Under the Jacaranda Tree » iron ore

Chinese Steelmakers Complain About High Australian Iron Ore Prices

C.A. Yeung — Thu, 11 Dec 2008 11:47:02 +0000

If Chinese steel producers get their way, says a recent Caijing Magazine report, major iron ore suppliers will substantially reduce benchmark prices next year.

In an interview with Caijing, Secretary of the China Iron & Steel Association Shan Shanghua complains that Chinese steelmakers have been paying too much for Australian iron ores. He says the current year’s contract price with Australian suppliers is still around US$90 per ton, while weakening demand meant that many steelmakers are now able to buy ore for about US$ 50 per ton on the spot market. Shan is adamant that ore prices should follow steel price fluctuations. Since steel price has fallen to the 1994 level, he intends to ask for a bigger price cut. Records indicate that the 1994 iron ore price was just US$ 16.69 per ton.

Does it mean Chinese steelmakers are going to ask for an 80% discount in the next round of price bargaining? They may try. But I doubt if they are going to be successful. A spokesman from Chinese steel manufacturer Shougang concedes this outrageous proposal is not likely to be acceptable, due to increasing costs of mining. However, he is pushing hard for a minimum 40% price reduction, citing a record ore stockpile (200 million tons) as an excuse.

The steel industry in China is fraught with problems; many of them are very much of the industry’s own making. China’s steel industry is well known for being scattered and disorganized. Many small to medium size players compete unnecessarily for resources and for markets. In the end they are forced to operate in a high cost and low profit margin environment. Consequently, the industry has limited capacity to invest in hi-tech products. Products with little technology content make Chinese steelmakers more vulnerable than their overseas competitors to the current market downturn.

In my view, the entire steel industry in China desperately needs an overhaul, in the form of a massive scale restructuring, possibly through strategic merger and acquisition. Without that, the steel manufacturing industry in China will not be viable. And it would be very unwise for Australian mining companies to put so many of their eggs into this unsustainable basket, albeit its size.

Posted in sustainable growth, Under the Tree Tagged: Australia, iron ore, mining industry in Australia, steel industry in China

China adds to global recession by turning off overseas mining investment

C.A. Yeung — Sun, 09 Nov 2008 02:18:09 +0000

Beijing’s decision to halt all overseas mining investment once again highlights how Government intervention continues to pose insurmountable risks for those who seek to do business with China. It also makes a mockery of the win-win rhetoric frequently espoused by those who promote engagement with China through trade.

Asia Sentinel reports that Beijing has issued a directive to mining and mineral processing companies in China to freeze all overseas investments, citing a need to focus resources on investing at home as an excuse. It is not clear how long this ban will last.

This decision is widely seen as an attempt to contain damages incurred by Chinese companies that had paid top prices for overseas mines before the outbreak of the global financial crisis. Among them is Chinalco. This giant Chinese aluminium producer paid a hefty US$14.05 billion for 12% stake in Rio Tinto in February this year. Since then the price of Rio Tinto shares has fallen 61%, forcing Chinalco’s investment partner Alcoa to write down the mark-to-market value of its stake in early October. In June this year, Chinalco, through its listed arm Chalco, had also engaged in fierce competition with rival Chinese steel companies for a stake in a new Australian iron ore mining company Fortescue.

Behind the reckless move of Chinalco is a company struggling for survival. It came to light last week that Chalco’s third-quarter earnings slumped 93% as metal prices dropped and slowing economic growth hurt demand. Consequently Chalco’s shares slumped 85% this year in Hong Kong trading, worse than the 55% drop in the benchmark Hang Seng Index. It also explains why since the Australian Federal Government granted Chinalco permission to increase its stake, Chinalco has to date not bought any extra shares in Rio, even though the value of Rio shares has plunged.

I cannot help but seriously questioning the wisdom of Beijing’s decision in the current economic climate. As pointed out in the Asia Sentinel report:

… China has more foreign reserves than it knows what to do with, and developing countries in particular are hoping that some of its will come their way into mining and industrial projects rather than helping bail out Wall Street by buying more US bonds …

… Chinese caution may be understandable both in the context of uncertainty about the length and depth of recession and the realization that it may have overpaid for mining assets in the recent past, just as it overpaid for distressed western financial institutions. But it is a case in which what may make sense at the micro level makes no sense at all at the macro level where the need is for a revival of spending and of risk-taking, regardless of whether the investment is at home or abroad.

