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Is Freeport-McMoRan’s 2016 Guidance Realistic this Time?

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Freeport-McMoRan’s 2016 guidance

When market conditions are challenging, it becomes crucial for companies to generate free cash flows. Generating negative free cash flows leads to cash burn. As a result, companies might have to borrow to fund the deficit. Unfortunately, Freeport-McMoRan’s (FCX) already stretched balance sheet doesn’t give it the privilege to raise more debt. Generating negative cash flows would be the last thing Freeport-McMoRan can afford under the current market scenario.

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Free cash flows

Freeport-McMoRan (FCX) expects to generate positive free cash flows of $600 million in 2016. In contrast, the company gave guidance of $2.8 billion in free cash flows during its 3Q15 earnings conference call. The company had stated that it plans to use this cash to repay some of its debt and pay dividends. However, falling commodity prices have changed the equation.

Other commodity producers—including BHP Billiton (BHP), Glencore (GLNCY), and Southern Copper (SCCO)—are also negatively affected by the severe correction in commodity prices. You can look at the recent correction in copper prices in the chart above. Investors can also consider the Materials Select Sector SPDR ETF (XLB) to get diversified exposure to the materials sector. Currently, Freeport-McMoRan forms 1.7% of XLB’s portfolio.

Assumptions

It’s important to note that Freeport-McMoRan’s estimates are based on several assumptions. For instance, in its previous guidance, the company had assumed copper prices would average $2.40 per pound in 2016 while Brent would average $54 per barrel. As these commodities’ prices are currently far below FCX’s assumption, the company has prudently revised its 2016 cash flow guidance. Now, Freeport-McMoRan has assumed copper at $2 per pound and Brent at $45 per barrel in arriving at its 2016 cash flow guidance. These assumptions look much more realistic than its previous assumptions.

Whether Freeport-McMoRan will be able to generate positive free cash flows in 2016 will ultimately boil down to commodity prices. The big question will be whether copper and energy prices have bottomed at these levels or whether there’s more downside ahead. For now, copper seems to have stabilized at $2 per pound. Having said that, there looks to be no early recovery ahead for copper prices. Instead, copper producers are streamlining their operations, assuming copper prices could stay at these levels for a while.

You can read Why is Copper Falling to New 2015 Lows? to explore what factors are driving down copper prices.

In the next part of this series, we’ll look at some of the strategic steps Freeport-McMoRan is taking.

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