13/11/2007 - 22:00

Rinehart, Forrest the winners

13/11/2007 - 22:00

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Gina Rinehart and Andrew Forrest, despite their obvious differences, have two characteristics in common – they both enjoy taking BHP Billiton and Rio Tinto to court over railway access and other matters.

Rinehart, Forrest the winners

Gina Rinehart and Andrew Forrest, despite their obvious differences, have two characteristics in common – they both enjoy taking BHP Billiton and Rio Tinto to court over railway access and other matters.

However, as Briefcase sees recent events, both Ms Rinehart and Mr Forrest (despite all the legal mumbo-jumbo) should be thanking the big boys of mining, and potential merger partners, for making them even richer than they already are.

Ironic as it sounds, Ms Rinehart and Mr Forrest are the biggest winners from two recent events in the iron ore world.

First, they will both benefit from any price rise negotiated by the iron ore majors in the current round of price and tonnage talks under way in China.

Second, they will both benefit from a merger of BHP Billiton and Rio Tinto, because integration of the iron ore divisions of two big Pilbara miners would cement, for decades to come, producer control of the sales process.

Moan, groan, and mutter as darkly as they like, Chinese iron ore buyers would find a merged Pilbara duo impossible to shift on price.

Like oil, which is controlled by a handful of producers, iron ore would be in a sellers’ market until consumers can encourage increased output to counter the dominance of a merged BHP/Rio – and perhaps that will never happen given the worldwide scramble for resources of every type.

Consider Ms Rinehart’s and position in what’s about to happen.

•••

Sometime in the next few weeks the first loaded iron ore wagons roll down the Lang Hancock rail spur from the Hope Downs mine, which is half owned by Ms Rinehart and Rio Tinto – and named, respectively, after her father and mother.

If all goes to plan, and running a railway and ore loading system is not rocket science, Ms Rinehart is scheduled to be the proud owner of 50 per cent of a mine producing 22 million tonnes of iron ore in its first few years.

Over time, Hope Downs will expand. But, for the sake of simplicity (not to mention the debate over when is enough, enough) let’s assume Ms Rinehart has 11mt of iron ore to her name in 2008 and beyond.

Now, let’s get grubby and figure out what it’s worth.

Using Rio Tinto’s numbers as a guide, that 11mt of premium quality iron ore will sell for about $650 million.

More importantly, the profit margin (also using Rio Tinto’s margins as a guide) will be about 50 per cent on an EBITDA basis (earnings before interest, tax, depreciation and amortisation) and about 33 per cent on a net basis.

At the EBITDA level, Ms Rinehart will be booking a handsome annual profit of $325 million. At the net profit level it should be about $217 million – give or take a few million either way.

But, as the man selling steak knives says, there’s more – and the list looks like this:

• the cash from Hope Downs will be Ms Rinehart’s first recurrent income from iron ore mining;

• it will get better thanks to BHP Billiton and Rio Tinto pushing for a big price rise next year;

• it will continue to get better as Hope Downs expands; and

• it will get astonishingly better when Ms Rinehart launches her second and third mines, such as the rapidly emerging Roy Hill, and the less advanced Mulga Downs.

Once that first train leaves the Hope Downs siding, the numbers swirling around Ms Rinehart explode. Valuing her, and the family fortune, might even require Briefcase to buy a new calculator with extra zeros on it, such is the jaw-dropping wealth.

That initial 11mt of iron ore, and the EBITDA income of $325 million, could be sold tomorrow as a high-quality (long-life) earnings stream for a minimum of $4 billion – using a 12-times multiple, which is probably conservative in a resources boom.

To save readers time opening their own calculators, when Hope Downs doubles (which it will) Ms Rinehart’s profit share rises to $650 million a year, and her personal net worth rises to $7.8 billion – a number that slides her quietly by James Packer and his lowly $7.25 billion.

From that point on it becomes rather meaningless; just assume that Ms Rinehart is on her way to the title of Australia’s richest person, male or female.

•••

If there is anyone who can catch her it’s the other emerging iron ore giant of Perth’s western suburbs, Andrew Forrest.

While not having personal ownership of an asset, like Ms Rinehart, Mr Forrest has the advantage of leverage that comes from being exposed to a publicly listed company where the multiples are much higher.

Right now, and despite a sharp share price fall late last week followed by an even sharper recovery, Mr Forrest is a $5 billion man.

Whether that number rises or falls as his Fortescue Metals Group moves closer to production will be one of the fun parts of being a sideline observer over the next 12-months.

While popular wisdom says that actually shipping out the first tonnes of ore should boost FMG’s value, reality can be quite different; a sort of variation on the ‘better to travel than to arrive’ fact of life.

Disregarding this year, or next, FMG’s plans are big, stretching out to beyond the 100mt mark – with success now virtually assured thanks largely to the two big boys of iron ore (and legal sparring partners), BHP Billiton and Rio Tinto.

The reason Mr Forrest should be thanking (and not suing) his mega rivals is because of the way they are teaming with the big Brazilian, CVRD, to push for a whopping iron ore price rise next year.

Whether the increase is 40 or 50 or 60 per cent is largely irrelevant. The message sent from any big price increase (which is partly to offset the crumbling value of the Australian dollar) is that China had better get its skates on and encourage new sources of supply.

This fact of supply shortage produces two avenues of profitability for Mr Forrest (a sort of win-win with him getting it both ways):

• the higher price simply underpins FMG’s profits and expansion; and

• the higher price (and, by definition supply shortage) means someone in China will be thinking about writing out a large cheque and buying FMG.

Why might the takeover of FMG happen?

Because (a) the BHP/Rio merger talks will have started everyone thinking about mergers, (b) a combined BHP/Rio will frighten the pants off the Chinese, and (c) China would love to own an iron ore project immediately adjacent to its price-gouging suppliers.

•••

“I never vote for anyone. I always vote against.” WC Fields

STANDING BY BUSINESS. TRUSTED BY BUSINESS.

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