Sumitomo Losses Prompt Biggest Drop Since ’96 Copper Scandal

By Yuriy Humber

Sumitomo Corp. (8053) shares posted their biggest fall in almost two decades after the Japanese trading house said it lost $2.2 billion on investments including Texas shale oil and Australian coal mining.
The 12 percent drop is the most since June 1996, the month Sumitomo announced its chief copper trader Yasuo Hamanaka had lost about $2.6 billion in illicit trades of the metal in one of the largest commodity-trading scandals.
Sumitomo’s writedown could see it slash its second-half dividend to a fifth of the payout it forecast in May, according to Nomura Holdings Inc., as one of Japan’s oldest traders hunkers down after another miscue in its resources investments. Chief Executive Officer Kuniharu Nakamura had said in May that Sumitomo planned more forays into commodity assets.
“Japanese trading houses often overpay in
acquisitions or minority investments on the basis that they can borrow cheaply and make money on the trading,” said Vincent Poizat, formerly an investment banker in Tokyo, who used to advise the firms on commodity assets. When raw material prices slump and trading margins tighten “the whole thing quickly becomes uneconomic”.
“I expect more to come,” Poizat, now a managing director at Asia Principal Partners Pte in Singapore, said, referring to the commodity portfolios of Sumitomo’s domestic rivals.
Sumitomo cut its annual profit forecast by 96 percent to 10 billion yen after writing down the shale oil project it shares with Devon Energy Corp. (DVN) in the U.S. by 170 billion yen ($1.55 billion) and its Australian Isaac Plains coal mine, co-owned with Vale SA. (VALE), by 30 billion yen.

Least Profit

The Tokyo-based company, which traces its roots to copper refining in the early 17th century, has struggled to keep pace with domestic rivals such as Mitsubishi Corp. (8058) Its resource units have failed to meet profit targets and a key $5.3 billion nickel project in Madagascar is over budget after missing deadlines.
Of Japan’s five major traders, Sumitomo reaped the least profit -- 7 percent, or 15.6 billion yen -- from commodities in the last fiscal year.
Sumitomo also said yesterday it would take charges on the value of iron ore investments in Brazil and its U.S. tire business. Including a positive tax impact from the writedowns, the company’s total impairment will be $2.2 billion, it said.
The writedowns could reduce the company’s dividend for the six months ending March 31 to 5 yen per share from 25 yen, according to a Nomura research note yesterday.

‘Unfavorable View’

“We take an unfavorable view of the company’s reduced capacity for making shareholder returns,” Yasuhiro Narita, an analyst with Nomura based in Tokyo, said in the report. The impairments will cut Sumitomo’s equity by about 10 percent, he said.
A Sumitomo spokeswoman said she could not immediately answer questions on the writedowns, asking not to be named in line with corporate policy.
The biggest disappointment for investors was Sumitomo’s decision to review its dividends, not so much the writedowns themselves, which would be one-off accounting items that don’t significantly hurt cash generation, said Kazuhisa Mori, an analyst with JPMorgan Chase & Co. in Tokyo. Sumitomo should still be able to generate 250 billion yen in profit this year before writedowns, he said.
“They had put a first priority on investing, rather than on shareholder returns, and as a result of that they failed,” Mori said. “That’s OK, but they should pay the shareholders, to compensate them for their patience.”

Slumping Coal

Sumitomo blamed Isaac Plains for a slide in its profit in the fiscal year ended March 31, saying it needed to write down the investment by 27.7 billion yen due to slumping coal prices. Yesterday’s announcement takes the total impairment on the mine to $528 million, more than what Sumitomo paid for it in 2012.
Sumitomo CEO Nakamura said yesterday the company will review its earlier plans to increase investments in natural resources. The losses are particularly unfavorable as Sumitomo’s management did not view the U.S. oil assets as an impairment loss risk, according to Nomura’s Narita.
The trader’s stock fell 12 percent to 1,210.50 yen at the close in Tokyo. It fell over 16 percent in the aftermath of the Hamanaka scandal.
Sumitomo dragged down other Japanese traders, with Mitsubishi down 2.9 percent and Mitsui & Co. (8031), Japan’s second-largest trader, down 2.2 percent. Itochu Corp. (8001) fell 3.4 percent and Marubeni Corp. (8002) 3.6 percent. The benchmark Topix index declined 0.8 percent today.
More Losses?
“Most investors are surprised at the scale of the losses and are moving their attention to other trading companies to watch out for any possibility of them recording huge losses,” Mori said.
Sumitomo said it will form a special committee to investigate the causes of the impairments, while CEO Nakamura said there wouldn’t be any more writedowns “unless we see a sharp drop in resources prices.”
Despite the fall in commodity prices in the last two years, investors have recently begun favoring Japan’s trading companies after the companies promised higher dividends and the top three announced stock buybacks.
Itochu, which surpassed Sumitomo by profit last year to become Japan’s third-largest trader, does not expect any writedowns in its commodity businesses or changes to its dividends after Sumitomo’s announcement, said a spokesman, who asked not to be named in line with corporate policy.

Extraction Difficulties

A Mitsui spokesman and a spokeswoman at Marubeni, who both asked not to be named in line with their companies’ policies, said separately by phone that the firms were continuously assessing market conditions and didn’t expect to make any writedowns in the near future or to change their policy on dividends.
To cope with a downturn in coal prices, Marubeni is engaged in cutting costs at its mining assets, the spokeswoman said. A Mitsubishi spokeswoman didn’t immediately return a call seeking comment on potential writedowns.
Sumitomo plans to sell the northern part of the shale project it shares with Devon Energy, citing difficulties in extracting the oil and gas efficiently.
The company in August 2012 said it was investing about $2 billion in Texas shale fields via the purchase of a stake in the assets from operator Devon Energy. Sumitomo agreed to pay Oklahoma City-based Devon $340 million in cash for 30 percent of the project, located in the Permian Basin, the biggest oil resource in North America.