Posted in sustainable growth, Under the Tree Tagged: Chinalco, doing business with China, Fortescue, government intervention, iron ore, natural resources, Rio Tinto takeover

Chinalco’s Dawn Raid on Rio Tinto Shares – More than a Business Deal

C.A. Yeung — Sun, 10 Feb 2008 09:06:33 +0000

Over the next few months, the Australian Financial Investment Review Board (FIRB) will have a tough job deciding whether it is in Australia’s best interest to approve Chinalco’s acquisition of more than 14.9% of Rio Tinto shares. A crucial task for the Australian regulator is to determine whether or not this share acquisition is a genuine business decision. So far no one is convinced that this Chinese Aluminium Group is just after some aluminium asset. There is strong evidence to suggest that the bid is designed to influence the outcome of a possible BHP and Rio Tinto merger.

The timing of the acquisition is a dead giveaway. The dawn raid on 1 February was just a few days ahead of the UK Takeover Panel’s deadline for BHP Billiton to formalise its takeover proposal. This left BHP Billiton with less than a week to make alternative plans to accommodate the changes. The conglomerate led by Chinalco paid a staggering GBP60 per share for 12% of Rio Tinto’s UK-listed arm (or 9% of the whole company). It has effectively put a 21% premium on BHP Billiton’s original offer of around GBP50 per Rio Tinto share. BHP Billiton’s failure to match the increased price gave Rio Tinto an excuse to reject a revised offer, even though the offer was increased from three-for-one to 3.4 BHP Billiton shares per Rio Tinto share.

The dawn raid was carefully orchestrated to hide traces of intervention from the Chinese Government. The reason for choosing a US aluminium giant Alcoa as a comrade in combat is quite obvious. However, the using of Chinalco as a vehicle to launch a raid deserves some explanations. The official Xinhua Chinese news release (which is significantly different in content and focus from the English version of the report) provides a glimpse of the rationale. This report cites several reasons why the widely anticipated counter bid from Baosteel, China’s largest steel manufacturer, fails to come through. The steel industry in China is still dominated by small operators that scatter throughout the country. These companies have neither the international experience nor the financial resources to compete in mega-scale takeover bids. A Chinese steel manufacturer that openly competes in the international market for upstream resources will easily become a target for criticism; its effort to secure cheap iron ore will tip the balance of the supply chain and will be construed as breaking the rules of free trade practices. Nevertheless, “China must take necessary action to block the BHP-Rio merger”, according to the Xinhua report. Chinalco, with a market value of over US$50 billion, is considered as the best vehicle for launching a counterbid. Chinalco’s status as the world’s second largest manufacturer of aluminium oxide, the third largest manufacturer of electrolytic aluminum and the fifth largest producer of aluminum processing material, together with its vast experience in international business ventures, will make it a convincing contender for a slice of the world’s third largest mining company.

Michael Sheridan of Sunday Times is correct when he describes how Beijing shows its hand in this battle to block the BHP-Rio merger:

The coup was widely seen as a riposte to a bid by Australia’s BHP Billiton to acquire Rio Tinto. China is believed to fear the emergence of a titan that would be able to dictate quasi-monopoly prices for commodities vital to its interests.

Yet Chinalco’s suave 49-year-old president, Xiao Yaqing, told people in London and Sydney that it was a purely commercial investment whose objective “is to make a return”.

Chinalco’s attempt to distance itself from hints of politically motivated sovereign investment were undercut by the fact that the Chinese foreign minister, Yang Jiechi, also appointed himself a de facto spokesman for the deal, while insisting it was a matter for the company alone.

Chinese business journalists say that is nonsense. Chinalco is a state-owned entity and its president, Xiao, is a politically sound appointee who has the approval of the State Council, which is China’s cabinet.

Funds for the Rio Tinto investment are reported to have come, in part, from China Development Bank, about whose status there is no doubt. It is a state-controlled financial institution that also answers to the State Council.

“Nobody would dare to make a strategic decision like this without absolute approval from the leadership,” a Chinese investment banker commented.

The FIRB will take a closer look at the ownership structure of Chinalco when the Board is weighing up the effect of Chinese investment in Rio Tinto. Their findings will alert China’s major trading partners to issues of sovereign investment and state intervention that characterise China’s half-hearted shift to a market economy.

Australian Media Warns China May Retaliate Against a BHP-Rio Merge

C.A. Yeung — Thu, 27 Dec 2007 09:01:11 +0000

Australia’s national broadcaster, the Australian Broadcasting Corporation (ABC), quoted in length an expert’s warning that the BHP-Rio Tinto merge might bring along an end to Australia’s resources boom, due to possible retaliation from China. This is the first time that mainstream mass media in Australia openly lobby against

the merger deal, citing a perceived conflict to Australia’s national interest. This ABC report immediately followed a widely publicized Hong Kong South China Morning Post report, which said that the Chinese government had retained financial consultants to study the BHP proposal and to come up with options to block the deal. The close proximity of the two reports makes one wonder if China’s diplomatic pressure is already finding its way to the Australian public.

