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Why Fortescue Jumped 24% Yesterday: What You Need to Know

Why Fortescue Jumped 24% Yesterday: What You Need to Know
Fortescue signed a non-binding Memorandum of Understanding with Vale S.A, in order to pursue long term opportunities
Mar 08, 2016 By Kaivalya Kandarpa Tags: FMG

Shares of Fortescue Metals Group Limited (ASX:FMG) surged 24% yesterday, underpinned by a 19% rise in iron ore prices overnight. Moreover, the company has entered into a non-binding agreement with Vale and recently announced its financial results for the first half of FY16. 

Fortescue Signs MoU with Vale S.A.

Fortescue signed a non-binding Memorandum of Understanding with Vale S.A, in order to pursue long term opportunities and create additional value for customers in the Chinese steel industry to further enhance the competitiveness of their operations.

This agreement also proposes the formation of one or more Joint Ventures for the blending of selected volumes of iron ore from both companies. The new ‘blended product’  is aimed at improving the efficiency of supply chain functions in the steel industry.

The agreement also provides a framework for potential investment by Vale in Fortescue through a minority acquisition of shares on market or investment in current or future mining assets.

Fortescue Achieves Record Low Production Costs

Fortescue recently released financial results with improved cost guidance and net cash flow from operating activities. However, the company’s underlying EBITDA declined 10% to US$1.3 billion during the interim period. The miner shipped 84 million tonnes for the half year, which is in line with the targeted annual production of 165 million tonnes for FY15.

The company stated that its profitability was impacted by the significant drop in iron ore prices. During the period US$1.13 billion in principal value of debt was repaid early, generating annual interest savings of US$88 million per year.

Capital expenditure for the period was US$88 million (1H15: US$436 million) reflecting productivity improvements, deflation and a lower average foreign exchange rate.

The balance of Fortescue's iron ore prepayments as at 31 December 2015 was US$773 million. An additional US$100 million of new prepayments along with a US$200 million roll-over have been completed since 31 December.

Fortescue’s CFO Stephen Pearce commented on the results: “Our balance sheet remains strong as operation continue to generate positive margins and cashflows. This has enabled us to take advantage of market conditions to reduce net debt by US$1.1 billion to $US6.1 billion and ensure we are well placed to continue with further debt reductions.”

Wise-owl's Take on Fortescue

While FMG is up more than 45% year-to-date, the primary driver for yesterday's jump was the $10 jump in iron ore prices overnight, which conclusively creates a more competitive environment for Fortescue. Investors need to be aware that while the iron ore prices are volatile, it is yet to be seen if the price rise is sustainable. It is also worth noting that while Fortescue has reduced its operating cost per metric tonne to a record low US$ 16/wmt, the total cost is likely to be higher.

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Kaivalya Kandarpa Author: Kaivalya Kandarpa Mar 08, 2016

Kaivalya is an equity analyst and a client advisor at Wise-owl. She specialises in fundamental and technical analysis for large and mid-cap companies. Having completed her bachelor's degree in Business Administration majoring in Finance, Kaivalya has a comprehensive understanding of international stock market movements. She tracks local and overseas markets and compiles analytical reports for various industries.

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