What is the Australian Mining tax and how is Gujarat NRE Coke affected by it?

During question hour in one of the popular business channels today, a viewer asked whether he should buy the Gujarat NRE Coke stock. One of the anchors enquired why he had chosen this particular stock. The answer was enlightening: "It is a good company".

Both the fundamental and technical analysts in the show seemed positive about the stock with a long-term view - more so because the dark cloud of the Australian Mining tax had apparently lifted. The stock had already perked-up on the news. (So did many global mining stocks today.)

Mining stocks are not within my 'Circle of Competence', and I have never invested in them. A friend had strongly recommended the Sesa Goa stock many years ago, and I would have become rich had I listened to his advice.

But I have learned from Warren Buffett - who studiously avoided tech stocks during the dot.com boom - that investors should only buy businesses that they know something about.

Anyway, I was intrigued and decided to do a little digging. This is what I discovered.

Kevin Rudd, the erstwhile Labour Party Prime Minister of Australia had announced last month that he proposed to introduce a Resource Super Profit Tax of 40% on mining companies. Why?

Thanks to the huge, unsatiated Chinese demand for commodities, top mining outfits like BHP Billiton (60% Aussie owned) and Rio Tinto (30% Aussie owned) were making bumper profits from their Australian mines. Australians were not benefitting much because these foreign-owned companies were repatriating their profits overseas.

'Super' profits meant any profits above the long-term Australian Government bond rate of 6%. So any excess profit above 6% was proposed to be taxed at the rate of 40%. Needless to say, the mining companies were up in arms and started lobbying against the tax and threatened to take their business elsewhere.

The adverse publicity and pressure forced Kevin Rudd to resign, as elections are around the corner. The new incumbent, Julia Gillard, is the first female prime Minister in Australia. She opened the door to negotiations with the mining companies without abolishing the proposed tax - which will come into effect from July 2012.

Whether the tax proposal is changed or remain unaltered, the balance sheets of mining companies will get affected only from 2013. There will be no effect for the next two years.

Does this 'positive' news for mining stocks worldwide and Gujarat NRE Coke in particular warrant today's price rise? There is no proposal to remove the tax - only an offer to negotiate, which could lead to a possible reduction in the rate.

Gujarat NRE Coke has a mining subsidiary listed in the Australian stock market. I am not sure how much profit it makes, or whether it makes any profits at all. The company itself can hardly be termed 'a good company'!

At today's closing price of Rs 65, the stock is trading at a P/E of 62.5! The company has bloated equity, debt of Rs 1328 Crores, debt/equity ratio of 1.12, negative cash flows from operations in three of the last five years, net margin and RoE in single digits.

Technically, the 50 day EMA is below the 200 day EMA and the stock is trading below both its medium-term and long-term moving averages. The stock is weak fundamentally and technically. Just the kind of stock from which small investors should stay miles away.

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