Is South32 finally worth a look after the Alcoa deal?

For most of its life South32 (S32) has looked like a meal thrown together from whatever was left in the fridge, a grab-bag of mid-tier assets spanning aluminium and alumina, manganese, copper, the Hermosa silver-lead-zinc mine, some metallurgical coal and a bit of nickel.

That is more or less what it was built to be after BHP carved out the assets that were too small to move the needle, and what was left was a company nobody was quite sure how to add up.

The recent deal with Alcoa settles that question.

South32 is selling its entire aluminium value chain, minus the Mozal smelter, for an enterprise value of up to US$5.6 billion. Strip out the aluminium and South32 might have its clearest investment case yet, as a producer of copper, silver, zinc and lead, with higher margins and a balance sheet of close to US$4.7 billion net cash once the sale settles.

The Alcoa deal

Alcoa is acquiring assets including Worsley Alumina, Hillside Aluminium, the MRN bauxite mine and South32's Brazil alumina and aluminium interests. The Mozal smelter was excluded, though its divestment is still under consideration.

South32 is set to receive US$5.6 billion, made up of:

• US$3.1 billion in upfront cash

• US$1.0 billion in Alcoa shares

• US$750 million of net debt and lease liabilities that Alcoa takes on

• Up to US$750 million in contingent cash tied to alumina and aluminium prices out to 2030

• Alcoa inherits ~US$1.2 billion of rehabilitation and closure provisions

The deal values the assets at approximately 6.8x through-the-cycle EBITDA and 12.7x average annual free cash flow, which most analysts view as a fair-to-good outcome for a seller exiting a business exposed to high power costs and sovereign risk across several jurisdictions.

Management said an initial US$500 million will be returned via an in-specie fully franked special dividend, with further returns to be considered post-completion.

The deal was well-received by the market, with South32 shares rallying 6.0% on the day.

The June quarter

The production result that landed on Monday (20-Jul) gave the market a clean look at the assets that will define the company after Alcoa. South32 beat group FY26 production guidance and lifted fourth-quarter sales volumes by 15%, lifting the stock 4.6% higher on the day. Every division came in at guidance or better, with aluminium 1% above and alumina in line, Sierra Gorda copper beating by 2%, Cannington beating by 2% and manganese by 2%. In parallel with the quarterly, the Sierra Gorda joint venture approved a fourth grinding line project, which is expected to increase copper equivalent production by 30% from FY31.

Here's what analysts had to say about the quarterly.

• RBC Capital Markets retained Outperform, raised target from $4.60 to $5.30, viewing the aluminium value chain sale as transformational and the Sierra Gorda fourth grinding line approval as accelerating a base metals weighted portfolio backed by a stronger balance sheet.

• JPMorgan retained Overweight, lowered target from $4.60 to $4.50, highlighting the Cannington open pit study, completed Hermosa federal permitting and Ambler Metals growth optionality, offset by Sierra Gorda cost pressures.

• Macquarie retained Neutral, target unchanged at $4.30, pointing to an extended Cannington production profile and strong silver recovery, though Australian manganese guidance was withdrawn on water management issues.

A recent resurgence

South32 is currently on a four-day win streak, up almost 20% and on track to take the title as best-performing large cap miner in terms of year-to-date returns.

The S&P/ASX 200 Materials index experienced a 15% selloff between 17 June and 21 July as commodity prices experienced a broad-based pullback. The sector has only just found its footing, up around 5% in the last three sessions.

South32 vs. Sandfire, BHP and Rio Tinto (Source: TradingView)

The case for a re-rating

Barrenjoey argues that a copper-heavy miner carrying net cash ought to trade at a multiple closer to dedicated base metal peers. The analysts have South32 trading at 4.2x FY28 EV/EBITDA against ASX peers on 4.4-5.4x, and on a price-to-net-present-value ratio of 0.80 it screens cheaper than Capstone Copper at 0.90 and Sandfire Resources at 0.97.

Beyond valuation, the re-rating thesis centres around:

• Higher margins: The exit of the low-margin aluminium and alumina businesses lifts group EBITDA margin from about 35% to about 55% by FY31 on the broker's numbers, and pushing base and precious metals to around 85% of earnings

• Growth already funded: Sierra Gorda's board has approved a fourth grinding line that Barrenjoey expects to lift copper equivalent production by about 30% from FY31. In the US, the Hermosa zinc project cleared its last federal hurdle with a Final Record of Decision on 7 July, keeping first production on track for the second half of FY28

• A clear balance sheet: Barrenjoey models about US$4.7 billion of pro-forma net cash after completion, enough to build both projects with cash to spare

The bottom line – South32 is set to sell its aluminium business at a fair price, and let the margins and net cash do the work. Though the re-rating brokers are calling for still hangs on completing the Alcoa deal in the second half of FY27 and delivering the growth behind it.