit of Rio Tinto (NYSE: RTP, Stock Forum), BHP is not able to buy back its shares at the present time, so the company clearly wants to keep its shareholders happy in the meantime. At the same time, BHP is mindful of “keeping its powder dry” as it were, should it need to call upon cash reserves to help fund a cash sweetener in its offer for Rio in the year ahead.  

With respect to commodity output for the year, the most encouraging aspect in our view was the breadth of BHP’s output growth: it wasn’t just iron ore.  

In fact, BHP set annual production records in seven different commodities, including petroleum, copper, iron ore, manganese, molybdenum, and alumina. This demonstrates that BHP is not just sitting back and enjoying the benefit of higher commodity prices: it is trying to maximize production in order to maximize the benefit of these higher prices. 

Not surprisingly, BHP’s key profit-earners all made big contributions: petroleum division EBIT rose by 82%, iron ore by 70%, and manganese by a whopping 550%. And it won’t stop here. Longer-term, BHP has pledged to spend $85 billion to expand its commodity output, reflecting its confidence in the longer-term health of the resource boom, despite recent falls in market sentiment. 

But in our view Marius Kloppers’ outlook comments were perhaps the most interesting aspect of the result. Like us, he quite simply remains overwhelmingly upbeat on the longer-term outlook for the world’s emerging economies, led by China and India. 

We reiterate our view that whilst there will be short-term impacts on world growth, these have been greatly exaggerated by the market. Whether the U.S. economy goes into recession or not, China’s strong economic growth rates will continue, at somewhere between 8% and10% over the next few years.  

Marius Kloppers commented in the results briefing this week that in the wake of the deflation of asset values that have impacted economic growth, particularly in the U.S., a direct spillover into the emerging market economies has remained largely contained. He says that these economies, led by China and India, have contributed more than their industrial counterparts to global growth since the year 2000.  

He pointed out that these emerging economies will not escape entirely unscathed, as tighter monetary policies will impact growth rates in the short term. But these economies should remain relatively strong on the back of continued domestic infrastructure investment and regional trade. 

Most encouragingly of all, he argues that effects of the current weaknesses in the developed economies on demand for commodities should be minimal, driven by ongoing strong demand from the emerging economies. 

And let’s not forget that other major contributor to high commodity prices, the supply side.  

He points out that supply side issues remain high, which has led to an overestimation by most analysts of the commodity supplies coming onto the market. As a result, this has led to commodity price outcomes regularly being underestimated by industry analysts. This supports the Fat Prophets view that we have maintained for years now, which is that analysts have underestimated the ongoing strength of commodity demand and overestimated the supply-side response. 

In the short term, Marius Kloppers’ expectation is for commodity prices to remain high, relative to historic levels, albeit with higher volatility. 

The recent equity market fall-out has dramatically slashed the price of BHP to the point where the company is now trading on a price-earnings multiple of less than eight times forecast 2009 consensus earnings. On the dividend side, there is every likelihood that BHP could boost its full-year dividend for 2008 to around $1.00 a share, which provides a tidy dividend that most banks could only dream of offering their shareholders in the current climate. 

We believe that BHP represents outstanding longer-term value for patient investors and, not surprisingly, we will be looking for some stability in the company’s share price for a near-term buying opportunity. 

Accordingly, BHP Billiton will remain firmly held within the Fat Prophets Portfolio. We will be assessing the stock for near-term buying opportunities.