Fortescue’s iron ore business is producing dependable results and supporting a decent dividend payment. But the FFI noise is becoming a cacophony of speculative partnerships and pioneering projects, bolstered by the lure of subsidies. The 10% allocation of FMG profits is not set in stone. Caveat emptor, we say.
Iron Ore. FMG shipped 96.9mt of iron ore in 1H23 and achieved an average price of US$87/dmt compared to US$96/dmt last year. The 9% reduction in price compared favourably against the Platts industry standard price fall of -26%. The lower price factor more than offset the higher volume (Figure 1) for FMG’s 1H23 underlying EBITDA which reached US$4,617m, -8% on last year. Iron ore prices generally have been improving in recent months and of course, this is highly beneficial to FMG as China re-opens its economy. Virtually all of FMG’s revenue is sourced from China. FY23f production guidance remains 187-192mt.
C1 costs averaged US$17.43/wmt in 1H23 (US$15.28/wmt in 1H22) reflecting higher labour costs and more expensive maintenance materials, together with higher fuel and energy costs. FY23f C1 cost guidance is US$18.00-18.75/wmt.
FMG’s iron ore business has two major projects on the horizon. First production at the Iron Bridge magnetite project is due in the March quarter. Iron Bridge will produce 22mtpa at full capacity. The C1 costs are expected to be US$33-35/wmt.
The second project is the Belinga Iron Ore project in Gabon, a Central African country with ~2.5m people and GDP of ~US$20bn. There was a failed coup in Gabon in 2018. FMG recently signed a ‘mining convention’ with the Gabonese Republic covering the legal, fiscal and regulatory regimes needed for the 4,500 sq km project area. FMG believes “this new West African iron ore hub may well one day prove to be among the largest in the world”. The capital commitment for the early stage mining development is ~US$200m (100% basis, FMG 72% effective interest) over 2023-24.
Decarbonisation. FMG has committed US$6.2bn to its decarbonisation roadmap to eliminate fossil fuel use and achieve net zero emissions (Scope 1 and 2) from its iron ore operations by 2030. The program is expected to reduce operating costs by US$818m pa by 2030. FFI (Fortescue Future Industries) spent US$283m in the period with US$68m of that allocated to decarbonisation efforts within the iron ore division. An electric train is being tested and batteries are on the way for use in the truck fleet.
FMG’s capital allocation of 10% of net profit to FFI currently has approximately US$793m in the kitty. The list of FFI projects is too long and detailed for this note. Suffice to say it has been an extraordinarily busy year for FFI. Not everything is going smoothly at FFI including a high turnover of senior management and the withdrawal by its partner from the US$116m hydrogen electrolyser project near Gladstone.
To date, we calculate FFI has expensed US$773m. Total spending in FY23 at FFI (including capex) is expected to be around US$600-700m.
Investment View
The 65% dividend payout ratio will calm the nerves of some investors (75cps). FFI continues to create a lot of noise around its grand intentions to turn FMG into a global green energy, metals and products business. To accomplish that lofty goal, from scratch, FMG is allocating 10% of group earnings to the pilgrimage – a not insubstantial amount of shareholders’ money.
The iron ore business continues to operate strongly and has its own expansions to generate growth as long as China continues to produce around half the world’s crude steel. This part of the business is worth owning. Our Hold recommendation reflects a growing concern on the long-dated, arguably speculative and expensive range of projects proliferating at FFI.
Risks to Investment View
FMG’s earnings are highly sensitive to the iron ore price. Any changes to demand, production, transportation or saleability of FMG’s production would be negative for earnings. The funding of FFI projects presents a major risk to earnings given the expected size and scale of the project list. Green hydrogen may not be cost effective as initially thought.
Recommendation
We have retained our Hold recommendation.
Figure 1: FMG 1H23 EBITDA FACTORS
Figure 2: UNDERLYING 1H23 EBITDA US$M
Figure 3: IRON ORE 62% FE, CFR CHINA (US$/T)
