Vale (RIO) pushes China for higher prices

Posted September 4, 2008

"When yearly contracts were made in February at an 86% increase on last year’s prices, China’s steel producers gulped so hard they nearly swallowed their own teeth. But that wasn’t the end of it. Both Rio Tinto and BHP renegotiated their contracts for even higher prices this summer. And now its big brother’s turn." — Stephanie Grimmett

by Stephanie Grimmett

Baltimore — (TFN): Remember back last winter, when the BHP Billiton (BHP:NYSE) bid to takeover Rio Tinto (RTP:NYSE) was sending China’s steelmakers into a tizzy?

They were terrified that the union of BHP, the third largest iron ore producer globally, and Rio Tinto, the second, would create a de facto monopoly on their industry’s most vital raw ingredient. Well, it looks like Chinese steel producers won’t have to wait for that most disadvantageous of unions (for them at least) to watch iron ore prices go through the roof.

When yearly contracts were made in February at an 86% increase on last year’s prices, China’s steel producers gulped so hard they nearly swallowed their own teeth. But that wasn’t the end of it. Both Rio Tinto and BHP renegotiated their contracts for even higher prices this summer. And now its big brother’s turn.

Steelmakers in the People’s Republic just announced that Vale (Companhia Vale do Rio Doce) (RIO:NYSE), the world’s largest iron ore producer, wants to raise prices 13% above the company’s 2008 contract prices.

Currently, China’s steel industry buys "Southern Systems fines" iron ore from Vale at $1.1898 per dry metric ton (a metric ton is about 10% more than a U.S. ton). That’s less than the prices charged by both BHP and Rio Tinto, who get away with charging more because their costs are higher in Australia than Vale’s are in Brazil (since when did that matter in a global market?).

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According to an official at China’s Laiwu Steel, the new price, $1.3441 per dry metric ton, is equal to what Vale’s European and U.S. customers already pay for iron ore, which sounds more like fair trade than the "ridiculous" price gouge the Chinese are taking it for.

But what’s really odd about the situation is the reaction of Vale’s stock. RIO actually sank on the news of possible higher earnings from China. The stock opened sharply lower on Tuesday, and except for a small bounce up on Wednesday morning, it’s been sliding ever since. Today RIO shares have lost another 6.68% (as of 2:30 p.m.).

Perhaps, investors weren’t aware, before now, that Chinese steelmakers were buying their iron ore from Vale, not only at lower prices than Western companies were paying, but also at lower prices than Rio Tinto and BHP Billiton were charging. That’s a lot of profits the company could have been collecting and didn’t in the last six months.

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