Lovely ! Fairfax Concedes & Does U-Turn
THERE were plenty of investors in Fortescue who lost a lot of money yesterday - not because the share price fell but because it rose by a massive 17 per cent.
There had been a huge bet placed on Andrew Forrest's West Australian iron ore producer collapsing under a weight of debt - unable to trade profitably in the face of a tumbling iron ore price.
Investors have been engaged in the exercise of punting on a share price decline. It's called short selling, and for months those who have invested in this trade have been making a killing.
But yesterday the tables turned. The company announced a major financial restructuring - which came back to bite the short-sellers who, according to Forrest, had ''engaged in an exercise of misinforming the market''.
Advertisement Almost 14 per cent of the shares
in Fortescue that are not owned by Forrest have been shorted. These players now need to scramble back into the market to soak up Fortescue shares to cover these short positions.
As they do so, the stock gets pushed up even further and those who have not closed out their positions could be further burnt.
Shorting shares is not a particularly unusual form of investing. Typically companies whose businesses or finances are under pressure are prey. Retail companies like JB Hi-Fi and Harvey Norman and Fairfax Media, owner of The Age, are classic examples.
The difference with Fortescue is that the average number of days the shorts have to cover their positions is about four. In other words, it is a short-term trade.
In the case of the other companies mentioned, the days to cover are significantly longer - a month or months - suggesting a short bet is on a longer-term decline.
It has been a battle royal between the shorts and Forrest (and ordinary shareholders) in whose interests it is for the share price to rise. The fight really swung into action a few months ago when the iron ore price started to fall off a cliff. Forrest's response was to wade into the market himself and offer some price support.
It failed to halt the slide. He tried again a few weeks back, again to no avail. A major US hedge fund run by Jim Chanos added to the pressure - branding Fortescue a ''value trap''.
Until three weeks ago the company had been desperately pushing to finish the last stages of its project development and infrastructure to enable it to reach its 155 million tonnes a year production target. It appeared to lose its race against time and instead announced it would put a lid on its capital expenditure, and undertake asset sales and cost-cutting to conserve its cash.
To the extent it found a stockmarket reprieve it was short-lived. Ultimately Fortescue required the cash generated by this production target to pay down short-term debt.
While curbing expenditure and focusing on lower cost mines bought the company some time, it would only make for a meaningful solution if the price of iron ore staged a recovery.
Fortescue's chief executive, Nev Power, was banking on the iron ore price moving from $US90 a tonne to around $US120.
But the crunch hit last Thursday afternoon when a media report said that Fortescue was trying to renegotiate its banking covenants - which sent the stock price down 15 per cent in a matter of minutes and the management placed the shares in a trading halt.
The media and analysts punished the company for its lack of disclosure.
Forrest, meanwhile, who had been in China earlier in the week, had moved to New York and was in the throes of a large-scale recasting of the company's banking arrangements.
The media leak had contained only half the story - the other part was significantly more positive. A new $US4.5 billion, five-year banking facility will replace existing bank debt and will contain no covenants and subject to repricing. While the cost of this debt will be roughly equivalent to (or a little lower than) that which it replaces, it will be secured over Fortescue's assets.
The move certainly buys the company some time.
Over the past week, in response to a stimulus package announced by the Chinese government, there have been some positive moves in the iron ore price, which by yesterday had edged up to $US106.5 a tonne.
But even at these levels there remain risks for Fortescue, which now has more than $US9 billion in debt, even though much of this has not been drawn down.
The company has made it clear enough that it has another log that it can hollow if the need requires it - finding partners for some assets.
In other words, it has been talking to outside parties about selling parts of the company's core assets - either mines or infrastructure.
What is not in contemplation is any kind of equity issue. Many investors believe this is due to Forrest's disinclination to have his 32 per cent interest diluted.
The company says this is because the share price does not reflect the value of the assets - particularly the railway, rolling stock and port.
Both are undoubtedly true.
Read more: http://www.smh.com.au/business/miners-recovery-turns-tables-on-shortsellers-20120918-264pn.html#ixzz26rbyV8ab
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