Moody's ups outlook on Vale's rating to 'positive' on cost controls

SAO PAULO/RIO DE JANEIRO, April 11 Fri Apr 11, 2014 4:34pm EDT

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SAO PAULO/RIO DE JANEIRO, April 11 (Reuters) - Moody's Investors Service on Friday raised the outlook on Vale SA's debt rating to "positive," citing the success of the world's largest iron ore producer to rein in costs in the face of falling prices and uncertain sales volume trends.

The change in the Brazilian company's outlook from "stable" acknowledges the company's "more focused and disciplined approach to project development, capital allocation," and efforts to trim costs, a team of analysts led by Carol Cowan said in a statement. Moody's has a "Baa2" rating on Vale, the second-lowest investment-grade ranking.

The decision signals how Chief Executive Officer Murilo Ferreira's efforts to discipline capital spending is boosting Vale's ability to cope with potential price declines for iron ore and other minerals over the next twelve to eighteen months. According to Cowen, further efforts to lower debt and avert cost overruns in major new or ongoing projects could increase the likelihood of a rating upgrade.

In addition, the outlook change also considers a settlement with Brazil's tax authority over disputed tax issues between 2003 and 2012. While the deal represented a huge payment for the company, "it can be accommodated within the company's liquidity profile, and resolves a material event risk for the company," the statement said.

Usually, companies get their ratings upgraded between one and 1-1/2 years after their outlook is raised. In stark contrast to Vale's rising star, Standard and Poor's last month trimmed the sovereign debt ratings of Brazil's government, citing the impact of a deteriorating budget balance and a slowing economy.

Preferred shares of Vale gained 0.4 percent to 29.81 reais on Friday. The stock is down 4.4 percent in the past 12 months.

CHALLENGES

Limiting a potential upgrade, Vale faces upward payroll and royalty costs in Brazil, its main exploration market. Vale also remains sensitive to exchange rates, particularly the U.S. and Canadian dollars as well as the Brazilian real, Cowen said in the statement.

And while the company indicated relatively flat capital expenditures in 2014 at around $13.8 billion relative to 2013 spending levels, and a more disciplined focus on capital allocation, "these outflows, in combination with dividend levels, remain high, in our view, relative to the potential contraction in earnings and remain a consideration in the rating," she said.

Vale plans to pay $4.2 billion in dividends for this year.

Late in February, Ferreira, who took over as CEO almost three years ago, vowed to continue efforts to sell underperforming units and control investments to sharpen Vale's business focus on iron ore, responsible for about three-quarters of revenue and nearly all of its profit.

The higher outlook came even after the Rio de Janeiro-based company posted a $6.45 billion net loss in the fourth 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.

Yet, the performance of operating earnings was a proof of the success of Ferreira's approach, analysts such as Grupo BTG Pactual SA's Edmo Chagas said at the time.

Vale'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.

Despite the non-operational losses, Ferreira managed to cut costs, write off bad investments and wring more cash from mines, railways, processing plants, ports and ships while focusing more on Vale's main iron-ore business. (Reporting by Guillermo Parra-Bernal; Editing by Chris Reese)

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