Rio Tinto polishes up its act and has a chance to shine

You would think they lived in different worlds, the management of Rio Tinto and those crazy hedge fund speculators who have been pumping money into copper and aluminium futures. The price of the red metal is up 40 per cent since April while spot iron ore prices have soared to more than $100 (?60.5) per tonne, at least a third above the level of the benchmark contracts agreed with Japanese and Korean steelmakers earlier in the year. But the Rio bosses are “cautious” about the rally, suggesting that it is just the China factor with weak OECD demand putting a damper on Beijing’s rampaging stimulus. The Chinese are importing more metal but it is not going back out the door in bumper exports of white goods, yet. Still, Rio ought to be feeling much better — it has raised $15 billion from shareholders and sold some Alcan assets, reducing the horrendous expense of its badly timed purchase of the Canadian aluminium business. It has sorted out its tiff with BHP Billiton, the ambitious suitor, with the offer of an iron ore joint venture in Western Australia. The proposed arrangement should put a lid on the upward creep of costs in the remote Pilbara region by a sharing of infrastructure. At the same time, the two companies are promising they can do this while retaining marketing “independence”, essential to keep the competition authorities at bay. Rio’s chairman even held out the promise of a final dividend (the interim was scrapped), encouraging for those investors who feel bruised by recent events.The only blot on the horizon is China’s wrath over iron ore pricing, but even there the signs are looking a bit better. Chinese rage against the hapless Rio iron ore negotiatiors, accused of espionage and still not released, appears to be waning. There is no formal agreement on a new iron ore contract but, tellingly, Rio has stopped selling large volumes of ore into the spot market, a device it adopted to bolster its case for resisting China’s demand for a much lower price. It now appears to be selling ore at a 33 per cent discount to last year’s contract, in line with Rio’s original offer. Some face-saving formula will need to be agreed but the squabble appears to be moving to a resolution. That does not resolve the puzzle facing investors: is this metal rally sustainable or is it a flash in pan? Earnings were hit in the first half with big losses in aluminium and diamonds while iron ore and copper profits were scythed. But Rio is cutting $1 billion in costs from its aluminium portfolio and the iron ore JV should deliver more cost savings. As important long-term is a huge industry-wide reduction in capital expenditure. Even if demand does not bounce back quickly, the metal pipeline is not expanding greatly. If you have a patient long-cycle view of the market, Rio is interesting. SIG Sheffield Insulation Group (SIG) both supplies the building trade and builds — interiors, roofing and suchlike — so it is no surprise that its share price has fallen 70 per cent over the past year. Profits have dropped into a deep hole, down 68 per cent and since the spring the company has been hacking away at its overheads: more than 2,000 staff have gone after 124 branch closures. Given the depth of this property recession and with half of SIG’s business in the UK and the Irish Republic, the outlook is grim and no one at the company is daring to talk of green shoots. The accent is on turning round the cash outflow and that has been done with a positive first-half inflow of ?79 million as well as the proceeds of April’s equity fundraising of ?325 million. Still, there may be a tiny green shoot in insulation with the UK Government’s renewed efforts to get the nation to line its lofts, fill its wall cavities and generally save the millions of kilowatts of energy that fly out of our leaky homes. Utility companies shirked on the last scheme, preferring to give away free low-energy light bulbs rather than subsidise thousands of pounds of loft insulation. The next scheme, however, will be focused on insulating homes and SIG is the biggest player in the UK market. That won’t be enough to send SIG soaring without a building recovery but SIG’s heavy cost base makes it a geared play on extra revenues. Every little bit helps and it cannot get much worse. ProStrakan Inventing new drugs is expensive and risky, a game for companies with huge balance sheets or for the adventurous capitalist. ProStrakan, floated four years ago, is in neither camp, having ignored the whole business of trying to develop novel molecules during its ten-year life. Instead, it has focused on marketing and drug delivery, or in the words of Wilson Totten, its chief executive, “trying to imagine what it is like to be a patient”. Simply put, it means inventing better ways of getting the drug into the patient. For example, it has developed Sancuso, an established anti-nausea drug for cancer patients but which is delivered through a patch on the skin rather than orally, and Abstral, a formulation of the opiate Fentanyl, which is absorbed beneath the tongue rather than by injection. ProStrakan, led by former executives of Shire Pharmaceutical, is following a similar path and one that does minimise research risk. The company expects to be in profit by the end of the year with several drugs capable of delivering ?100 million in annual sales. This will appeal to investors looking for something safer than the biotech route but if the risks are lower the rewards may be less spectacular as you are betting not on a unique drug but on a delivery mechanism. Still, the company’s cashflow outlook is good and that is reassuring. Buy.