CORRECTED-UPDATE 2-Vale vows spending austerity as metals price outlook improves

Thu Feb 27, 2014 5:50pm EST

(Corrects paragraph 21 freight cost savings to $7 instead of $10)

By Jeb Blount and Guillermo Parra-Bernal

RIO DE JANEIRO/SAO PAULO Feb 27 (Reuters) - Vale SA , the world's largest iron ore producer, will continue reining in costs this year even as the outlook for prices and sales volumes is improving, its chief executive officer said on Thursday.

"We plan to continue with austerity," Murilo Ferreira, the company's CEO told investors at a conference call to discuss fourth-quarter earnings.

The company will also continue efforts to sell underperforming units and control investments as it sharpens its business focus on iron ore, responsible for about three-quarters of revenue and nearly all of its profit.

His remarks come as Vale reported a net loss of $6.45 billion in the quarter, its largest since Brazil's government sold control to investors in 1997 and more than twice the shortfall of the year-earlier period. The loss was due to non-recurring events such as a one-time income tax settlement and the write-off of an abandoned potash project in Argentina.

Despite the non-operational losses, Ferreira managed to cut costs, write off bad investments and wring more cash from its mines, railways, processing plants, ports and ships while focusing more on Vale's main iron-ore business.

"Vale is doing a good job controlling costs," said Edmo Chagas, mining company analyst at Grupo BTG Pactual in Rio de Janeiro in a client note.

The company's adjusted earnings before interest, taxes, depreciation and amortization, or EBITDA, a measure of the company's ability to generate cash from operations, rose 50 percent in the quarter to $6.64 billion. The result beat the average analyst estimate of $5.85 billion. The EBITDA result was the third-highest in the company's history.

Vale preferred shares, the company's most-traded class of stock rose 2.6 percent to 29.47 in late trading in Sao Paulo, on track for its biggest one-day gain in three weeks.

With the stock underperforming its peers about 20 percent over the last 12 months, we believe most of the relative risks are priced in and we remain constructive on the name," Chagas said. He has a "buy" recommendation on the stock.

Fourth-quarter results highlighted Ferreira's success in controlling the size of a company that was growing too big, Chagas said. While the current trends in iron ore and slower growth in China offer risks for Vale, a potential fall in prices should be mild, Chagas and other analysts said.

However, Vale sees almost no risk for iron ore sales volumes and prices, although 2014 is unlikely to show prices as high as in 2013, Jose Carlos Martins, the company's head of ferrous metals, said on a conference call with investors on Thursday.

Vale is working with a "nearly 100 percent chance" of meeting output targets for iron ore during the next two years, he said. He added that ore quality will again become a defining element in pricing, helping boost the value of Vale's high-grade iron ore in China, its main market.

Executives also said that market conditions make it difficult for iron ore to fall below $110 a tonne. Iron ore IO62-CNI=SI averaged $134.86 a tonne in the fourth quarter, 12 percent more than the average a year earlier.

Even if it fell below $110, the fall would be brief, and Vale's costs mean it will still earn a healthy profit. It's ash cost of mining is about $21 a tonne, on an FOB basis, a measure that does not include transport costs.

Analyst Garret Nelson said in a note to investors on Thursday that there is evidence that steel mill shutdowns in Hebei province, China's main steel region, because of pollution could slow iron ore demand and cause prices to fall below current levels of 118.00, one of the lowest levels in nearly eight months.

That combined with new output from Australia could keep the outlook for iron ore prices low, hurting Vale's share price, Nelson wrote.

Martins said that he has seen little evidence that pollution concerns in China, Vale's biggest market, are cutting back on mills' demand for ore, the main ingredient in steel.

'GREEN BLEND'

Vale is preparing a "Green Iron Ore Blend" to help Chinese steelmakers produce less carbon dioxide pollution in their mills. That blend will be mixed at the company's Malaysia distribution center which will receive its first loads of iron-ore from Brazil in March and send its first cargoes to China and other Asian countries in July.

The center is a key factor in the company's effort to cut transportation costs, which are higher for Vale than that of its main rivals, Australia's BHP Billiton Ltd and Rio Tinto Ltd. whose main mines are closer to China.

Vale's transportation costs are about $22 a tonne now and should fall by $4.00 to $5.00 a tonne for shipments to China after Malaysia opens. Malaysia will receive cargos via Vale's fleet of giant "Valemax" iron ore carriers, some of the largest ships ever built.

If the Valemax's were able to take cargoes directly to China, where they are banned as too big, Vale would save about $7 a tonne over current costs, Martins said Feb. 17.

The world trend, though, is toward larger vessels, he said, and the fact that ports in Japan, Korea, Malaysia and the Philippines accept the ship will push China to eventually accept them.

One of the biggest opportunities for Vale in 2014 and 2015 will an improvement in the company's nickel and base metals business. The ramp up of giant mines at Onca Puma in Brazil's Amazon and at Goro on the French Pacific Ocean island of New Caledonia, will soon start making an important contribution to Vale revenue and cash generation, executives said.

Higher nickel output combined with expected rises in nickel prices are expected to add $3 billion to $7 billion a year to Vale's EBITDA, said Peter Poppinga, Vale's head of base metals.

If nickel prices stay at current levels of $14,424, EBITDA should get a $4.5 billion annual boost, he said. If Indonesia goes ahead with moves to force miners to smelt nickel ore in Indonesia, nickel could rise above $20,000, adding about $7 billion to Vale's EBITDA, Poppinga added.

If it generates more cash, Vale's preference is to distribute it to shareholders in the form of dividends rather than pay down debt, which is at acceptable levels, Chief Financial Officer Luciano Siani said on the call. (Reporting by Jeb Blount; Writing by Guillermo Parra-Bernal and Jeb Blount; Editing by Phil Berlowitz, Bernard Orr)

A couple walks along the rough surf during sunset at Oahu's North Shore, December 26, 2013. REUTERS/Kevin Lamarque

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