Chanticleer

Fortescue’s best number isn't its huge dividend

The miner's huge payout might grab attention, but the dramatic reduction in debt really tells the story of how far the company has come.

Aug 24, 2020 – 1.38pm

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The payment of $1.96 billion in dividends to a single individualcertainly grabs attention.

But, arguably, the most meaningful number in Fortescue Metals Group’s full-year results is much smaller – just $US258 million ($360 million).

Elizabeth Gaines and Fortescue Metals Group have produced an impressive set of numbers for the full year. David Rowe

That is the amount of net debt it carried on its balance sheet as of June 30. Although the figure has plunged from $US2.1 billion in the space of a year as FMG surfed a wave of record production and exceptionally strong iron ore prices, even that doesn’t tell the story of just how far this company has come.

To put that in context, consider the net debt FMG was carrying just five years ago – an eye-watering $US7.2 billion.

The $US7 billion gap is the real marker of the success of Australia’s third force in iron ore.

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Back then, Fortescue was a company with a decidedly uncertain future. The ambitious vision of founder and now non-executive chairman Andrews Forrest – the man who earned those $1.96 billion in dividends this year – was caught in a sort of purgatory of high debt, high costs and low iron ore prices.

The first two problems were, at least, in part a function of the fact Fortescue was still relatively early in its life compared with the monoliths of BHP and Rio Tinto.

Low iron ore prices just exacerbated these growing pains, pushing down profitability and cash flow, and making it harder for the miner to eat into the debt pile.

Growing desperation

As the situation worsened and FMG’s shares sunk to about a tenth of where they sit now, the company become more desperate.

For a while in 2015 and 2016, it seemed barely a week passed by without speculation that Fortescue might sell assets to find ways to reduce debt.

In early 2016, no less than two debt raisings failed to get away – despite FMG offering what now seems like a crazy interest rate of 9 per cent.

In an apparent attempt to push up prices, Forrest memorably offered to cap his iron ore production if BHP and Rio did the same(ironically, the cap was to be at 160 million tonnes, or about 21 per cent below 2020 production).

There was even a short-lived and vague idea of a joint venture with Vale, the Brazilian giant whose severe production problems have helped hold up the iron ore price over the past 18 months.

But Fortescue has not just persevered; it has also prospered. Although higher iron ore prices have been a crucial tailwind, the group’s smart and nimble execution has been of greater importance.

Its costs have fallen from $US34 a tonne to just $US12.94 through ever-improving operational efficiency and the smart use of technology.

Breathing space

Agile financial management over the past five years has bought breathing space and then real progress on the group’s debt.

Impressive sales and marketing have meant Fortescue’s customer relationships have survived all sorts of market tensions and changes, perhaps most notably the shift in 2018 away from lower-grade ore. Chief executive Elizabeth Gaines had always said it was a cyclical shift, while BHP and Rio had hinted that it was structural.

Gaines and Fortescue, as they’ve done so often, have proved the market wrong.

That net debt figure speaks to the powerful position this business is now in. The size of the dividend is spectacular, but if the net debt had not been so low, Forrest’s payout would not have been so high.

With its share price, profit and dividend at record levels, the obvious question is whether this is as good as it gets.

First, it’s worth pointing out that most in the market said the same thing last year.

And obviously, iron ore prices – seen by many as likely to moderate as Vale’s production builds up again – will have a big say in that.

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But Gaines says that beyond that, she remains confident Fortescue can continue to execute on its growth strategy. The group will spend more than $US3 billion on capital projects in the next year, including its Eliwana mine and rail project (which replaces existing production tonnes), its energy projects and its Ironbridge magnetite concentrate project, which will put FMG in a new market from 2022.

Gaines, who also sees the net debt figure as a symbol of the group’s success – “It demonstrates that commitment we’ve had to capital allocation and that journey we’ve been on” – says Fortescue’s balance sheet means it can also chase other growth prospects, should they meet the group’s standards.

“There’s plenty of opportunity for the right investment.”