Vale Cost Cuts Paying Off as Earnings Surprise Analysts

Vale SA CEO Murilo Ferreira
Under Chief Executive Officer Murilo Ferreira, Vale SA’s market share slumped to about 26 percent in the first half from almost 28 percent a year earlier, when he took over as CEO, according to data compiled by Bloomberg Industries. Photographer: Jin Lee/Bloomberg

Vale SA surged the most in more than six months in Sao Paulo trading after recurring earnings topped estimates, signaling that efforts to cut costs and delay projects is paying off.

Vale, the biggest iron-ore company, had third-quarter recurring earnings before interest, taxes, depreciation and amortization of $4.28 billion, surpassing estimates from analysts including Banco Itau BBA SA and Banco BTG Pactual SA. The stock rose 5.6 percent to 36.20 reais at the close, the most since April 12. Brazil’s Bovespa index rose 1.2 percent and a measure of iron-ore prices traded at a three-month high.

Chief Executive Officer Murilo Ferreira this year suspended projects, announced asset sales of about $1.2 billion and cut output of premium pellet products as weaker demand in China and Europe, its two biggest markets, triggered a decline in metal and mineral prices. Vale sold its iron ore, which accounts for most revenue, for more than analysts had expected in the third quarter, Itau BBA said in a note to clients today.

“Market expectations were below the analyst consensus and well below what came out,” Jose Luiz Garcia, a portfolio manager at Mercatto Gestao de Recursos, who doesn’t own Vale shares, said by phone from Rio de Janeiro. “Also there had been very bad iron-ore prices, so there’s space for improvement. A lot of people were short Vale.”rif

Net income dropped 66 percent to $1.67 billion, or 32 cents a share, trailing the 43-cent average estimate in a Bloomberg survey. A $542 million provision to settle a royalty dispute Vale pared profit. The result was Vale’s fifth consecutive drop in quarterly profit and the lowest net income since the first quarter of 2010.

‘Peak Year’

Vale is trimming investment plans and looking for partners and buyers for some assets as it works with “more conservative premises,” Chief Financial Officer Luciano Siani said today on a conference call. Vale needs to find a partner to go ahead with its $5.9 billion potash project in Argentina and may consider also a partner for its Moatize coal project in Mozambique, Siani said.

“The decision has been made but we are still exploring the market to see what’s the possibility to realize value on the sale as well, we are not going to fire sale any asset,” Siani said about the possible sales. “We have many possibilities but we will manage those very carefully.”

‘Unprofitable Mine’

Vale, which last week said it will suspend operations at its unprofitable Frood nickel and copper mine in Canada, put the scope and schedule for its $1.26 billion Zogota iron-ore project in Guinea’s Simandou South under review. Vale said July 25 that Zogota was expected to start producing in the second half of 2012 with an estimated capacity of 2 million tons.

“It will take longer to have the institutional scenario more defined,” Siani said during the same call. “We shouldn’t expect significant investments from Vale in the project in the short term.”

Iron-ore prices next year probably will remain at a similar level to today, Jose Carlos Martins, the company’s head of Ferrous and Strategy, said on the same call. Prices for immediate delivery to the Chinese port of Tianjin, a benchmark for Asia, rose 1.1 percent to $120.00 per ton today, the highest since July 24, according to a price index compiled by The Steel Index Ltd. The index tumbled 42 percent from June 16 to Sept. 5 as growth slowed in China, the biggest consumer.

“We will conclude projects already under execution, while research and development expenditures are being cut to give rise in the future to a smaller and more select portfolio of projects,” Vale said in a statement after the close of regular trading in Brazil. “2012 is very likely to be the peak year for capital expenditures in the foreseeable future.”

Royalty Payment

Vale’s production of iron ore, the main raw material used to make steel, fell 4.6 percent last quarter, while London-based Rio Tinto Group reported a 6 percent gain in the period and Melbourne-based BHP Billiton Ltd. said quarterly production rose 0.5 percent.

The company said on Sept. 4 that it set aside 1.41 billion reais ($696 million) to pay royalties Brazil’s government claims it is owed, anticipating a “probable loss” in a legal dispute over the taxes. The provision is more than four times the 314 million reais the company had reserved as of June 30.

Total debt as of Sept. 30 rose to $29.2 billion from $25.5 billion at the end of the previous quarter.

‘Challenging Environment’

“Vale will face a challenging scenario in the short-term given an expected deceleration in Chinese GDP and steel demand growth coupled with a fragile global steel demand outlook,” Marcos Assumpcao and Andre Pinheiro, analysts for Banco Itau BBA SA, said in an Oct. 18 note after lowering the stock to the equivalent of neutral. “Even though Vale’s main growth projects will likely add value to the company, they will not affect results materially before 2015.”

The company shipped 78.2 million tons of iron ore and pellets, a processed form of the material, in the quarter, 0.9 percent more than a year earlier. Chinese customers accounted for 49 percent, up from 45 percent a year ago, while Europe bought 18 percent, down from 20 percent.

“Vale is facing a new scenario where the main consuming market will not grow again at such a robust pace,” Karina Freitas, an analyst at brokerage Concordia Corretora, said in a phone interview from Sao Paulo. “The company needs to adapt itself to that new reality.”

Vale expects to improve its production performance and lower costs in the coming quarters, CFO Siani said in a video posted yesterday on the company’s website.

The miner’s results may continue to get better should recent metals price increases gain steam, said Robbert Van Batenburg, head of research at Louis Capital Markets LP.

“Iron-ore prices have picked up a little,” Van Batenburg said in a telephone interview from New York. “If the tide is rising, it’s really hard to mess up a raw-materials company.”

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