Arrium chief executive officer Geoff Plummer tells Business Spectator's Alan Kohler, Robert Gottliebsen and Stephen Bartholomeusz:
– Arrium has no plans to separate its port business and remains the player best able to leverage its value, while Arrium's shipping speed will enable it to catch a far more attractive iron ore pricing environment in the long term.
– The company's grinding media business is a strong cash generating business set for strong growth, and was significantly undervalued by Posco and Noble Group.
– The mining consumables business is more stable than the iron ore business, regardless of what happens to copper or gold prices, because miners still need to maximise their through put.
– Arrium's steel plant is well positioned for the future, with significant options to generate margins and cash on even a modest improvement in demand or the exchange rate.
Alan Kohler: Well Geoff, are you glad or sad that Noble and POSCO have gone away?
Geoff Plummer: I think where I am is pleased that we can bring some attention back onto the business. In the last month or so, we’ve actually had some quite significant achievements and I think they’ve got masked in some of the focus on those events. So, for example, in the last month we’ve confirmed that the expansion of our iron ore business is on time and on track. We’ve actually upgraded our promise to the market in terms of iron ore shipments, from 11 to 12 million tonnes, and the port capacity we’ve increased by a million tonnes also. So I guess I was concerned that some of those achievements were getting lost with the obvious distractions over the last month or so.
AK: We’d like to talk in detail about some of those achievements in a moment, but just on the takeover, do you believe that POSCO and Noble have gone away?
GP: I think that’s really a matter for them. What I can work on is the things that we can influence and manage. Their public statements have been quite clear in that regard, but really for my team and me, for the Arrium board, it’s a focus of getting on and executing with the strategy that we’ve laid out and that we’ve got before us. So that’s really the focus and I’m actually pretty pleased to be able to focus on that again.
Stephen Bartholomeusz: Geoff, do you think that in a perverse kind of way that approach from Steelmakers Australia drew attention to your fundamentals and forced the market to look at them in a way that the name change didn’t?
GP: I think what it’s done is to draw out where we’re at with some of the progress we’ve been making on our strategic initiatives, so from that perspective it’s quite possibly helpful. I think there is now a better understanding of the inherent value, not just in the iron ore business but also in the mining consumables business which has increasingly been getting some attention, perhaps less in the media but certainly from the investment community there’s much more emphasis on the mining consumables space. So to the extent which it has been to focus, I think it actually has been helpful to have an increased understanding of where the business is at in terms of those initiatives.
Robert Gottliebsen: Geoff, the share price is still under the bid price. The market might have got a little bit more familiar with what you’re doing, but your basic weakness is that under the legacy institutions systems you’re a steelmaker and you’re analysed by steelmakers and it’s very hard to break out of that. Don’t you think there’s a grave risk that the hedge funds will come in, take stock and when they’ve got sufficient stock sell it out to the grids?
GP: I think what the recent event showed was that there is a good story there and the board’s position is quite clear. The chairman’s statement was that we thought the offer significantly undervalued the business and I think that’s a good reason.
RG: One of the aspects of your business is that you have an infrastructure asset which has an enormous value on the market in today’s high yield situation of very little risk and yet it’s stuck in the middle of an iron ore stock, if you like. So you actually have the chance to take that out and take that premium and do something about realising the value inside the stock.
GP: I think there certainly has been an element of opportunity over the last month and what that reinforces is the point that the fundamental business does have a significant opportunity to deliver to shareholders improved returns and we’re confident that the strategy we’re on will do that, both through the improvement in our mining consumables business but also prove the opportunity we have to leverage our unique position in South Australia, leverage support and double the size of our iron ore business. We’re only something like 36 or 38 weeks away from being a 12 million tonne iron ore exporter.
RG: Have you thought of separating out your infrastructure business? That’s the port.
GP: We see the port as a unique asset and I think that’s key to being able to double the size of our iron ore business. I think we’re best placed to leverage that opportunity. We’ve been able to start shipments from the Southern Iron Development in about 53 weeks since we took over that asset. As I said, we’re something like 36 or 38 weeks away from being at a 12 million tonne run rate in terms of shipping our own ore. For our shareholders, I’m convinced that they’ll get much more value by shipping our own ore through that port.
