Anglo pumping iron but cost issues weigh

[miningmx.com] – THERE remains some scepticism around Anglo American’s $8.4bn Minas-Rio, an iron ore mine in the hilly Brazilian province of Minas Gerais, which uses a single umbilical pipe to send an iron-rich slurry 529km to its own dedicated iron ore terminal.

Investec Securities went so far as to suggest that Anglo sell its iron ore assets, which include its wholly owned Minas-Rio mine, pipeline, and 50% stake in the terminal, as well as its 70% stake in Kumba Iron Ore, the largest producer in South Africa of the key ingredient to make steel.

Another analyst has described Minas-Rio, with its resource of 5.3 billion tonnes, as a mine that should never have been built, telling Business Day that the purchase and capital cost for a project that would deliver 26.5 million tonnes (mt) of ore a year was twice the price needed to build an iron ore mine in Australia.

The timing for the first deliveries of iron ore and the ramp up to steady-state production in 2017 could hardly have been worse, with the iron ore price halving since the start of last year and with questions now being raised about how long the marginal, higher cost miners can withstand the onslaught on their balance sheets and that they may be winnowed out of the market altogether.

Amid a glut of ore as the four-major producers muscle their way into expanded low-cost production, which will thin out the pack of smaller iron ore miners who have higher costs and in some cases poorer quality ore, China’s demand for feedstock for its enormous steel industry has slowed in line with cooling economic growth.

Investec argued that it would not be an ideal market to sell iron ore projects, but the two assets are potentially a loaded gun if iron ore prices reverse gains from a decade-low of $42/tonne reached in April this year.

“Even in today’s depressed environment, we argue that an exit from iron ore might still offer the best value for Anglo American shareholders,” Investec said. “The division presents a risk to the group if iron-ore prices slip back.”

Anglo officials dismissed the report, saying that there appeared nothing left for analysts to say about the market or Anglo’s iron ore assets, and that it had no intention of disposing of any iron ore mines, let alone Minas-Rio, which the company has nurtured through a number of misses on timing and budget.

The Minas-Rio mine is far too small in its current iteration to move the dial in the global iron ore market, despite the quality management suggests sets it apart and will command a premium in the market.

The world’s two lowest-cost and largest-producers BHP Billiton and Rio Tinto could together generate more than 900mt of iron ore a year within a decade, meeting about 70% of global demand, Citi analysts said in a recent report in which they downgraded their long-term expectation – up to 2025 – of the iron ore price to $55/t from $81/t.

“Combining our estimates of required sustaining operating costs for existing mines and incentive costs for new projects, we derive a price of $55/t, which lies around the cut-off for much of the second supply tier,” Citi said.

“This price should be sufficient to compensate for operational cash costs, freight to the nearest market and generate cash for sustaining capex within this tier.

However, it will discourage many planned projects, particularly smaller players in Brazil. Vale’s expansion projects will be marginal but still likely to move forward as it will be making operating profits on a blended basis.”

Even in today’s depressed environment, we argue that an exit from iron ore might still offer the best value for Anglo American shareholders

For this year, however, Citi dropped its average price expectation to $37/t, rising marginally to $40/t next year, a level around which it will hover for the next two years. This is a sharp decline from its forecasts of $58/t this year, and $62/t and $73/t for the next two years respectively.

All that said, Paulo Castellari, the CEO of Anglo’s iron ore business in Brazil, argued the long-life project, which will deliver pellet-feed ore with a 68% iron content and low contaminants to the Açu Port for between $33 and $35/t fetches a premium in the market, setting Minas-Rio apart from the bulk of its peers.

The pressure is on him and his team to deliver as much ore as possible to generate revenue and offset the $60/t cost Minas-Rio is currently running at, meaning the mine is barely profitable in an environment where 62% iron ore is fetching about $62/t.

OPTIONS

While there are plans to get output to 29mt by 2020, the larger and more ambitious scheme to get to 90mt has clearly been dialled back, and under the penny-watching management of Anglo CEO Mark Cutifani, it is unlikely that Minas-Rio, at which the capital cost roughly trebled and the deadlines revised, would be in the front of the queue when it came to fresh injections of expansion capital.

One of the options for Anglo to consider if it ever pulls the trigger on more than trebling output could be railing ore to the port.

Its equal partner at the Açu Port, Prumo Global Logistics, speaks on its website of a Brazilian federal government logistics investment plan that would have a railway line running through Conceiçao do Mato Dentro, a town close to Minas-Rio.

“This section will make it possible to connect Açu Port to Brazil’s Central Western region, in addition to part of the south-east, creating a new route for exporting several products, primarily grain and iron ore,’ Prumo said.

Anglo spokespeople in both Brazil and London have declined any comment on the railway option. An Anglo official said: “The route they are talking about is a very long way over difficult terrain and sounds like an ambitious project.”

Asked why Anglo hadn’t opted for rail, Pedro Borrego, a director at Anglo’s Brazilian business, said that the difficulties of securing land rights and permissions for rail would be exponentially higher than the difficulties Anglo had in securing permission from more than 1,500 landowners for the pipeline which is mostly underground and non-invasive or dangerous to communities through which it passes.

One of the most closely watched metrics in Anglo is its net debt level, which has been crawling steadily higher. Anglo reported net debt of $12.9bn at the end of last year.

Anglo’s CFO, Rene Medori, has said that net debt should peak this year at between $13.5bn and $14bn, provided Anglo was able to dispose of its 50% stake in the Lafarge joint venture. Completion of large projects, like Minas Rio, will see capital expenditure in Anglo falling sharply from a forecast maximum of $5.5bn this year to $3.3bn in two years from now.

Castellari said that there was about $800m more to spend, bringing expenditure on the project to $8.4bn, about $400m under budget.

Project discipline at Minas-Rio is absolutely core in this ramp-up period as the project vaults from between 11mt and 14mt of ore this year at a delivered cost to the port of $60/t to a range of 24mt and 26mt next year before hitting steady state output of 26.5mt the year after.