Over the weekend, Business Day published a nice backgrounder on FMG and its perennial stalker, Jim Chanos:
A year on from that spectacular liquidity crisis, and Forrest’s first wish already seems to have been achieved. Fortescue is enjoying an Indian summer of sorts on the back of unexpected strength in the iron ore price.
The company is leaner in terms of total iron ore production costs, which are already about 25 per cent lower than the same time last year thanks to some new low-cost mines bringing down the average across the company.
Fortescue’s export volumes are 40 per cent stronger, growing the revenue pile by 21 per cent in the 2013 financial year.
All expansion projects have resumed, and the spend on growing iron ore production rates from 55 million tonnes to 155 million tonnes annually will be complete by December, a year earlier than originally planned.
”All those things in combination have given us a lot more strength,” said Fortescue boss Nev Power this week. ”We are definitely a fitter and stronger company today than we were 12 months ago.”
But Forrest’s second wish – to turn Fortescue into a ”multi-generational business” – remains unfulfilled, and if it is to be achieved, the iron ore miner will have to thrive between a rock and a hard place. Fortescue has about $US12 billion of gross debt sitting just beyond the horizon, and will have to repay that over a nine-year period in which iron ore prices are universally tipped to decline.
Fortescue’s highest-profile critic, New York hedge fund manager Jim Chanos, believes that combination of factors could create a ”witches’ brew” that brings Fortescue to its knees.
”This is a company that has made a one-way bet on one commodity,” he told Fairfax Media this month in a rare interview. ”The iron ore miners have made a big bet that demand is going to continue increasing meaningfully in China.”
Arranged by JPMorgan and Credit Suisse during the height of last year’s crisis, Fortescue’s debt was structured to give the company a three-year repayment holiday before the first $US2 billion worth of unsecured notes fall due around November 2015.
But once the repayments start, things get rather hectic for the company that calls itself the ”third force” in iron ore; more than $US9 billion falls due in a three-year period ending in June 2018.
The biggest slug comes in the second half of 2017, when a $US5 billion credit facility matures.
The schedule is rounded out with $US1.5 billion worth of notes due to be repaid in 2019 and a further $US1 billion in 2022.
”If you have a fair bit of debt like that, it’s pretty good for focusing your attention,” quips Ian Burston, who served on the Fortescue board between 2008 and 2011.
Initially, many members of the local investment community believed Fortescue would have to sell crucial assets, such as a stake in its port and rail infrastructure, to raise the billions of dollars needed.
”We continue to believe that Fortescue is over-geared and that asset sales will be required to reduce longer-term funding risk. We maintain our sell rating,” said former CLSA analyst Hayden Bairstow in a note to clients after Fortescue restructured its debt last September.
But gradually the sentiment turned, helped by a strong rally in the iron ore price over summer and strong production in the Pilbara. A 10 per cent easing of the Australian dollar further helped Fortescue’s cause.
By the time Fortescue’s full-year results were published last month – showing a $US1.74 billion profit for fiscal 2013, plus the promise of 65 per cent more iron ore production in fiscal 2014 – there was almost unanimous belief that Fortescue could not only meet its debt obligations, but do so without selling down assets.
Citi analyst Clarke Wilkins says confidence really firmed around mid-August, when Fortescue earned $US500 million upfront – along with some other bells and whistles – by selling down a stake in some mostly forgotten magnetite assets to Taiwanese steel maker Formosa.
…About $US7.7 billion of Fortescue’s debt can be repaid early, and Fortescue confirmed this week that the first of it – $140 million worth of preference shares – would be repaid on November 11.
”Just meeting the maturities is not going to be enough for the market, the market wants them to repay it ahead of schedule, which is certainly what they intend to do,” says Wilkins.
The fabulous thing about FMG’s over-leverage is that it makes it an even more pure play on the iron ore price than its production dictates.
My own view it that the iron ore deluge is real and will undermine the price over the next twelve months. After FMG’s stellar cost cutting efforts, this in itself probably won’t be enough to threaten the company. But I also reckon China will return to the rebalancing question next year so iron ore will likely come under renewed demand pressure as well some time in 2014. Once the oversupply gains the upper hand (ala coking coal), I can see a steady decline to $60 or so before a rebound to a long term price at $80.
And that’s before we add in Roy Hill. The AFR this morning reveals that Gina Rinehart’s baby project has begun doling out some serious cash rather suggesting the project is going to go ahead:
Gina Rinehart’s Hancock Prospecting is increasingly confident of completing the $7 billion debt funding necessary to develop its Roy Hill iron ore mine by the end of the year after handing out at least $2.37 billion worth of contracts in the past month.
“We continue to make good progress on the debt front. The interest level is high and the feedback remains positive.” said Darryl Hockey, a spokesperson for Roy Hill.
“Roy Hill’s equity partners continue to provide sufficient funds to ensure the project moves strongly through the early development stage.”
A flurry of contracts has been awarded on Roy Hill in recent weeks as Hancock anticipates securing enough financing to develop the giant iron ore mine, which has more than 2.4 billion tonnes of iron ore resources.
Good on Gina for going ahead. I assume the banks will all have personally guaranteed loans because this is going to be very disruptive to iron ore markets adding 55 million tonnes in 2015 amid an already epic oversupply.
I can’t see how both Gina and Andrew can both prosper.