Here is a transcript of the ABC Radio report “China lobbies against BHP’s bid for Rio” by Daniel Hoare:

There is a new twist in BHP Billiton’s bold bid for its rival, Rio Tinto, with China now lobbying to prevent a merger going ahead.

There are reports that China is lobbying banking and legal advisers in London and Sydney, in an effort to protect its position as one of the world’s leading consumers of iron ore.

And it may even offer up a Chinese-backed white knight for Rio to block BHP’s proposal.

It seems that for each week that goes by, BHP Billiton faces yet more opposition on the global front for its proposed takeover of rival Rio Tinto.

Last week, Britain’s Takeover Panel gave BHP until February to mount a formal bid for Rio or walk away from the bargaining table.

The deal has also attracted opposition from Japanese metal companies, and the Japanese Fair Trade Commission has begun talks with counterparts in Europe and Australia about a possible investigation into the proposed merger.

Now, the Chinese have emerged as strong opponents of the deal, as that country seeks to protect its position as one of the world’s biggest users of iron ore.

It is being reported in the UK that China has begun concerted action in a bid to stop the deal, including approaching investment bank Lehman Brothers to discuss ways to block it, either through political or financial channels.

Robert Gottliebsen, financial commentator with website Business Spectator, says any merger between Rio Tinto and BHP Billiton could, in time, trigger the end of Australia’s resources boom.

“History tells us that when a major customer of commodities is unhappy about a big event like a merger like this, then they go and seek supplies elsewhere,” he said.

“And the great danger of the BHP, Rio Tinto merger is that it will spark an effort by China to promote iron ore resources in other countries, and that means that the iron ore boom that we’ve been experiencing won’t continue forever.”

He says China’s best hope of scuppering the deal comes from the European Competition Authorities.

“They are pretty aggressive people. And we don’t sell a lot of iron ore into Europe, but both Rio and BHP sell a lot of other goods into Europe, so they’ve got to have the European Competition Authorities onside,” he said.

“Now, China could very well help a number of European steelmakers, or other groups in Europe, to mount a major campaign, and it could well be effective.

“I think that the old timers, the traditional people who understand commodities, are warning us that the reaction from China, and possibly also from Japan, to this merger could, yes, it could come through the European Competition Authorities and other things like that.

“But far more dangerous is that they will see this as a trigger to go out there and get Brazil and others to substantially increase their iron ore production, and but let’s assume that BHP and Rio don’t merge, and quote your odds on that, but presume they don’t merge, then both of them are going to have major iron ore expansion projects.

“So we could have a three-way expansion of iron ore. Take that down the track five, 10 years and you’ll have a glut, even though Japan … even though Japan and China’s demand will be very strong.

Rio Tinto Takeover Update

C.A. Yeung — Tue, 11 Dec 2007 02:08:42 +0000

As it turns out, I’m correct in being cautious about the Blackstone rumour. In this morning’s The Australian:

BLACKSTONE Group said overnight it isn’t involved in a bid for mining giant Rio Tinto, which has already rejected a $US150 billion ($A170 billion) bid from rival BHP Billiton.

The US private equity company was responding to an earlier report in London’s The Daily Telegraph newspaper that it was in the process of assembling a consortium to launch a bid.

“Blackstone confirms that it is not involved in this transaction in either an investment or advisory role,” the company said in a statement.

Meanwhile according to Reuters:

The Shanghai Stock Exchange said on Monday that the shares of China’s biggest steelmaker, Baosteel, would be suspended on Tuesday without giving a reason.

The stock exchange said on its website that shares would resume trading again on Wednesday.

So after all, something is indeed brewing, even though it is not what we think it is.

Blackstone: Trash or Gems?

C.A. Yeung — Mon, 10 Dec 2007 15:09:49 +0000

The name Blackstone comes to my attention as I follow news of the Rio Tinto takeover. Blackstone, according to the Telegraph, is on centre stage this time as a possible rival contender for a controlling stake in Rio Tinto. Rumour also says that Blackstone is acting with full financial backings from “a Chinese sovereign wealth fund”. I’m treating this piece of news with extreme caution, after witnessing how a seemingly firm expression of intention by Baosteel’s Chairman could be dismissed as “a fabrication of the media”. It is also interesting to watch how the mass media in the West have been dancing to the tune of speculators at China’s Stock Exchanges. The price of Baosteel shares had been in decline ever since the company posted a much worse-than-expected 50 percent slide in third-quarter profits late October. I am sure some smart cookies would have made the best of the rumour to ripe some quick profits from China’s largely self-regulated stock market.

