Rio Tinto
Recommendation
Being the lowest cost producer in the industry has its perks. While smaller producers, such as Fortescue Metals, contemplate curtailing production in response to falling iron ore prices, Rio Tinto is doing just the opposite. Yesterday, the company announced record iron ore production of 67m tonnes for quarter (Rio’s share 53m tonnes), a 5% increase from this time last year. It will likely produce 230m tonnes this year. Not content with that, Rio confirmed plans to boost output to 283m tonnes per annum next year and 353m tonnes per annum by 2015.
For most of the industry, lower output is now a necessity. Fortescue, for example, has surrendered earlier ambitions. For the world’s lowest cost producer, lower output is merely one option among many. Rio either believes the iron ore market will return to boom or it is content substituting lower iron ore prices for higher volumes to achieve profit growth. The truth likely lies with the latter. Rio’s costs, at around $40 a tonne, are low enough to generate stunning margins even in a world of lower iron ore prices. The strategy is an aggressive one, but it’s likely to work.
Sweating the iron ore assets is necessary because Rio’s aluminium division shows few signs of improvement. Although alumina output climbed slightly, aluminium output fell 10% from last year. There remain unresolved problems that the stunning iron ore business may not salvage. It’s a key reason we remain cold on the company. Rio’s share price is steady since Iron ore: trumpets and warning bells from 13 Sep 12 (Hold – $55.26) and it remains a HOLD.