VALE SA VALE S
June 23, 2013 - 6:09pm EST by
biv930
2013 2014
Price: 13.65 EPS NA $0.60
Shares Out. (in M): 3,256 P/E NA 22.8x
Market Cap (in $M): 71,180 P/FCF NA NA
Net Debt (in $M): 23,500 EBIT 0 0
TEV ($): 94,680 TEV/EBIT NA NA
Borrow Cost: NA

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  • Iron ore
  • Brazil
  • Peak cycle
  • China Exposure

Description

Thesis:

The decade long bull market in iron ore prices is over and the market will enter a secular bear market over the next 6-12 months.  Supply is finally catching up with the huge demand shock created by an industrializing china.  This is happening at the same time that Chinese demand for iron ore could begin to decline. 

Iron ore prices are likely to fall to <$80/ton over the next 12 months which will cause Vale to decline by 50%+. 

Iron ore prices have averaged ~$50/ton for approximately 100 years before going parabolic over the past decade.  If Chinese steel consumption declines, iron ore prices could go back to $50/ton over the next few years.  This would cause numerous iron ore producers to go bankrupt.

 

Supply/Demand:

In 2H 13, seaborne iron ore exports are going to increase by ~60m ton while seaborne imports will increase by <30m tons pushing the market into over-supply.  In 2014, seaborne exports will increase by 150m+ tons and demand will increase by ~40-50m tons assuming moderate growth in china.   In 2015, there will be an incremental 150m+ tons of supply coming online and assuming china continues to muddle through, incremental demand of ~40-50m tons.

Even if china muddles through (which we think is unlikely), this market is going to move into massive over-supply in the next 1-2 years.  This supply is largely baked in and is being brought online by the majors which have cash costs for the incremental supply of <$50/ton in most cases and the infrastructure is largely built out and is now a sunk cost.

 

Cost Curve

We believe that the majority of the Chinese iron ore supply today is operating at <$100 cash cost and there is additional supply coming online in china at <$100 cash cost.  As the few hundred million tons of incremental supply come online, it will push prices down to <$80/ton as some Chinese supply will begin to come off line at those levels. 

If Chinese steel production actually declines, iron ore prices could return to ~$50/ton.

 

Earnings Power:

If iron ore prices fall to $75-80/ton, Vale will earn <$.60 in the next 2 years and trade at ~$6/share which is 50%+ lower than current levels.  Consensus has Vale earning ~$2/share over the next 2 years as they assume that iron ore prices will remain at ~$100-110.

 

Risks:

China engages in another huge stimulus effort that causes steel demand growth to reaccelerate

Weather or other issues cause supply to get pushed out

Producers push back their timeline on supply additions

I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

supply additions in 2H 13
chinese growth decelerates or possibly experiences a hard landing
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