When I was looking into how this so-called “US private equity giant” was linked to the “Chinese sovereign wealth fund”, I realised that the China Investment Corporation (CIC) had paid a hefty $3 billion in May this year for a 10% stake in Blackstone. As of today, Blackstone’s share prices have plummeted by almost 36% since it went public in June this year. Some commentators predicted that CIC had learnt from its mistake and would adopt a more cautious approach to future overseas investment. They could not have been more mistaken. It makes one wonder how business decisions are made in a state-run Chinese business today. The trouble is, CIC is not the only state-run corporation that forms expensive but dubious partnerships with foreign companies in an attempt to acquire substantial holdings abroad. Citic Securities, a Chinese government-run investment bank, and Bear Stearns said they would take $1 billion stakes in each other and set up a joint venture in Hong Kong. Bear Stearns is one of those US funds that finds itself in serious trouble when the US real estate market starts to collapse recently. I agree with this commentator when he says, “The crisis at Bear is just another pin in a world of bubbles. There are plenty of others. Sooner or later (as we keep saying, and saying, and saying) bubbles and pins will come together in a dramatic display.”

No one can save Chinese state-run businesses from disasters until they learn how to separate gems from trash. The trouble is: who will hold them accountable as long as the Chinese Communist Party is accountable to no one and holds itself above the law?

Is China Panicking over Ore Prices?

C.A. Yeung — Wed, 28 Nov 2007 13:30:43 +0000

I am very aware of how news can be unreliable in the middle of a merger deal, as stakeholders often attempt to flood the media with stories that are favourable to their ends of the bargain. That is why I have been putting off writing about China’s interest in BHP Billiton’s takeover bid for Rio Tinto, let alone predicting whether Chinese companies will put in a counter bid. The deal is still far from conclusive, even though market observers are generally dismissing the possibility that Chinese companies will play a significant role in the merger. This does not mean, however, that China is not aware of the implication of the merger or not concerned about how this is going to limit its access to affordable iron ore. China’s anxiety over the outcome of the takeover is reflected in an interview that a Chinese Foreign Ministry spokesman Qin Gang had with Stephen McDonell, Australia Broadcasting Corporation (ABC)’s China correspondent. This interview was broadcast during ABC’s AM radio program on Wednesday, 28 November 2007. The following is a transcript of Stephen McDonell’s report.

__________________________________________________________

The Chinese government has welcomed Kevin Rudd’s election victory and some are predicting that Australia’s economic relationship with China could now become even stronger. But China’s government spokesman has also hinted at an early point of contention – BHP’s attempt to takeover mining competitor Rio Tinto. The Chinese are worried that the merger will hurt Chinese steel mills. China correspondent Stephen McDonell reports.

At last night’s Foreign Ministry Press Conference, AM asked China’s government spokesman Qin Gang for a response to the weekend’s election of Kevin Rudd as the new leader of Australia:

McDonell: Stephen McDonell from Australian Broadcasting Corporation. From this week, Australia has a new Prime Minister. He is the first Mandarin speaking leader in the Western world. What impact will this have on China-Australia relations?

Qin: First, our congratulations to Mr Kevin Rudd, who was elected as Australia’s Prime Minister. China pays close attention to Sino-Australian relationship. We would like to join with Australia to further friendly exchanges and promote bilateral cooperation.

Qin Gang also paid tribute to the effort of former Prime Minister John Howard in strengthening China-Australia relations. But it was in response to another question from the ABC that he hinted a possible tension in the near future. The backbone of Australia’s economic relationship with China is the sale of raw materials that feed its booming economy. Australian iron ore is crucial to Chinese steel production. But there is a possible corporate takeover looming, which could give one of China’s key suppliers enormous power to control world commodity prices.

McDonell: At the moment, BHP is trying to takeover Rio Tinto. If they succeed, it’s likely they’ll be able to have great control over the supply price of iron ore. What does the Chinese government think of this?

Qin: The combining of two companies is supposed to be a business activity. So we don’t normally pay close attention to it. But what we care about is the issue of price in the international resources market. We want the market price of international resources to reflect supply and demand. The price should be long-lasting, stable and beneficial to everybody, not just exporting countries.

In other words, Australia had better not think that China would be happy with an empowered BHP Billiton increasing the price of its raw materials. This is Stephen McDonell in Beijing for AM.