Shares ofGlencore(LSE: GLEN) have been decimated over the past six months. The global rout in commodity markets has weighed on the highly leveraged company more than most. Glencores shares have fallen 60% during the past six months excluding dividends.
Such declines are bound to attract value-oriented investors, who are always on the look out for unloved junk. Indeed, I must admit that Ive been tempted to take a position after Glencores recent performance.
However, while Glencore looks cheap now, Im staying away from the company for the following reason.
A classic mistake
Glencore has made one huge, rookie mistake during the past five years. The company ploughed money into its expansion at the top of the commodity supercycle, paying top dollar to acquire then-peer Xstrata.
As any seasoned investor will tell you, the key to successful investing is to buy low and sell high. Unfortunately, as research as shown, most investors tend to do the opposite, buying high and selling low, which erodes wealth and returns over time.
And it seems as if Glencore has fallen into this trap. Only a year after Glencore acquired Xstrata, the company wrote down the value of its acquisition by $10bn. Then, last year Glencore paid $1.6bn for Africa-focused oil producer Caracal Energy. But last month, Glencore revealed that it was writing down the value of Caracal by $790m, as low oil prices weighed on asset values.
Glencore is also selling a number of other assets to try and improve its balance sheet.
The group is being forced to make these sales as part of managements effort to reduce the companys $30bn debt pile. Yesterday, Glencore announced that it was planning to sell thefirms Australian copper mine in Cobar, New South Wales, and its Lomas Bayas copper mine in Chile.
Fire sale
A fire sale is the only way to describe Glencores decision sell these assets. Since the beginning of 2011 the price of copper has fallen by 47% and now sits at a six-year low. So Glencore really is selling low.
A recent sale by Anglo American shows what sort losses Glencore could be facing by selling these assets at the bottom of the cycle.Anglo American recently sold its Mantoverde and Mantos Blancos mines in Chile for $300m, rising to $500mif the copper price goes up. Thats an uplift in value of 67%.
Its a trap
One of the most difficult parts of value investing is avoiding value traps.
However, value traps are difficult to spot and finding them isnt an exact science. More often than not, investors find themselves being sucked into a value trap without realising it.
Still, value traps usually exhibit three key traits, one of which is the destruction of shareholder value through the misallocation of capital and poorly timed acquisitions. Its pretty clear that Glencore is guilty of this.
Whats more, with a $30bn debt overhang the company might be forced to sell off more assets at rock-bottom prices to appease creditors.Although it should be said, Glencorescreditors have reassured shareholders that they arent planning to pull the plug on the company anytime soon. Nevertheless, in this market nothing is certain.
Overall, it could be wise to stay away from Glencore for the time being.
Don’t take my word for it
Don’t just take my word for it.I strongly recommend that you do your own research before making a trading decision — you may come to a different conclusion.
To help you assess Glencore for yourself, our top analysts have put togetherthis new report entitled,“How YouCould Retire Seriously Rich“.
This is a new report from The Motley Foolthattakes you throughthe seven essential steps you need to take to become a stock market millionaire.
What’s more,thereport fromexplainshow spending just 20 minutes a month could help you create a portfolio that could bring you closer to financial freedomfor life.
Click hereto check out the report–it’s completely free and comeswith nofurther obligation.
Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.