Citi upgrades BHP Billiton and offers dividend and capex cutting advice

Citi has upgraded BHP Billiton shares to 'buy' after the price more than halved last year, but called for the miner's to cut its dividend and capital expenditure.

The US bank set a price target of £7.50 BHP, down from a previous £8.50, with the rating upgraded from 'neutral'.

With risks "still looming large" from Brazil's Samarco mine disaster and volatile commodity prices, Citi believes management "should act boldly" and, as a hint, halved its dividend forecasts to a "sustainable but still attractive" yield of around 6% and cut capex to $5bn by 2018.

It said these measures should be "more than enough to balance the budget even at spot commodity prices".

The bank's medium-term iron ore price forecast of $40 per tonne has now been lowered to $35/t, driven by cost deflation and an increasingly financialised market, while US gas prices have also been cut by $0.5m in the next two years to US$2.5m British thermal units (mmbtu) and $3mmbtu in 2017.

A 50%-or so trimming of earnings forecasts means there is a funding gap on Citi's estimates if the US$6.5b dividend and current planned capex spend is maintained.

This would increase net debt to $30bn by the end of the 2017 financial year and put the "sacrosanct" strong single-A credit rating at risk.

"BHP’s priority for cash flow says capex should be cut to SIB levels of

Noting that capex cuts take longer to flow through and a "yield of ~12% implies that the market already believes the dividend is unsustainable".