FIIG - The Fixed Income Experts

News and Education

Fortescue - explaining the various cost and price metrics

by Alen Golubovic | Mar 20, 2015

There are numerous figures floating around on Fortescue and iron ore regarding various prices and costs, which has understandably caused some confusion. Due to frequently asked questions we have formed a basic summary of what the different price and cost metrics mean within the sector.

Iron ore production levels (wet vs dry)

  • Production is usually quoted in terms of wet metric tonnes (wmt), and the iron ore price is based on dry metric tonnes (dmt)
  • To adjust from wet to dry tonnes, an 8% reduction is applied to the wet tonnes to adjust for moisture content
  • It’s important to understand whether something is being quoted in ‘dmt’ or ‘wmt’

Iron ore price – index vs realised price

  • The usually quoted iron ore price seen in the media is based on the index price using a 62% ferrous content (a benchmark measure of the quality of the ore)
  • The realised price iron miners get for their product is not the index price – their realised price will depend on the relative quality of their product to the index benchmark
  • Fortescue’s delivered price is adjusted for its quality and lower ferrous content – it has historically been able to sell its product at an 85% discount to the index price
  • So if the iron ore index price is at US$58/dmt, Fortescue will be realising a price of about US$58 x 85% = US$49.3/dmt on its iron ore

C1 Cost

The C1 cost represents the ‘direct’ production costs of iron ore and is a commonly quoted figure. However, it does not represent the full cost of production. Fortescue’s C1 cost guidance for the second half of FY15 is US$25-26/wmt.

Delivered cost 

The delivered cost includes the C1 cost, plus shipping, royalties and overhead costs. Fortescue’s delivered cost guidance for the second half of FY15 is US$35/wmt.

All-in cash cost

The all-in cash cost is the delivered cost, plus interest and sustaining capital expenditure. Fortescue’s all-in cash cost guidance for the second half of FY15 is US$41/wmt. The extra US$6/wmt above delivered cost is made up of interest at US$4/wmt and sustaining capex at US$2/wmt. It’s worth noting that interest is actually a relatively small part (<10%) of Fortescue’s overall cost of production – therefore it’s all-in cash cost is not overly sensitive to changes in its cost of funds.

Free cash flow breakeven price 

  • The free cash flow breakeven price generally means the index price level at which Fortescue is producing at breakeven on an all-in cash basis
  • To determine the breakeven price, the first step is to adjust the all-in cost from ‘wet’ to ‘dry’ tonnes – so US$41/wmt is equivalent to US$45/dmt
  • The next step is to gross up by the 85% product discount to get to an breakeven index price - so US$45/dmt / 85% = US$53/dmt which is the often quoted breakeven
  • Some analysts also make a further adjustment for prepayments. This is where Fortescue has received cash upfront to deliver future tonnages

The relationship between currency and Fortescue’s costs 

  • Fortescue’s 2H15 cost guidance of between US$25-26/wmt assumes an average exchange rate of 0.80
  • Fortescue's cash costs of production benefit from a weaker Australian dollar – so bondholders get a double benefit from a weaker Australian dollar
  • The company has guided that every 1c weakening in the currency leads to a US$0.25-0.30 reduction in cash costs
  • So if the currency is at 0.70, Fortescue’s C1 cost would reduce by about a further US$2.50/wmt below its 2H15 C1 cost guidance of US$25-26/wmt

The relationship between oil prices and Fortescue’s costs 

  • Fuel and energy costs make up approximately 12% of total C1 costs
  • Lower oil prices reduced C1 costs by approximately US$0.26/wmt in the December 2014 quarter.
  • Fuel and energy costs also have a significant impact on the cost of shipping which averaged US$8.50/wmt in the December 2014 quarter

For more information on Fortescue or the securities on offer you can contact your FIIG Representative.

Copyright The contents of this document are copyright. Other than under the Copyright Act 1968 (Cth), no part of it may be reproduced or distributed to a third party without FIIG’s prior written permission other than to the recipient’s accountants, tax advisors and lawyers for the purpose of the recipient obtaining advice prior to making any investment decision. FIIG asserts all of its intellectual property rights in relation to this document and reserves its rights to prosecute for breaches of those rights.

