Brazil miner CVRD agrees to 2007 prices with China's Baoshan
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Last Update: 10:59 AM ET Dec 21, 2006
(Adds additional details, background, analyst comments)
By Jeff Fick
Of DOW JONES NEWSWIRES
SAO PAULO (MarketWatch) -- Brazilian mining giant Companhia Vale do Rio Doce (RIO), or CVRD, has once again taken the lead in iron ore price talks, closing a key deal Thursday that should leave the company's bottom line well positioned for 2007.
CVRD, the world's largest producer and exporter of iron ore and iron pellets, said it has agreed to a 9.5% increase in prices for 2007 with Chinese steelmaker Shanghai Baoshan Iron & Steel Co. (600019.SH), or Baosteel.
The deal is expected to serve as the benchmark for remaining negotiations between global miners and steelmakers, continuing the recent stunning rise in commodity metals. Traditionally, the first price accord reached with a major European or Asian steelmaker serves as the benchmark for the rest of the industry.
For CVRD, maintaining the upward trend in iron ore prices means a likely continuation to the string of record-setting profit numbers reported by the company in recent quarters.
"I haven't run all the numbers yet, because this year you also have to include the Inco acquisition this year, but (the increase) will be very positive for CVRD given that 65% of its revenues come from iron ore," said an analyst with a major Sao Paulo-based bank who declined to be identified.
According to a recent research report from Merrill Lynch, each 5% change in iron ore prices results in a 4% swing to earnings per share. Merrill Lynch estimates that a 10% increase to 2007 iron ore prices would mean free cash flow of $3.5 billion for CVRD next year. In addition, earnings before interest, taxes, depreciation and amortization, or Ebitda, was forecast at $13.78 billion in 2007.
The 2007 price not only adds to CVRD's bottom line, it also offsets the recent appreciation of the Brazilian real against the U.S. dollar, the Sao Paulo bank analyst said.
"With this increase, CVRD compensates for the foreign-exchange rate and gains a little," the analyst said.
CVRD sells iron ore in dollars, but its costs are fixed in reals. As the real strengthens against the dollar, the company loses when it repatriates dollars and its costs rise.
So far in 2006, the real has gained more than 7% against the dollar. That follows a 14.2% gain in 2005.
"The prices for 2007 reflect conditions in the global iron ore market and were reached with unprecedented speed, the result of extremely professional negotiations," CVRD said in the statement.
The 9.5% increase is at the top end of market expectations, with most analysts forecasting a rise of between 5% and 10% in 2007 price talks. Iron ore prices climbed 19% in 2006, after a staggering 72% gain in 2005.
"The announcement is very positive for CVRD, and it comes in above my expectations, which called for an increase of between 3.5% and 5%," said Cristiane Vianna, an analyst with Rio de Janeiro-based brokerage Agora Senior.
Investors cheered the news, sending CVRD's locally traded shares 0.3% higher at 53.30 Brazilian reals ($24.68) in early trading on the Brazilian Stock Exchange, or Bovespa, outpacing the broader market as measured by the Ibovespa benchmark stocks index, which was off 0.6% at 43,230 points. In New York, where CVRD lists American depositary receipts, the shares were trading at $29.34, up 0.28%.
"Another important point is the timing of the announcement of the deal, which was much earlier than previously," said Agora Senior's Vianna. "That shows that China is worried about raw material supplies."
The agreement with Baosteel also brings to an early close what had been expected to be rancorous talks with Chinese steelmakers. In 2006 talks, Chinese steelmakers were upset by their inability to use their position as the world's largest iron ore consumers to influence negotiations.
Chinese steelmakers held out until June in 2006 before accepting the 19% increase reached in deals between CVRD and global steelmakers Arcelor (5786.FR), Mittal Steel (MT), South Korean steelmaking giant Pohang Steel Corp. (PKX), or Posco, German steelmaker ThyssenKrupp AG (TKA.XE), Italian steelmaker ILVA SpA and Japanese steelmakers.
Ahead of the 2007 negotiations, Chinese steelmakers and industry officials had pushed for a drop in iron ore prices from global steelmakers. CVRD and counterparts Australian mining company BHP Billiton (BHP) and Rio Tinto (RTP) control 70% of the seaborne iron ore market.
However, China's ravenous appetite for steel and low-quality iron ore has driven imports of the key steelmaking ingredient to record levels.
CVRD said last week that its iron ore exports to China were up 40% year-to-date through November compared with last year. According to the company, Brazil is now the leading iron ore supplier to China, topping Australia and India.
CVRD expects to close 2006 with iron ore production of 263 million metric tons, climbing to 300 million metric tons in 2007.
Earlier Thursday, the China Iron & Steel Association said that it expects the country to import 354 million metric tons of iron ore in 2007, up 11% from 2006. China's old mines are unable to keep up with local demand, despite forecasts for production to rise to 772 million metric tons in 2007, up from 644 million tons expected this year.
However, the poor quality of Chinese ore requires enrichment with Brazilian ore in order to meet steelmaking requirements. Chinese ore contains an iron content of between 18% and 20%, compared with Brazilian ore's iron content of more than 60%.
(Rogerio Jelmayer in Sao Paulo contributed to this story)