It’s customary for companies reporting a horror-show result to blame the general trading environment, rather than anything within control of management.
Commodities trader Noble Group Ltd. is no exception. In declaring that it had been holed below the waterline with a $1.9 billion net loss over the June quarter, the company declared the problem was not with the crew, but the weather:
The operating environment continues to be difficult for the Group, in particular following the announcement of a loss for the three months ended 31 March 2017, as well as the ongoing challenges in the commodities’ sector.
One has to ask: What ongoing challenges? Just a few hours earlier, Noble’s distant corporate cousin Glencore Plc announced a more than four-fold jump in first-half adjusted Ebit and its lowest net debt levels in five years.
A week earlier Rio Tinto Group announced a $3 billion dividend and share buyback. Thermal coal in Newcastle has averaged $82 a metric ton over the past year, compared to $58 a ton over the previous two, and the Bloomberg Commodities Industrial Metals sub-index Thursday touched its highest level since 2015.
Nonetheless, the challenges in this instance are real. Better prices are great news if you’re a producer of commodities and a minor inconvenience if, like Glencore, you’re a trader with a decent balance sheet to fall back on. For Noble, they could be an existential threat.
The yield on Noble’s 6.75% 2020 bonds is running at 56%
To see why, consider the commodity trader’s business model. To finance a ship carrying 100,000 tons of coal at $50 a ton, you need a roughly $5 million credit line just for the cargo. When coal prices climb — say to the eight-month high of $93 a ton, where they’re sitting right now — the credit line has to expand as well, to the region of $9.3 million.
If you’re producing commodities, rising prices will improve your margin, but traders are mostly buying from third parties instead. As a result, the main effect of better prices is to require a larger sum of credit to produce the same amount of profit.
That’s a problem for a business like Noble, which is rapidly losing what faith its lenders still have in it. Take the latest performance in the oil liquids business, which management are trying to offload. Volumes fell 20 percent “on higher prices within the constrained liquidity environment,” Noble said Thursday. The metals unit suffered for similar reasons.
Despite asset sales and bond offerings, Noble’s available liquidity keeps tightening
Source: Company reports
There’s little sign of that letting up any time soon. Liquidity headroom, as defined by the company, fell by $1 billion in three months, largely as a result of maturing credit facilities. The $1.4 billion Noble had to invest in profitable trading opportunities as of the end of June is barely a quarter of what it had at its disposal four years earlier.
Liquidity is only one rotten plank in Noble’s creaking ship. The underlying business seems incapable of posting consistently positive operating cash, and the $1.3 billion writedown of its hard-to-value contracts confirms many of the worst things its critics have said about marking its assets to models, rather than markets. Even on the underlying basis, the pace of the June quarter’s $459 million loss would burn through the remaining $2.1 billion in shareholder equity in another 12 months.
Still, the threadbare state of Noble’s balance sheet has left it in a situation where no news in the commodity markets is good news. Should commodity prices continue their current rally, no one in its Hong Kong headquarters will be celebrating. Better markets could be the straw that breaks this camel’s back.
Peter Grauer, the chairman of Bloomberg LP, is a senior independent non–executive director at Glencore.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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