Retaining Vale's FVE at USD 14.50 Per Share; Shares Undervalued

Equity Analyst

Jon Mills

Vale is the world's largest iron ore miner and a key supplier to the global steel industry. It is leveraged to Chinese raw materials demand, which we expect to slow as the country's infrastructure-led investment boom wanes and as recycled steel becomes a growing source of supply. 

Vale is dominated by its exposure to iron ore which accounts for the vast majority of forecast midcycle group EBIT in 2027. Vale’s iron ore business is mainly located in Brazil and produces ore with an average iron content of 63%-64%, higher than the 62% benchmark. However, Vale’s position on the seaborne iron ore cost curve is middling, higher than Rio Tinto and BHP but better than Fortescue, Anglo American and the smaller producers when adjusted for the grade premium.

Vale’s cost disadvantage relative to BHP and Rio Tinto stems primarily from the additional cost of shipping iron ore to China from Brazil versus Western Australia. It has invested in a fleet of very large ore carriers (Valemaxes) which somewhat mitigate this freight disadvantage. 

We expect the breakeven cost curve to materially flatten by midcycle, a function of likely lower demand as China's economy matures, loss of market share by high-cost producers, greater efficiency from the miners, and, for Vale, a recovery in output following restrictions from tailings dam failures and the coronavirus. Failure of the tailings dam at Brumadinho in January 2019 brought environmental and humanitarian liabilities along with elevated attention to its social licence. We think Vale will do what is needed to support its licence to operate given its importance. 

The base metals division accounts for approximately 15% of forecast midcycle EBIT in 2027. It comprises the company’s nickel mines and smelters along with its copper mines. Copper cash costs are close to the industry median, but nickel assets have at times made EBIT losses when prices are low. Almost half of Vale's asset base, after adding back asset impairments, sits outside the most profitable iron ore assets. Diversification away from these was value-destructive.

Business Strategy & Outlook

As a commodity producer, Vale is a price taker and needs low-cost mines with long lives and a low installed capital base to support the longer-term excess returns needed to justify an economic moat. We forecast midcycle returns on invested capital, or ROIC, of around 9%, below its WACC of about 9.5%. Vale’s bulk materials (primarily iron ore) segment accounts for about 85% of midcycle EBIT but ROIC is weighed down by its base metals business which generates low returns on its invested capital base. Our forecast is based on assumed midcycle prices from 2027 of roughly USD 60 per metric ton for iron ore (which we note is materially less than the average price of around USD 100 per metric ton over the past decade) and USD 3.10 per pound for copper, based on our estimates of the marginal costs of production. We also assume nickel prices of about USD 8.50 per pound from 2024 based on spot. As Vale’s midcycle ROIC is below its WACC, we don’t assign a moat to Vale.

In calculating ROIC, we have added back to invested capital about USD 31 billion in asset and intangibles writedowns taken over the past decade on the basis that these amounts relate to assets developed or acquired in the ordinary course of business and so should be included when calculating ROIC. Some of the more material amounts include USD 11.8 billion in relation to nickel, USD 7 billion in relation to coal and USD 5.6 billion in relation to fertilizers. If we instead chose not to add back any writedowns, Vale’s midcycle ROIC would be around 14% compared with its WACC of around 9.5%. 

Looking at each of Vale’s segments in turn: 

Bulk materials (no moat): Vale’s ore has an average iron content of around 63%-64%, higher than the 61%-62% produced by BHP and Rio Tinto and the 57%-58% produced by Fortescue. As such, it generates a premium compared with the 62% benchmark price. However, Vale’s iron ore assets have cash costs that place it around the middle of the seaborne iron ore cost curve, above its lower-cost competitors including BHP and Rio, but better than Fortescue once the latter’s lower-quality ore (lower iron content) is taken into account. Anglo American and other smaller competitors also sit to the right of Vale on the industry cost curve. Vale’s competitive disadvantage versus its lower cost Australian competitors is due to higher freight costs incurred to ship its ore to China, which accounts for around two-thirds of annual seaborne iron ore demand. With substantial resources, we think new mines will be periodically developed to continue to feed and utilize the installed infrastructure base of Vale’s three iron ore systems. The remainder of the bulk materials segment is relatively immaterial, comprising ferroalloys and manganese, and other ferrous products and services, with the company exiting the coal sector in March 2022 after selling its Moatize operations in Mozambique. While we forecast these operations will generate positive earnings overall, they are small and are likely to generate returns well below the company’s cost of capital. We estimate that the bulk materials segment will produce around 85% of midcycle EBIT. However, the iron ore operations’ middling position on the industry cost curve mean we think it unlikely to generate returns above Vale’s cost of capital. 

