Vale, the world’s biggest iron ore miner, and Fortescue Metals Group have forged an agreement aimed at boosting their competitiveness in the key market of China, and giving the Brazilian company a foothold in the ore-rich Australian Pilbara region.
The miners said on Tuesday that they proposed to form one or more joint ventures for blending and distribution of iron ore in China, a move that would ratchet up competition with Anglo-Australian rivals Rio Tinto and BHP Billiton, the number two and three producers of the steelmaking ingredient.
The memorandum of understanding also provides a framework for potential investment by Vale in current or future mining assets held by FMG, although the terms are non-binding and subject to the approval of both company’s boards and regulators.The agreement, which is the result of year-long negotiations, provides the potential for Brazil-based Vale to buy a minority stake on the market of up to 15 per cent in FMG, the Australian company that is the world’s number four producer of iron ore.
“We are looking more than 10 years ahead,” said Peter Poppinga, head of Vale's iron ore business. “The memorandum of understanding is one more important step towards optimising Vale’s supply chain, creating new platforms for future mine development and offering a new world-class alternative product to the Chinese steel industry.”
Shares in FMG, which has struggled to reduce its US$8.4bn debt pile as iron ore prices have slumped, rallied 24 per cent on Monday to close at A$3.08 a day ahead of the announcement. However, the stock fluctuated between gains and losses on Tuesday before closing down 9.4 per cent in Sydney following a brief suspension during which FMG provided further detail in a statement to the ASX.
In a conference call, Nev Power, FMG chief executive, said Monday’s surge was not caused by the leaking of the Vale deal but more likely a response to a spike in iron prices over recent days.
The ASX has formally written to FMG to ask for clarification on the circumstances surrounding the company’s announcement, and what it knew when, according to a person familiar with the matter.
Mr Power said the two companies would aim to blend between 80m and 100m tonnes of their iron ore per year at Chinese ports to create a premium product specifically designed to meet the requirements of Chinese customers.
Blending of different grades of iron ore can produce a mix that is better suited to use in blast furnaces than the product of a single company's mines. FMG produces ore that is comparatively low in iron content and therefore usually sold at a discount to the main iron ore benchmark price.
Mr Power said he did not envisage a purchase of a minority stake in FMG by Vale as a precursor to a full takeover.
“This allows Vale to diversify its investment outside Brazil,” he said.
Citi said that in the short term the agreement was about getting the best prices for Vale’s high-grade ore and FMG’s low-grade product. “Long term, this could be viewed as the first step of a more disciplined approach to iron ore supply by aligning two of the big-four,” said Citi analyst Clarke Wilkins.
Mr Wilkins added that there may be regulatory implications in China, but Mr Power said he did not anticipate any regulatory hurdles.
A tie-up between Vale and FMG would be a significant step in partial consolidation of the iron ore market. Rio and BHP abandoned an attempt at creating an iron ore joint venture in Western Australia in 2010, citing likely regulatory opposition.
Iron ore prices have risen sharply in recent days but the main trend over the past two years has been a steady fall as lower demand from China has coincided with a big increase in supply from the large Australian producers.
However, iron ore remains the main earner for Vale, Rio and BHP, and any sustained rally in the price could add hundreds of millions of dollars to each company's annual profits.