THE founder of Fortescue Metals, Andrew Forrest, has hit back at suggestions by a US hedge fund operator, Jim Chanos, that his company was over-promoted and a "value trap".
Mr Forrest believes Mr Chanos has an active short position in Fortescue shares - ie, placing a bet that Fortescue's share price will fall. The Perth billionaire told BusinessDay he was also aware of numerous negative rumours surrounding the company, including one suggesting the Russian steel magnate Victor Rashnikov's MMK is looking to sell its 5 per cent holding in Fortescue.
Mr Forrest disputed that suggestion, revealing that until recently MMK and Fortescue had been working on a joint venture to develop a steel mill in the Pilbara region. The plan had been talked about on and off for several years. The talks were abandoned because the gas price was too high to make the project feasible, said Mr Forrest, whose complaints echo those of many large Australian businesses.
Fortescue does not consider MMK as a seller but falls shy of directly accusing Mr Chanos of starting the talk.
Mr Chanos, the boss of Kynikos Associates, exposed Enron as a fraud and famously bet against Macquarie in 2007, saying the bank's model could not last.
In a presentation to a New York private investment forum, Grant's Spring Conference, earlier this month, Mr Chanos told investors iron ore miner Fortescue had "a somewhat promotional management team".
"It's got about $2.8 billion in EBITDA [earnings before interest, tax, depreciation and amortisation] but it's got a capex [capital expenditure] program last year of $1.5 billion, and it's going up," Mr Chanos said.
"Increasingly, with any kind of reversion to the mean of iron ore prices to $US100 per tonne or less, we're going to see a dramatically lower ability to service the debt and to service the capital programs they have. And a stock price materially lower than it is today."
But Mr Forrest said Mr Chanos was a China bear - unlike BHP, Rio Tinto and Fortescue, which have been uniformly positive on the medium-term outlook for iron ore demand.
"We have seen China defy its sceptics by doing just what it said it would do. It has already delivered its 12th five-year plan, despite the smoke in the background from global economies," Mr Forrest said.
Fortescue is waging war against time, the current government, and sceptics. Mr Forrest stepped up his attacks on the Treasurer, Wayne Swan, and the Prime Minister, Julia Gillard, over the weekend, saying their ousting of the former prime minister Kevin Rudd was "in my mind the very lowest point in Australian politics".
Meanwhile, Fortescue remains on track to reach an annualised production level of 155 million tonnes a year out of its Chichester mines and the newest addition, its Solomon mine. The company is in the early stages of exploring a third area, Nyidinghu, which the company believes has a resource of about 2.5 billion tonnes which could ultimately add another 50 million tonnes a year to production.
Over the past six months,resource stocks including Fortescue, Rio Tinto and BHP Billiton have underperformed the broader market, thanks to slippage in the price of iron ore - down from $160 a tonne to $140 a few weeks ago. It is now sitting a little higher at $US148 a tonne. There remains plenty of profit margin at these price levels but the market gets concerned that bigger falls will take the gloss off the massive returns.
The big players in the iron ore industry are voting with their wallets. Fortescue, BHP and Rio are pouring unprecedented amounts of capital to increase supply from the Pilbara in what appears to be a race against time.
Getting one's hands on producing mines and infrastructure could be the fastest and most expedient way to boost production and export sales. This explains why Mr Forrest describes Fortescue as "the prettiest girl at the dance".
The Pilbara "dance" now has almost as much to do with infrastructure as it does with reserves - part of the appeal of Fortescue, which has four berths at Port Hedland and a railway.
Fortescue has been allowing smaller miners onto its rail lines but is also charging a hefty rental as a track landlord. Last week smaller producer Atlas outlined plans to undertake a study into building a new Pilbara rail line in partnership with Queensland Rail, thus allowing it to increase its export to 46 million tonnes a year.
This rail line would be open access - in much the same way QR National operates in the Queensland coal region.
Frequently Asked Questions about this Article…
What did US investor Jim Chanos say about Fortescue and how did Andrew Forrest respond?
Jim Chanos told investors he viewed Fortescue as having a "somewhat promotional management team" and warned that if iron ore prices reverted toward US$100/tonne the company could struggle to service debt and capital programs. Andrew Forrest hit back, saying he believes Chanos has an active short position in Fortescue shares and characterising Chanos as a China sceptic, while defending Fortescue's strategy and outlook.
Are the rumours true that Russian steelmaker MMK is selling its 5% stake in Fortescue?
Andrew Forrest disputed the suggestion that MMK is looking to sell. He said MMK and Fortescue had been discussing a joint venture to build a steel mill in the Pilbara, but those talks were abandoned because gas prices made the project uneconomic — and Fortescue does not consider MMK a seller.
How could falling iron ore prices affect Fortescue's ability to fund capex and service debt?
According to Jim Chanos, a significant fall in iron ore prices (he cited a reversion toward about US$100/tonne) would reduce Fortescue's ability to service debt and meet rising capital expenditure programs, potentially leading to a materially lower share price. The article also notes that iron ore has moved from around US$160 to about US$148/tonne recently, leaving margins but prompting market concern about bigger falls.
What production targets and growth plans does Fortescue have in the Pilbara?
Fortescue is on track to reach an annualised production level of about 155 million tonnes a year from its Chichester and Solomon mines. The company is also exploring a third area, Nyidinghu, which it estimates could hold roughly 2.5 billion tonnes of resource and potentially add about 50 million tonnes a year to production.
Why is Pilbara infrastructure important to Fortescue's competitive position?
Infrastructure — ports and rail — is a major part of the Pilbara advantage. Fortescue owns four berths at Port Hedland and a railway, which speeds up getting ore to export and makes its producing assets especially valuable. The company has allowed smaller miners onto its rail (for a rental), highlighting how control of infrastructure can be as important as reserves.
How have Fortescue, BHP and Rio Tinto shares performed recently and why?
Over the past six months resource stocks including Fortescue, Rio Tinto and BHP Billiton have underperformed the broader market. The article links this to a slip in iron ore prices — from roughly US$160/tonne to near US$140/tonne a few weeks ago, and sitting around US$148/tonne at the time — which has dented sentiment despite remaining profit margins at those levels.
Is Fortescue charging other miners to use its rail and are there alternatives?
Yes — Fortescue has been allowing smaller miners to use its rail but charges a substantial rental as a track landlord. As an alternative, the smaller producer Atlas has outlined plans to study a new Pilbara rail line in partnership with Queensland Rail, aiming for open access similar to how QR National operates in Queensland coal regions.
What is the disagreement between Fortescue and critics over China and iron ore demand?
Critics like Jim Chanos are more pessimistic about China's demand for iron ore, but Andrew Forrest and major miners such as BHP and Rio Tinto remain positive on the medium-term outlook. Forrest argues China has defied sceptics by delivering on its economic plans and that this supports ongoing demand for iron ore.
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