Rio Tinto Ltd. (RTP) could allow some of its iron ore contracts
with Chinese steel makers to expire and sell the ore on the spot
market if a pricing agreement isn't reached by the end of Tuesday,
analysts said.
Failure to strike a price by the deadline would be another nail
in the coffin of the ailing benchmark pricing system and could help
herald in a more regular repricing of the key steel making input, a
move favored by the likes of major producer BHP Billiton Ltd.
(BHP).
Rio Tinto has already settled annual contract price cuts of
between 33% and 44% with steel mills in Japan, Taiwan and South
Korea but the China Iron & Steel Association, leading the
negotiations for the Chinese mills, is holding out for deeper price
cuts.
Speaking to reporters during a recent conference, Rio Tinto Iron
Ore Chief Executive Sam Walsh said some of the miner's contracts
will expire on June 30, leaving steel mills to subsequently
purchase iron ore in the spot market.
Rio Tinto spokesman Gervase Greene on Tuesday declined to
discuss details of the miner's contracts with Chinese mills but
said one option is for Chinese steelmakers to buy their ore on the
spot market instead of through long-term contracts.
"We have been a longtime supporter of the benchmark system but
if the customers do opt to buy on the spot market instead, then
they will be able to," he said.
Talks with customers who have not yet settled are continuing,
the spokesman said, and Rio Tinto will continue to deliver iron ore
to its customers and could do so through a number of methods,
including spot sales and long-term contracts.
One analyst, who didn't want to be named, said that unless CISA
backs down and accepts the new benchmark price tonight, he believes
Rio Tinto is likely to allow the contracts to expire and let them
revert to spot sales.
The other two major iron ore producers - BHP and Vale S.A.
(VALE) - have less contracts expiring on June 30 and are sitting
back and letting Rio and CISA hammer out an agreement, he said.
Rio's Walsh said earlier this month that the June 30 deadline
had last year acted to accelerate a price settlement to nearly
double prices on the year.
Once a contract expires, it needs to be negotiated from scratch.
It's also not clear what will happen to tonnages supplied on a
provisional basis, one analyst said.
The benchmark system runs from April 1 to March 31, the Japanese
financial year. Should annual talks not settle before April 1, as
is frequently the case, miners supply ore on a provisional basis
that is later adjusted according to the eventual benchmark
price.
ANZ Senior Commodity Strategist Mark Pervan said that while the
details of the structure of Rio's contracts remains hazy, it now
looks likely those with a June 30 deadline could well be allowed to
expire, unless CISA backs down.
China has built up a large stockpile of about 100 million metric
tons of ore that could feed the local steel industry for three or
four months, and this buffer could embolden CISA to go past the
deadline and risk contracts expiring, Pervan said.
Ore could be sold on a spot basis for a period while the parties
hammer out a restructured pricing system but, with China being the
world's biggest consumer of ore and Rio the second biggest
supplier, an agreement would eventually have to be struck.
"Whether they annul or not, the point is that they need to sell
to the same customer," Pervan said.
Spot prices for Australian iron ore are now more than US$85 a
metric ton, Pervan said, which is above the landed price under the
new settlement between Rio Tinto and Japanese mills of about US$80
a ton.
This means that if contracts revert to spot, Rio will be
receiving more for ore sold right now than it would be if Chinese
mills accepted the Japanese prices.
Perth-based broker Patersons said that if steel mills are forced
to buy at spot prices, they will be paying a premium of between 7%
and 8% to the Japanese benchmark price.
"Factor that into assumptions for sale prices of iron ore
companies like Fortescue Metals Ltd. (FMG.AU) and Mt. Gibson Iron
Ltd. (MGX.AU) who sell 80%-100% into China and you would be looking
at significant upgrades," Patersons said in a client note.
RBS analyst Warren Edney said the bigger impact for both miners
and steel mills would be the lack of certainty for planning of
volumes of the bulk material if long term contracts were
scrapped.
"It's important for producers as well as consumers to know what
tonnages are needed, and will arrive," said Edney.
So far this year, China has imported 41% of its iron ore from
Australia, 20% from Brazil, 5% from South Africa and 22% from India
and Edney said it would need to keep importing Australian ore to
feed its steel industry as it pushed to maintain GDP growth.
BHP Billiton declined to comment on its iron ore negotiations,
which it said were ongoing.
-By Alex Wilson, Dow Jones Newswires; 61-3-9292-2094;
alex.wilson@dowjones.com
(Elisabeth Behrmann in Sydney contributed to this report)
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