Disclaimer Certain statements contained in the information may be statements of future expectations and other forward-looking statements. These statements involve subjective judgement and analysis and may be based on third party sources and are subject to significant known and unknown uncertainties, risks and contingencies outside the control of the company which may cause actual results to vary materially from those expressed or implied by these forward looking statements. Forward-looking statements contained in the information regarding past trends or activities should not be taken as a representation that such trends or activities will continue in the future. You should not place undue reliance on forward-looking statements, which speak only as of the date of this report. Opinions expressed are present opinions only and are subject to change without further notice.

No representation or warranty is given as to the accuracy or completeness of the information contained herein. There is no obligation to update, modify or amend the information or to otherwise notify the recipient if information, opinion, projection, forward-looking statement, forecast or estimate set forth herein, changes or subsequently becomes inaccurate.

FIIG shall not have any liability, contingent or otherwise, to any user of the information or to third parties, or any responsibility whatsoever, for the correctness, quality, accuracy, timeliness, pricing, reliability, performance or completeness of the information. In no event will FIIG be liable for any special, indirect, incidental or consequential damages which may be incurred or experienced on account of the user using information even if it has been advised of the possibility of such damages.

FIIG provides general financial product advice only. As a result, this document, and any information or advice, has been provided by FIIG without taking account of your objectives, financial situation and needs. FIIG’s AFS Licence does not authorise it to give personal advice. Because of this, you should, before acting on any advice from FIIG, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If this document, or any advice, relates to the acquisition, or possible acquisition, of a particular financial product, you should obtain a product disclosure statement relating to the product and consider the statement before making any decision about whether to acquire the product. Neither FIIG, nor any of its directors, authorised representatives, employees, or agents, makes any representation or warranty as to the reliability, accuracy, or completeness, of this document or any advice. Nor do they accept any liability or responsibility arising in any way (including negligence) for errors in, or omissions from, this document or advice. FIIG, its staff and related parties earn fees and revenue from dealing in the securities as principal or otherwise and may have an interest in any securities mentioned in this document. Any reference to credit ratings of companies, entities or financial products must only be relied upon by a ‘wholesale client’ as that term is defined in section 761G of the Corporations Act 2001 (Cth). FIIG strongly recommends that you seek independent accounting, financial, taxation, and legal advice, tailored to your specific objectives, financial situation or needs, prior to making any investment decision. FIIG does not make a market in the securities or products that may be referred to in this document. A copy of FIIG’s current Financial Services Guide is available at
www.fiig.com.au/fsg.

An investment in notes or corporate bonds should not be compared to a bank deposit. Notes and corporate bonds have a greater risk of loss of some or all of an investor’s capital when compared to bank deposits. Past performance of any product described on any communication from FIIG is not a reliable indication of future performance. Forecasts contained in this document are predictive in character and based on assumptions such as a 2.5% p.a. assumed rate of inflation, foreign exchange rates or forward interest rate curves generally available at the time and no reliance should be placed on the accuracy of any forecast information. The actual results may differ substantially from the forecasts and are subject to change without further notice. FIIG is not licensed to provide foreign exchange hedging or deal in foreign exchange contracts services. The information in this document is strictly confidential. If you are not the intended recipient of the information contained in this document, you may not disclose or use the information in any way. No liability is accepted for any unauthorised use of the information contained in this document. FIIG is the owner of the copyright material in this document unless otherwise specified.

The FIIG research analyst certifies that any views expressed in this document accurately reflect their views about the companies and financial products referred to in this document and that their remuneration is not directly or indirectly related to the views of the research analyst. This document is not available for distribution outside Australia and New Zealand and may not be passed on to any third party without the prior written consent of FIIG. FIIG, its directors and employees and related parties may have an interest in the company and any securities issued by the company and earn fees or revenue in relation to dealing in those securities.