Ocean Equities ViewSource of the opportunityRecent joint venture...

Ocean Equities View
Source of the opportunity
Recent joint venture agreements and news flow regarding settlement of annual contract prices has renewed focus on the Australian iron ore sector. Iron ore production from the Pilbara remains BHPB and RIO’s cash cows and the recently proposed BHPB/RIO and Fortescue/BC Iron JV’s (both announced Friday June 5th) highlights the significant value of tier 1 iron ore assets, the favourable economics of these operations, and the value that can be unlocked from negotiating commercial agreements.

The significance of these two JV announcements can be partly seen in the increase in capitalisation of the Pilbara junior iron ore sector, which increased by A$1.2b or 13% on the day, while BHPB and RIO’s market caps increased A$22.6b or 8%. This week most of the Pilbara iron ore juniors have rallied further as the market has digested the greater implications of these developments and has also began speculating on: the next possible transaction; implications of BHPB/RIO’s relationship with China; 3rd party access finally being provided by BHPB and RIO’s rail networks; and further Chinese investment in the sector.

In the last month there have been a number of significant developments which supports our positive view on the Pilbara iron ore junior sector, and believe a recent structural change in the supply of iron ore to the Chinese steel mills over the last 6 months is very positive for the Australian producers and, in our opinion, reduces the downside risk to iron ore pricing in the short to medium term.

Analysis
In our view the Fortescue/BC Iron and BHPB/RIO joint ventures provide two very clear and alternative strategies for iron ore developers in this region. Australia’s iron ore industry since the 1960’s has been built on ground breaking deals and we expect the rate of commercial agreements to accelerate given the current favourable margin environment for iron ore, rapidly increasing maturity of the junior sector, and the potential opening up of BHPB and RIO’s rail networks. Furthermore, we believe that the proposed BHPB/RIO JV illustrates a very important change in that deals are likely to be increasingly done domestically and that Fortescue is set to become of a greater importance for foreign strategics given its existing infrastructure network and being the only alternative large volume Australian/Asian sourced iron ore supplier.

In this report we analysis the potential for the Pilbara iron ore juniors to benefit from a JV or commercial haulage agreement with Fortescue, BHPB and RIO. A summary of our findings are:

· Stock’s best positioned to benefit from Fortescue’s multi-user infrastructure and potential to do a BC Iron type JV are: Atlas Iron, United Minerals Corp, and Brockman Resources.
We believe Fortescue’s multi-user infrastructure policy offers a potential fast track, low risk, capital efficient option for developers. In our view Fortescue has a greater incentive to look at various Pilbara development companies than either BHPB or RIO even though their respective regional locations may mean that these projects have more favourable economics and scale.


· Stocks best positioned to do a commercial deal with BHPB and RIO in the next 6 to 12 months are: Iron Ore Holdings and United Minerals Corp.

· Stocks best positioned to benefit from legislation resulting in 3rd party rail haulage in the next 12 to 24 months are: Ferraus and Brockman Resources.

The formation of a BHPB/RIO JV would require amendments to existing State Agreements, which would likely require more formal requirements, pressured from both a state and federal government level, for 3rd party rail haulage. However, as we discuss in this report we see an active incentive for both BHPB and RIO to do deals with iron ore juniors, who own high quality/blendable resource close to existing infrastructure.

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The $2.00 may be delayed beyond this month - but it is coming