Base metals (no moat): The segment has an inflated capital base due to the purchase of Canada’s Inco in 2006 and the subsequent development of high-cost mines in Brazil and New Caledonia. Both the nickel and copper operations lack a cost advantage, with both located toward the upper end of the relevant industry cost curves. We forecast nickel production to rise to around 240,000 metric tons in 2027, up from about 180,000 metric tons in 2022, driven by the recovery of production at the Sudbury mine in Canada after recent strikes and maintenance. We forecast copper production to increase to about 410,000 metric tons in 2027, up from around 250,000 metric tons in 2022, driven by increased production at Salobo in Brazil after recent maintenance there too. This will likely lead to cash operating costs for both nickel and copper falling, but the company’s operations are likely to remain middling at best on the respective industry cost curves. At our forecast midcycle nickel price of USD 8.50 per pound from 2024 and midcycle copper price of about USD 3.10 per pound from 2027, we forecast the base metals segment will produce around 15% of midcycle EBIT. As we forecast low-single-digit returns on invested capital from midcycle, we don’t deem the base metals segment as moatworthy either. 

Exploration projects (no moat): These are an immaterial part of Vale and way too early in their potential development to assign any of them a moat. However, for context, Vale’s expenditure is relatively modest relative to earnings, spending about USD 660 million in 2022 versus about USD 17 billion in EBIT.

None

Economic Moat

Vale S.A.

Vale SA engages in the production and exportation of iron ore, pellets, manganese, and iron alloys. It operates through the following segments: Ferrous Minerals, Base Metals, and Coal. The Ferrous Minerals segment includes the production and extraction of iron ore, iron ore pellets, manganese, other ferrous products, and logistic services. The Base Metals segment involves the production and extraction of nickel and its by-products. The Coal segment consists of the production and extraction of metallurgical and thermal coal and its logistic services. The company was founded on June 1, 1942 and is headquartered in Rio de Janeiro, Brazil.

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Vale's iron ore investment thesis remains robust, attributed to the tighter supply and the growing Chinese imports/moderating port-side inventory levels. The producer has also made great efforts to improve its iron ore quality to capture the premium gap, naturally contributing to its expanded realized prices and bottom lines. Market watchers expect the higher quality iron ore/pellets to command an increasing price premium by over +20% through the next decade.

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(Kitco News) - Brazilian miner Vale (NYSE: VALE) yesterday announced the successful completion of the throughput test for the first phase of the Salobo III project, with the Salobo complex exceeding an average of 32 Mtpa over a 90-day period.

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VANCOUVER, BC and TORONTO , Nov. 21, 2023 /PRNewswire/ - Wheaton Precious Metals™ Corp. ("Wheaton" or the "Company") (TSX | NYSE | LSE: WPM), Wheaton Precious Metals International Ltd. ("Wheaton International") and Vale Base Metals Limited ("VBM") (NYSE:VALE) are pleased to announce the successful completion of the throughput test for the first phase of the Salobo III expansion project, a significant milestone that demonstrates increased reliability and continued strong performance at VBM's flagship copper project in Brazil.

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Vale (VALE) reports year-over-year growth in third-quarter 2023 revenues on higher iron ore and copper sales volume, and increased average realized prices for iron ore and copper.

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Vale's Q3 results, characterized by a 7.8% sequential increase in EBITDA and 11.2% annual growth, reflect a robust recovery driven by favorable seasonality and rising iron ore prices. The company's disciplined capital allocation strategy, positive valuation metrics (trading below historical averages), and a 6% dividend yield for 2023 make it an attractive investment opportunity. Despite market challenges and dependency on Chinese demand, Vale's resilience in generating cash, repurchasing shares, and delivering dividends underpins the bullish thesis.

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Vale SA (NYSE:VALE ) Q3 2023 Earnings Conference Call October 27, 2023 10:00 AM ET Company Participants Eduardo de Salles Bartolomeo - President & CEO Gustavo Pimenta - EVP, Finance & IR Carlos Medeiros - EVP, Operations Marcello Spinelli - EVP, Iron Ore Deshnee Naidoo - EVP, Base Metals Conference Call Participants Carlos De Alba - Morgan Stanley Caio Ribeiro - Bank of America Merrill Lynch Daniel Sasson - Itaú BBA Myles Allsop - UBS Tyler Broda - RBC Capital Markets Rafael Barcellos - Santander Leonardo Correa - BTG Pactual Operator Good morning, ladies and gentlemen. Welcome to Vale's conference call to discuss the third quarter results of 2023.

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News for Vale S.A. Stock (VALE)