SB: Geoff, I suppose it wasn’t a coincidence that you got approached by Steelmakers just after the iron ore price dropped below $90 a tonne. While it’s now up above $120 a tonne, the POSCO view seems to be that it will fall back towards $85. If they were right, would that business be an attractive business still?
GP: We have taken the view that this is going to be a good asset. We do have the unique position, as you’ve pointed out, in terms of the port. We’ve also taken a longer-term view on what’s likely to happen with iron ore prices. I’m more optimistic than the $85 that you’ve quoted, but we’ve also factored in that there will be changes over time. Hence the comment that the real value I think for us and for our shareholders is being able to get more to market so quickly and so cost effectively. As I said, we’ve started shipping our first ore from Southern Iron. That’s been 53 weeks since we took it over and we’re only 36 or 38 weeks from being at rate. So, speed to market I think gives us confidence that we will be able to catch a far more attractive iron ore pricing environment in the long term. The market will be what it will be. But we’re confident that it will still generate good returns and good cash for the foreseeable future.
SB: Am I right in thinking, Geoff, that the loaded cost of that ore, once the expansion is complete, is around about that $60 a tonne mark and with a higher Fe content than it has today?
GP: The average cost for 12 million tonnes would be about $50 based on the current costs for the existing mines, which last quarter were $41 a tonne and we’ve guided the market for the additional 6 million tonnes that will be about $52-$57. So something like just under $50 a tonne would be an accurate figure for once we’re at rate, and we expect the shipping and ore that’s just under 60 per cent – so 59.5 per cent, something like that – so it’s still a very good quality product to be selling in this environment.
RG: Geoff, on that sort of cost basis and that sort of output in sales, what are the reserves like? How many years can you keep that up?
GP: Well, we’ve said that we’ve got a reasonable aspiration to be able to do at least 10 years for the 12 million tonnes and we think that will certainly prove to be something that’s achievable and a really good investment for our shareholders, and we don’t have all of those tonnes to JORC standard yet, but we’re certainly well progressed in terms of developing that. And I guess a good example would be that when we announced the Project Magnet we originally only had 40 million tonnes to sell. We’ve got close to 60 million tonnes in that part of our resources and we’ve sold nearly 40 million, so we’ve actually been progressively adding to our reserves and building our capability in that regard. So I think it’s a reasonable aspiration for us to say that we’re aiming for at least the 10 years for the 12 million tonnes.
AK: Geoff, how much of your profit is now contributed by the grinding media business and how is that going to change in the next year or two?
GP: I’d expect that to be an increasing and growing part of the business. For the full financial year last year it was a $171 million EBITDA, so quite significant, or $135 EBIT, if you’d prefer at that line. So it is quite a material part of the business now and given that we expect our key markets in the Americas to grow over the next three to five years at circa 10 per cent compound, we see very significant growth in both businesses, both in terms of volume but also in terms of earnings and that business has the benefit of actually being part of the stable in terms of its earnings profile. And the final thing is the last year demonstrated it’s also a very strong cash-generating business. So I’m very confident that’s going to be a good investment for our shareholders and we’ll continue to grow.
AK: What proportion do you think the grinding media business represents of the bid price that Noble and POSCO were offering?
GP: Well, you’re asking me to speculate and that's difficult for anyone. It is possible in this circumstance that they were actually silent on the mining consumables business, so I actually didn’t hear any commentary from them, but from my perspective we know it’s a very attractive business and we know that when we bought it there were two other parties that we had to beat off who bid very aggressively for the Moly-Cop business that we bought. So I think the people who understand the industry understand it’s actually a very attractive business.
AK: I’m just wondering, for example…
GP: More market positions and good growth profile.
AK: I’m wondering whether if somebody bought Arrium for 75 cents a share, say, or 80 cents a share, would they be getting the steel and the iron ore businesses for nothing?
GP: I think if somebody bought it for 75 cents then you’d be certainly significantly undervaluing the business and hence the chairman’s comments and the board’s view that the offer significantly undervalues the business. I’m very comfortable that that was the right call we’ve taken, that the business will deliver stronger returns in the future and that the offer was significantly undervaluing the opportunities we have before us.
SB: Geoff, given that the mining consumables business or grinding materials business is exposed to the resource sector, why do you regard it as more stable than, say, your iron ore business?
