Steelmakers agree new iron ore contractsBy Peter Smith in Sydney...

Steelmakers agree new iron ore contracts
By Peter Smith in Sydney and Javier Blas in London
Published: March 30 2010 05:57 | Last updated: March 30 2010 11:15
Global miners and key Asian steelmakers have agreed to a record increase in iron ore prices after they signed deals to replace the 40-year-old pricing system based on annual contracts with new short-term deals linked to the spot market.

The landmark move by Vale of Brazil and Anglo-Australian BHP Billiton ends the so-called benchmark system which has been in place since the early 1960s. Rio Tinto has yet to sign any new contract, but executives expect it to follow soon.

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Iron ore is the main ingredient used to make steel. The new agreements meant that steelmakers would pay about $110-$120 a tonne next quarter for their iron ore, a 90-100 per cent increase from the $60 level at which the 2009-10 annual contracts were settled, industry executives said. Prices are likely to rise again later in the year.

Executives said that leading Japanese steel producers and several Chinese large steelmakers had signed to the new quarterly contracts. The European steelmakers have yet to sign any new quarterly contracts, the executives added.

�The benchmark system has ended. There is no comeback to annual pricing and negotiations,� said a senior executive directly involved in the talks.

Under the traditional iron ore pricing system, in place for the past four decades, the first price agreed between a miner and a major steelmaker became a benchmark followed by the rest of the industry for a year. Because the cost of iron ore affects steel prices and, ultimately, the cost of everyday goods, from cars to washing machines, the talks had been the most important commodity price negotiations for the gobal economy.

Brendan Harris, a mining analyst at Macquarie, said the shift from benchmark contracts to quarterly pricing was a �momentous� day. �It�s not every day that the pricing terms for one of the core commodities in world trade change,� he wrote in a note to clients.

The miners and steelmakers provided little detail of the new price structure, with some saying details were still being ironed out. BHP said in a brief statement on Tuesday that a �significant number� of Asian steelmakers had agreed to move from the 40-year-old pricing system based on annual contracts towards shorter-term pricing.

The Anglo-Australian miner, the world�s third-biggest iron ore exporter, has lobbied for years to change the pricing mechanism used around the world. Vale of Brazil and Rio Tinto have joined the call more recently, adding momentum to the change.

The shift to short-term deals will benefit Rio Tinto and BHP in particular, as they are set to cash in higher prices due to lower freight costs. It cost about $11 a tonne to ship iron ore from Australia to China, compared with about $25 a tonne from Brazil.

Steel executives said that Japanese steelmakers Nippon Steel and Sumitomo Metal have also provisionally agreed to buy iron ore from Vale on a quarterly basis at a price close to 90 per cent higher than the 2009-10 annual contract price. A person with knowledge of the matter on Tuesday said Nippon Steel had provisionally agreed to buy Vale�s iron ore for a price of $100 to $110 a tonne for the three months to June.

Sumitomo said it had agreed to the same terms but warned that the price could change depending on movements in the spot market during the next three months. On Tuesday, spot iron ore prices hit a fresh 18-month high of $150.5 a tonne on the back of strong demand from China and lower supplies from India.

Executives said the quarterly prices would be charged based on the average spot market, with each steelmaker using different formulas. The Japanese steelmakers� price for next quarter is mostly based on the average of December-January-February, while some Chinese mills will pay next quarter the average of January-February-March. A few other steelmakers will pay the average price over the past month and a half.

Talks to set an annual benchmark price for 2010-11 turned acrimonious last year when China refused to accept prices the miners had agreed with Japanese and European steelmakers and demanded a 45 per cent cut in benchmark iron ore prices.

The dispute threatened to hurt Sino-Australian relations when Stern Hu, Rio�s former top iron ore salesman in China, was arrested in Shanghai. On Monday, Mr Hu, an Australian national, was convicted of bribery and stealing commercial secrets that revealed the position of the China Iron and Steel Association, the lead Chinese negotiator, during the fractious negotiations. Baosteel, which this year is representing China in the talks, this month opened the door to a shake-up of the annual pricing mechanism when it said it would be �reasonable� to change the system.

�I think Chinese mills may well prefer to agree a quarterly price below current spot levels, rather than risk talks breaking down and being forced to pay more on the spot market,� said Rafael Halpin, research analyst of Steel Business Briefing in Shanghai.

South Korea�s Posco, the world�s fourth-largest steelmaker, said on Tuesday its talks with Vale continued. �Major suppliers are asking for quarterly contracts instead of annual ones ... their voice is gaining more weight,� Posco said.

Additional reporting by Robin Harding and Jonathan Soble in Tokyo, Song Jung-a in Seoul and Patti Waldmeir in Shanghai

Copyright The Financial Times Limited 2010.