Rio, BHP brush off iron slump
Comment of the Day

April 08 2014

Commentary by David Fuller

Rio, BHP brush off iron slump

My thanks to a subscriber for this informative article published by The Age, Business Day.  Here is the opening:

he iron price slump pulls on a classic supply-side squeeze, and Australia's iron ore whales are best placed as it occurs.

Rio Tinto and BHP Billiton's profits are falling as the iron price goes down. Both groups said last month that a $US1 a tonne change in the iron price changed their profits by $US120 million ($133.1 million).

They have very large profit bases, however. BHP earned $US7.8 billion in the December half, and Rio earned $US10.2 billion in the year to December. Both can make strong returns on capital invested in their Pilbara mines after this week's plunge from $US114.20 a tonne to $US104.70 a tonne, and would stay profitable (albeit producing unsatisfactory returns on capital) if the price halved from here.

They sit on the bottom of the global iron ore mining cost curve, and as they continue to produce iron ore at maximum capacity it is smaller, higher cost miners that are being squeezed.

David Fuller's view

Slow global GDP growth may test investors’ patience in Rio Tinto (est p/e 10.07, yield 3.89) and BHP Billiton (est p/e 12.05, yield 4.18) for a while longer but these two giants will emerge stronger.  Meanwhile, investors are compensated by attractive yields.  Demand for metals will pick up considerably as the global economy continues to recover over the next few years.  

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