Price penalties no deterrent to MinRes plans

Savage price penalties on lower grade iron ore have slashed the profitability of Australian miners and reduced the Pilbara iron ore division of Chris Ellison’s Mineral Resources to marginal status.

But the extraordinary change in fortunes since iron ore prices hit record highs in May did not stop Mineral Resources signalling it remained keen to develop a new iron ore province in the West Pilbara around the Ashburton port.

The ‘‘benchmark’’ price for ore with 62 per cent iron was $US119.75 per tonne on Monday, according to S&P Global Platts, a price that on face value looks strong in comparison to those witnessed between 2014 and 2018.

But cost inflation has rendered Monday’s price far less lucrative than it might seem, as labour shortages, ballooning shipping costs and severe price penalties related to iron content have all shaved profitability.

Mineral Resources, Australia’s fifth biggest iron ore exporter by volume, said it had received just 48 per cent of the benchmark iron ore price during the three months to September 30.

That result, affected by some abnormal shipping delays, was much worse than analysts had expected.

The company’s average received price of $US78.32 per dry tonne ($104.52 per tonne) in the three months to September was a massive slump from the $US178 per tonne average received price in the three months to June.

Shares in Mineral Resources slumped by just under 7 per cent after the disclosure to end yesterday’s trading session at $39.95.

Mineral Resources did not disclose its unit costs in yesterday’s filing nor whether its iron ore division, which is comprised of two entirely separate operations in Western Australia’s Pilbara and Yilgarn regions, was cashflow positive at that price.

But based on the unit costs reported by the company for its Pilbara business in the year to June, the division would have been uncomfortably close to its break-even point over the past three months.

The Pilbara division had unit costs including shipping of $99 per wet tonne in the year to June.

Unit costs may have been higher than $99 over the past three months given shipping costs soared to multiyear highs this month while rising fuel costs would have made the trucking of ore to port more expensive.

The difference between the ‘‘wet tonnes’’ metric that Mineral Resources and other Australian miners use to disclose their costs and the ‘‘dry tonnes’’ metric used in received prices is also an important detail for investors to note.

Customers do not pay for the moisture in iron ore, meaning Mineral Resources’ Pilbara division would need to receive an iron ore price above $100 per dry tonne to break even on unit costs of $99 per wet tonne.

Morgan Stanley analyst Rahul Anand said Mineral Resources’ price realisations were much lower than he expected.

‘‘We continue to have concerns around low-grade realisations in the medium term once iron ore market tightness abates,’’ he said in a note.

Beyond the Pilbara, Mineral Resources has a separate iron ore business that ships through Esperance port and unit costs on that division were $81 per wet metric tonne in the year to June, including shipping. Yesterday’s revelation that Mineral Resources had received just 48 per cent of the ‘‘benchmark’’ iron ore price compares poorly against the price that S&P publishes for ore with 58 per cent iron.

S&P said ore with 58 per cent iron content was fetching $US77 per tonne on Monday; a 35.7 per cent discount to the ‘‘benchmark’’ price for ore with 62 per cent.

That discount has been closer to 15 per cent below the benchmark at times over the past 33 months amid a shortage of iron ore caused by dam failures in Brazil in January 2019.

But a range of factors have exacerbated price penalties on lower grade iron ore, including a surging supply of such material.

Extremely high prices for coking coal have also incentivised steel mills to prefer high grade iron ore as it enables them to use less coking coal.

High iron ore prices over the past 33 months have prompted Mineral Resources to try to revive one of Australia’s biggest undeveloped iron ore projects in the West Pilbara, which has lain dormant since Chinese steel giant Baowu and Aurizon acquired Aquila Resources in 2014.

Mineral Resources bought Aurizon out of the Australian Premium Iron project in June before spending at least $200 million in July to get more exposure to the project.

It will pay a further $200 million if ore from certain tenements is ever put on a ship.

API is close to mines that Mineral Resources operates in the West Pilbara and the company hoped to provide transport infrastructure to API, particularly through Ashburton port.

Mineral Resources yesterday said the Ashburton port at the very least would still go ahead and it was buying tugboats and had finalised the design and cost of the transhippers that would move iron ore between the port and the vessels that travel to customers.

The company said yesterday: ‘‘The project economics are compelling through all economic cycles.’’

Most ore in the West Pilbara contains iron grades between 50 per cent and 58 per cent, meaning it would be subject to the sort of price penalties that hurt Mineral Resources’ Pilbara division over the past three months.

The weak pricing disclosed by Mineral Resources means Fortescue Metals Group’s disclosures will be closely watched when it updates the market tomorrow, given most of Fortescue’s products contain less than 60 per cent iron.

Said JP Morgan’s Lyndon Fagan in a note published after Mineral Resources’ disclosure: ‘‘This is likely to be a negative read through for FMG in relation to provisional pricing adjustments.’’

The cost of shipping iron ore to north Asia rose to very high levels over the past three months, as the pandemic and geopolitical tensions drove a shortage of the vessels that carry bulk commodities like iron ore and coal.

The cost of carrying iron ore from Port Hedland to China was almost $US23 per tonne early this month, a far cry from the $US7.70 per tonne seen in 2019.

But the worst may be over for shipping costs: S&P Global Platts said prices on the Port Hedland to China route were closer to $US13.55 per tonne on October 25.