Company Overview - Rio Tinto Limited is an international business company engaged in metal and mineral production. The product groups of the Company include aluminum, copper and diamonds, energy and minerals, and iron ore. The business support groups of the Company include exploration, and technology and innovation. The Company produces aluminum, diamonds, iron ore and titanium dioxide feedstock in Canada, and thermal coal, copper, borates and talc in the United States. During the year ended December 31, 2008, the Company owned 30% of the copper mine, Escondida in Chile. During the year ended December 31, 2007, the Company completed the acquisition of Alcan Inc. In December 2010, the Company completed the 100% divestment of its equity holdings in Cloud Peak Energy Inc. In June 2014, Rio Tinto completed the sale of its 50.1% interest in the Clermont Joint Venture to GS Coal Pty Ltd.


Analysis - Today we are covering Rio Tinto (RIO), which announced for 21% rise in first half underlying earnings to $5.1 billion in FY14, while the operating cash flow rose by 8%. The performance is based on RIO’s strong assets, operational excellence and capability to manage soft price conditions. The Company exceeded the $3 billion operating cash cost reduction target six months ahead of schedule accompanied by productivity improvements across all the businesses. In fact, the net debt declined by $6.0 billion compared with same period last year in view of the robust operating cash flows, reduced capital spend and profits from divestments.


Financial Highlights (Source – Company Reports)

As per Company’s half yearly 2014 updates, achievements such as the full ramp-up of the Pilbara iron ore expansion to 290 Mt/a in May 2014, which was two months ahead of schedule, have been the key highlights. In fact, the rail duplication and track work required for the 360 Mt/a expansion was completed in time. Critical 360 Mt/a port infrastructure has also been progressing well for anticipated completion by the end of the first half of 2015.

Pilbara Resources, Reserves and Production (Source – Company Reports)

The Company also claims that Pilbara Blend products are the basis of its expansions.
 

Pilbara Products (Source – Company Reports)

Similarly, the Aluminium group achieved EBITDA of $1.1 billion, which is an increase of 26% on 2013 first half irrespective of the LME aluminium prices averaging nine per cent lower. Then, the Copper group also showcased healthy performance with increased volumes from Kennecott Utah Copper and ramp-up at Oyu Tolgoi. This was complemented by enhanced productivity and better cost position.


Ordinary Dividend per Share (Source – Company Reports)

The recent updates of October 2014 also shed a light on other developments including the Brownfields mine development. As per RIO, this has been an example of value maximization wherein a 360Mt/a expansion has been identified. Specifically, ~40Mt/a of brownfield mine projects has been approved and is under implementation. The average mine production capital intensity has been less than $15/t.


West Angelas Stacker 3 (Source – Company Reports)

RIO’s long-term iron ore fundamentals remain healthy with China being forecast to reach ~1Bt of crude steel production by around 2030. Also, the iron ore demand growth will be driven by emerging economies with more than 80% of the world’s population. Other iron ore markets such as India, Middle East and ASEAN countries may also develop in the near future.


Total Iron Ore Demand Projections (Source – Company Reports)

The Company has illustrated low cost advantage with 1H14 cash unit cost of US$20.40/t (11% less than 1H13) while sustaining steady and striking margins which rose by 66% in 1H14.


2020 Industry Cost Curve (Source – Company Reports)

The Company recently reported 75% completion of the 360Mt/a infrastructure. All 360Mt/a marine and wharf works have also been completed. Further, port B shiploader, stacker and reclaimer were commissioned early. Indeed, RIO reports that the first ore through car dumper 7 is ahead of schedule. Rail works including AutoHaul® wayside works have been complete. Additionally, first autonomous AutoHaul® journey has also been complete.

From operations standpoint, the Company is focusing on value derivation from real-time optimization of production, maintenance and logistics. The car dumper timing has been revised and additional consist provide extra ~4Mt over 2014 and 2015.


Cape Lambert Car Dumpers 5, 6 & 7 (Source – Company Reports)

The key influencing factor for RIO’s performance has been considered to be the iron ore supply and pricing. As per the Company, iron ore prices have reduced throughout 2014 owing to increased supply. It is expected that ~125Mt of high cost global iron ore supply is likely to exit the market in 2014. Crude steel production is also showing a healthy level. The Company reported that it is seeing consistently high demand for its iron ore products across varied market conditions. Chinese iron ore demand is also remaining strong.


Iron Ore Prices and Crude Steel Production (Source – Company Reports)

The Company further states that the integration of marketing and operations maximizes its portfolio value. Specifically, product offering and customer segmentation are the source of mine development and production planning. Reported spot transactions indicate that Pilbara Blend Fines achieve a premium over the Platts 62% Fe index.

Then RIO also continuously implements different marketing strategies such as ~85% of its 2014 volume is to be sold under term contracts, and ~15% has been uncontracted for sale into the spot market in support of liquid and transparent indices. RIO’s strong relationships in key markets such as shipping over 3Bt to Japan and China constitute other highlights. Moreover, partnerships such as Robe River joint venture in Japan, and Channar Joint Venture and Bao-HI Joint Venture in China, are core to RIO’s business.

RIO has also set up a control team for ensuring delivery of safe tonnes to the customers on time and at the right cost; monitor production rates and control set points; minimize performance loss by active communication and coordination during system outages; and collaborate across functions and sites.

Control Room Layout (Source – Company Reports)

As per the quarterly production performance by 15 October 2014, record iron ore production and a solid performance in copper and aluminium was noticed, as stated above. For the Pilbara iron business, third quarter sales set a new quarterly record of 73.7 million tonnes (RIO share 59.1 million tonnes), which is 15% higher than that witnessed during same period of 2013. Total copper cathode production was 37% higher in the first nine months of the year compared to 2013. 

There is a possibility that RIO’s aluminium division will shower benefits in 2015 and 2016 in view of recent price rebounds. Even, global bauxite production in the third quarter was seven per cent higher than in the second quarter, as the Gove bauxite mine continued its ramp up following curtailment of the Gove refinery in May. Production from the new AP60 plant and productivity gains across the smelter portfolio balanced the loss of production from Shawinigan, which closed in November 2013, and the partial shutdown at Kitimat as the plant is preparing for full commissioning of the modernized smelter in the first half of 2015. Moreover, production of hard coking coal in the first nine months of 2014 was as per the expectation. Nonetheless, production of thermal and semi-soft coal declined by three per cent only, even when the Company witnessed a loss of production from the Clermont mine which was sold in the second quarter of 2014. Titanium dioxide production dropped by 11% in the first nine months of the year. Exploration and evaluation expenditure was $566 million in the first nine months of 2014.


RIO Daily Chart (Source - Thomson Reuters)

Overall the game plan is appealing, and accordingly, we put a BUY recommendation for this lowest-cost major producer of iron ore, at the current price of $57.98.

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