Is Vale Going to Go Under?

Vale (VALE) announced fourth quarter of 2015 ended February 28, 2016 total adjusted EBITDA of $1.4 billion, down 26 percent sequentially from $1.9 billion in third quarter of 2015 and down 36 percent year-over-year from $2.2 billion in fourth quarter of 2014.

What’s hurting Vale?

Vale reported continued decline in its bottom line primarily due to the ongoing weaker global commodity demand and pricing environment coupled with the rising exploration expenses, eating into the margins of the company.

The key metals exploration company has witnessed continued fall in its bottom line growth mainly due to slow improvement in the global demand for key commodities while, still greater mining expenditures hurting the company’s core margins.

Vale has strategically lowered its year-over-year costs and expenses by about 26.4% and 43.4% respectively which is in line its continued commitment towards optimizing its cost structure and mainly driven by a reduction of more than 5.9 billion in total costs and expenditures during 2015.

In addition, the key metals exploration company successfully lowered its capital expenses, successively for the 5th time in a year along with a robust minimization of nearly 3.6 billion in its core investments, from approximately 12 billion during 2014 to about 8.4 billion during 2015.
Vale’s net yearly Capex surpassed the earlier projection by nearly US$ 200 million owing to a brilliant and exceeding all analysts’ execution expectations regarding the S11D project and related logistics.

The ongoing improvement in Vale’s overall cost structure through superior control of major capital expenditures while sustaining minimal non-core and daily operational expenses is believed to support the company in successfully overcoming the continuing weaker global commodity demand and pricing scenario while allowing it to emerge strongly with time.

Some positives

The key ores mining company impressively achieved 44.6% year-over-year reduction in iron ore fines cash costs, in addition to 35.0% and 58.2% year-over-year reductions in freight costs and other expenditures & royalties respectively which can be considered to be a solid achievement by the company amid tough global operational environment.

Going forward, Vale is quite optimistic about the growth prospects of steel consumption in China and looks forward to enhance its market share in the country. According to Vale’s top management, the company’s strategic infrastructure development and urbanization programs are believed to fuel outstanding demand for steel, copper and iron ore.

A weak demand forecast           

However, Credit Suisse has reiterated a weaker demand trend for steel in China for 2018 and projects the key demand to fall to 695 million tons for the year from a solid 773.8 million during the fiscal year 2013.

The historical steel demand for China indicates solid demand in the early years with the highest steel demand of 753 MMT illustrated during the fiscal year 2013, after which the key steel demand continued to decline over the years and mainly driven by slowdown in global economic conditions with building up of core inventories for companies, failing to sell-off their stock.

Although, Vale is quite positive about the commodity demand conditions in China with projected healthy demand for metals and other supplies still, a majority of the key investment analysts seems extremely disappointed about the long-term growth prospects of the company, given slowly improving international economic conditions with no time limit until the global recovery unfolds completely.

The prices of iron ore have continued to decline 43% till date for this year and mainly due to heavy supplies from major miners such as, Vale S.A., Rio Tinto plc and BHP Billiton Ltd.

According to the survey of 18 key analysts at Financial Times, the global crude steel production is estimated to increase by 0.15 percent during 2016 which is being primarily fueled by solid growth across Europe and the US, somewhat balancing a second successive year of slowdown in China that comprise of almost half of worldwide steel consumption.

The continuously growing supply for iron ore and steel is forecasted to continue to increase with all major mining and exploration companies continuing to expand production despite a weaker global commodity demand which is expected to further deepen the already huge commodity demand and supply gap, where commodity supply hugely exceeding its demand.

Vale uniquely sold 49% of its stake held in the Belo Monte hydroelectric plant project to Cemig Geração e Transmissão S.A which is linked to the deal strategically signed with Cemig GT declared on December 19, 2013 which is in line with Vale’s strategy to maximize shareholder returns while increasing flexibility to manage other core assets.

Considering the currently uncertain global commodity demand and pricing environment, the Board of Directors at Vale S.A. has proposed to offer only the least possible dividend equivalent to zero to its key stakeholders for 2016 which is in line with the company’s continued commitment towards sustaining healthy cash position to continue with its daily operations profitably.

The ongoing cost-optimization strategy of Vale by minimizing the non-core and capital expenditures while growing cash flows through the sale of non-strategic assets is believed to strongly position the company for sustainable long-term growth.

Conclusion

Overall, the investors are advised to “Hold” their position in Vale S.A. considering the company solid long-term growth prospects with PEG ratio of 2.95 and much better than the industry’s growth average of -19.69. However, the profit margin of -51.71% appears disappointing. Moreover, Vale needs to optimize its financial position with significant total debt of $30.42 billion against weaker total cash position of $3.57 billion only, restricting the company to continue with ist daily operations profitably.
Published on Mar 11, 2016
By Vinay Singh

Copyrighted 2016. Content published with author's permission.

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