Killing the Iron Ore Goose?

A big test for the continuing resources boom’s volatility is the outcome of the new iron ore pricing talks. Will it be another hefty hike after last year’s 71%? Will it be in the range of 15–25% as some pundits suggest? Or will the producers and the steel mills agree to a rollover with perhaps CPI indexing?

The new pricing decision was reportedly going to take effect from April 1 but there is now speculation it might come later, given that there is strident opposition from the Chinese with, undoubtedly, an accord from the Japanese steel mills.

In horse racing, any protest that takes extra time has a good chance of being upheld, but the iron ore trade has few analogies with the gee gees.

The problem is that if iron ore producers do gain a substantial price increase then there may be some serious challenges ahead in dealing with the Chinese. This could either see some backroom moves that may later rebound on the Australian mining sector or a more concerted push by Chinese companies to get major equity in Australian companies or in the projects.

The latter scenario was shown last year when a central government entity intervened in what Fortescue Metals Group saw as ore contracts, saying they were not binding and then sought to negotiate an 80% stake in the planned Pilbara iron ore mines. As it stands a Fortescue subsidiary, The Pilbara Infrastructure, will manage and own the yet-to-be-built railway and stacking and shipping facilities at Port Hedland, which is an inventive way of raising up to $600 million of the total $1 billion-plus cost and allow the consumer to be a participant.

There are three big iron ore miners who dominate one side of the table '” Rio Tinto, BHP Billiton and Brazil’s Companhia Vale do Rio Doce (CVRD). Although there significant mid-tier producers such as South Africa’s Kumba Resources (controlled by Anglo American) it is only the big three that count in negotiations: they are the ones that can turn on the tap to lift production and they have the steel mill ore specifications down to a tee.

Posturing by the Chinese went up a cog in the past week. The Government and its steelmakers and users have voiced their stance on affordable iron ore. The Chinese Ministry of Commerce and the National development and Reform Commission told Asian Metals that Chinese steel and iron enterprises were facing many problems and could not accept another price rise.

The Government also criticised some multinational ore suppliers for “taking advantage of their monopolies and accumulating unreasonably high profits”.

The influential Business Week magazine quoted the Chinese Government as saying it won’t interfere in price talks while re-emphasising that Chinese companies could not afford another rise.

Last year, China’s iron ore imports from Western Australia’s Pilbara region and from Brazil soared to 275 million tonnes, which Business Week said represented about 43% of world production.

The magazine quoted Andy Xie, an economist with Morgan Stanley in Hong Kong, who described recent Chinese utterances as being “the first step to limit commodity prices”, and that China would develop a comprehensive strategy to deal with commodity prices.

One Australian observer of the global commodities scene separately made identical comments to this writer. Andrew Simpson, of Perth-based Resources & Technology Marketing Services, said there were big misconceptions about where China has got to in its great leap forward in terms of steelmaking, and at this stage that industry was not financially strong and was feeling the effects of last year’s 71% price lift.

Simpson is a non-executive director of Perth-based Consolidated Minerals Ltd (ConsMins), a profitable miner of manganese and chromite in the Pilbara and nickel in Kambalda, with aspirations of joining the growing ranks of new WA iron ore miners.

Unlike the rump of iron ore mining hopefuls, ConsMins doesn’t see itself going solo or doing it as a cooperative (as is planned by companies in the WA’s mid-west) '” it sees development of its Mindy Mindy deposit in the Pilbara being linked to either Rio Tinto or BHP Billiton and for it to have a spur line to the railhead of one of the big two for railing to port.

That was the eventual decision made by Gina Rinehart, principal of Hancock Prospecting, for the advanced Hope Downs project, now half in the fold of Rio Tinto. She made that decision through concerns over the soaring cost of infrastructure '” a factor that has not abated '” and the chronic shortage of technical and skilled workers. A prime cost for Australian mining and mineral processing infrastructure is the rising cost of all forms of steel.

THE PENDULUM EFFECT

Simpson has seen fortunes change for zircon, platinum group metals and other commodities when a dominant or group of major consumers found price hikes were too severe, and he thinks iron ore may head that way if the price push continues.

“A stable market is the best position,” he says, as an advocate of no price increase. Simpson says supply and demand is like a pendulum, where it’s almost certain that if it goes hard right then it will come back hard left. In China, several small independent mining groups have been eliminated to help establish bigger and more sophisticated operations but any cutback on infrastructure development will rebound on Australian ore supply, and it will bite hardest on the ranks of developing and aspiring WA companies.

Fortescue is the biggest of the newcomers, and its plans to export 45 million tonnes a year (it already has contracts to supply over several years about 30 million tonnes a year) to predominantly Chinese buyers shows it means business. Fortescue’s high-profile chief executive, Andrew “Twiggy” Forrest, has been pushing the slogan of being 'The New Force in the Pilbara’.

Fortescue has impressive deposits in the Pilbara’s Chichester Range and appears to have passed quality control barriers demanded by the mills.

Forrest, a big-picture speaker, has problems with the Australian Securities & Investments Commission relating to last year’s disagreement with some Chinese.

Ian Spence, who spent his formative geology years with British Steel and then a few years working in the Pilbara, sees some of the new-wave companies having to be indelibly linked in corporate and/or project terms with the Chinese.

Spence, now with Montagu Stockbrokers in Perth, says that as China moves further towards sophisticated steelmaking, the new WA iron ore contenders will need to get their chemistry and geochemistry right; iron ore is no longer the dig-and-deliver business it may have been with old, inefficient mills. Spence is undertaking a study on the new wave of iron ore miners.

There is also the issue of investors understanding that magnetite should not be branded iron ore. It is a poor man’s iron ore that needs beneficiation (or concentrating) before export, and some of the juniors have a predominance of magnetite in their plans for a long life.

One innovative junior is Gindalbie Metals, which plans to use some of the established infrastructure in the WA mid-west, including the busy port of Geraldton. Gindalbie and other mid-west aspirants have created a collective that may cushion some of the costs of going beyond simple direct shipping of ore out of Geraldton.

Gindalbie will initially ship haematite iron ore for a cash flow, but will have to build up a nest egg before tackling beneficiation of its dominant magnetite orebodies and, as for the grander plan of setting up a pelletising plant, this is a million-dollar question best answered by the Chinese or perhaps the Japanese mills looking for market diversification.