GP: Because I think in most instances you can see the commodity prices will move around, but in the miners’ interest they still need to maximise their through put and to do that the operation of the grinding circuit is critical and the products we sell are a very critical aspect of that, so being a good supplier gives you a very strong market position. The nature of those contracts is that they tend to be set with a fixed margin for extended periods – at least a year but often two or three year contracts with margins set – and you have adjustment mechanisms for input costs, either in terms of scrap costs or steel prices, so the miners prefer to take that volatility and we have a much more stable margin stream and a much more stable earnings stream from those sorts of businesses. And the mines will continue to grow and consume the product, particularly in our markets as there’s a low-cost market, so we expect to see the growth come through, whatever happens to the copper or gold prices.
RG: Geoff, the steel plants, Whyalla – how many years’ ore have you got to back that particular project?
GP: For the steel plant we’ve got magnetite reserves that will take us well into the twenties – something like 2027, at least, in terms of reserves. If we went out and looked aggressively, I’m sure we could actually find magnetite reserves that would support it for longer than that. So in terms of supporting the steelworks, the reserves we have available are not a problem.
RG: So, is the steel plant profitable in current conditions?
GP: I’m not able to give a guidance in terms of where we’re at at the moment, but I think a good point would be if you have a look at the June half, we actually achieved a very significant turnaround in terms of the steel manufacturing business and EBITDA positive, notwithstanding the dollar was above parity and we had still very weak markets, particularly very weak construction markets that were at a cyclical low. I think moving the steel manufacturing business back to an EBITDA positive and closer to a cash break-even position surprised the market and I think was quite positive, because what some people are now starting to pick up on is there’s a significant option in terms of the steel business generating margins and particularly cash, if even a modest improvement in demand or a modest improvement in the exchange rate occurs. So I’m confident that that business is now well positioned for the future.
RG: Presumably you are getting a lot of mining construction steel being used because the demand for steel right now on a totality basis is very high in Australia.
GP: In total it has actually been pretty sideways for the last three years. Your point is right in that a significant proportion of the demand has come from mining investment, but also there’s been a significant proportion in infrastructure investment. So roads, freeways, hospitals and so on. The most significant activity at the moment is probably in the energy gas sector related to LNG, and the areas that are weakest would be residential and non-residential construction, which I’d see as being particularly below. So it’s not, on the balance, been a strong market; it’s been very mixed. What we’ve had is mining investment that’s been one of the areas of strength, as has been infrastructure, but that’s been offset by areas of significant weakness, particularly in other construction.
AK: Geoff, during the takeover proposal there was a lot of talk that POSCO's patented steel manufacturing process could be applied or would be applied to Whyalla. I can’t remember the name of it now, but the question is would that have even ever been possible and if so, is it something that you could do to make Whyalla more efficient?
GP: I think the technology that was speculated on was Phoenix.
AK: That’s it.
GP: POSCO I think has a reputation of an excellent steelmaker; they’re clearly very well regarded in that space. But even so, from my understanding the Phoenix technology, or the Phoenix accounts, grew less than 10 per cent of their total steel market and one of its advantages is where you’re building new capacity. At Whyalla, we’ve just spent a lot of money on upgrading the glass furnace. Since we did it and it was brought back online about a year ago, it’s operated far more effectively and efficiently. We’ve seen that in terms of reduced costs and that was one of the factors for the improvement half-on-half. So I’d find it hard to envisage why you would take what’s a pretty new glass furnace – and we’ve said we’re confident we’ll be good to at least 2020 – why you would take that out of operation to replace it with another technology which POSCO only use in limited ways in their own operations.
SB: Geoff, during that approach there’s been a lot of discussion about what the implications would be of an offshore steel company acquiring you for the domestic steel market. Can you explain the relationship between you and Bluescope and what might happen if your ownership changed?
GP: Well, I think the relationship between ourselves and Bluescope is we’re each significant customers and suppliers, so we each have a significant distribution business. Bluescope is a significant customer of mines for the things like structural steel, merchant parts, pipe and tube, and I’m a very significant customer of Bluescope’s and my distribution business for sheet and coil and in my pipe and tube business hot rolled strip. So if something like POSCO did acquire us, there would obviously be return to that supply given that POSCO has a very strong flat products position.
AK: Thanks very much, Geoff.
GP: Okay. Thanks for the opportunity.
SB: Thank you Geoff.
RG: Thank you.
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