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Fortescue Metals Group is now a cheaper producer of iron ore than Brazil's Vale and is closing the gap on its Pilbara rival BHP, analysts say.
A team of Credit Suisse analysts led by Matthew Hope said Fortescue has bounced back from the company that hedge funds cornered during the iron-ore priced slump of mid 2012.
Fortescue was well placed to ride out recent price volatility, it said. The investment bank is tipping a modest rise in iron ore after last week's flash crash, providing an opportunity for bargain hunters.
Mr Hope said Fortescue's expansion had been fruitful, slashing costs by $US15 a tonne, and by 2015 its cost of production would be $US3 a tonne lower than BHP's.
''FMG's key advantage is its modern port and rail which has all the benefits of 40 years in rail advances over the majors and much better efficiency,'' Mr Hope said.
The price of iron ore plunged more than 10 per cent in two days last week. But managed has managed to recover, fetching about $US111 a tonne.
Analysts are expecting prices to continue to hold up in coming month. But the longer-term outlook is cloudy.
Mr Hope said he expected a modest lift in prices as China's steel mills begin restocking.
But he said ''very high'' crude steel growth of about 7 per cent would be needed to stop an oversupply of iron ore weakening the metal's price.
''It is difficult to envisage another sharp down-leg to the near-term price,'' Mr Hope said.
''On the basis of low mill stocks, it looks likely to us that the next move for the iron ore price will be upwards, provided steel production picks up from February's lows.
''But looking into the second half we are not so sanguine.''
Still, he said Australian iron ore equities were resilient, particularly Fortescue.
He said Fortescue's break even price was the low $US70 a tonne, which would drop in to the $US60s if production costs continue to fall.
''An iron ore price fall of sufficient magnitude to bite into FMG's cost base is outside the range of even the most bearish investors.''
Rio Tinto, BHP Billiton, Arrium and Mount Gibson were benefiting from China's war on air pollution, which has increased demand for high-grade ore, Mr Hope said.
The price of Australian lump has fetched a premium of about $US13 a tonne in the first quarter.
Atlas has become the ''shorts' new favourite'', Mr Hope said, with a cash margin of less than $US10 a tonne when the ore price is at $US100 a tonne.
He said the cash flow ''evaporates'' when the metal's price slips to $US90 a tonne.
''However .... Atlas was net cash positive by $89 million at the end of December and is covenant-lite from the US Term Loan B market, so there is little prospect of debt stress being applied to the company.''
Although Mount Gibson operations had the highest costs and lowest margins, Mr Hope said it was a ''tough nut to crack'', with a cash hoard approaching half a billion dollars and no debt.
It high costs were partly attributed to a lengthy pre-stripping operation at Koolan Island in the Kimberley, which Mr Hope said was approaching its peak.
As a result, Mount Gibson's costs will stay elevated until 2017 ''and then fall quite sharply''.
''If the iron ore price hits $US90 a tonne, MGX will feel pain, but will likely tough it out, confident prices will rebound as it has every other year,'' Mr Hope said.
''MGX's cash box could sustain years of operations and MGX knows that it costs will drop sharply in the future.''
Arrium's debt made it the miner most vulnerable to weak iron ore prices, but Mr Hope said it would take a huge dip.
''With December net debt of $1.975 billion (34 per cent gearing), debt covenants in place, and ARI relying on the iron ore operations to provide a large chunk of the company's earnings, ARI potentially is more exposed to the negative consequences of iron ore volatility than the other miners.
''We assume that the key covenant is interest cover to EBITDA, and the stress level would be 3-3.5x.''
This article first appeared on www.smh.com.au
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