Back in 2011, Brazilian-based iron ore mining giant Vale SA (ADR) (NYSE:VALE) logged $60.1 billion in sales. Not at all coincidentally, China’s quarterly GDP growth was averaging right around 10%.
This year, VALE stock is projected to report closer to $35 billion in sales, which will actually be a more than 26% bump from last year. Next year, sales could fall back closer to $30 billion. China’s economic growth has steadily slowed since 2010 and is averaging closer to 7% lately.
Vale specializes in selling ferrous (containing iron) minerals, coal and other base metals that just happen to be what China needs to industrialize and grow its economy. Last year, China accounted for 46.3% of Vale’s total sales, and it accounts for roughly half of the global steel market. Europe, the Middle East, Japan and Brazil account for the bulk of the rest of Vale’s sales.
China is indeed growing more slowly, but still represents one of the fastest-growing countries in the world. In this respect, VALE stock is still in a relatively good position, but three of its largest competitors — Rio Tinto plc (ADR) (NYSE:RIO), BHP Billiton Limited (ADR) (NYSE:BHP), Fortescue — operate sizeable mines out of Australia, which is much closer to China than Brazil. Posco (ADR) (NYSE:PKX) is another formidable rival that is also better situated in South Korea.
Vale’s geographic disadvantage isn’t that big of a deal. It has built its own railroad, port and distribution channels to get its raw materials to where customers demand them. Its Carajas mine also happens to be one of the best and low-cost mines in the iron ore mining world.
Vale’s cash flow has been pretty resilient in the face of slowing Chinese economic growth. Last year, it reported $6.6 billion in operating cash flow, against “only” $5 billion in capital expenditures. That works out to just over a dollar in free cash flow. The current stock price is below $9, so that is a very reasonable single digit multiple of free cash flow.
In the face of flagging growth, VALE stock has been working to ramp down its capital spending, and reduce debt. Both look manageable currently, and though the company has nearly $28 billion in debt on its books, interest expense is less than $2 billion per year (so easily covered by the cash it generates).
Bottom Line on VALE Stock
A key question is, where does Vale go from here? Analysts project $1.36 in earnings this year, but less than a dollar next year. So, consistent growth appears some time off. The dividend yield is currently 3.22%, which is well ahead of the market average closer to 2%. But that in itself is not much to get excited about.
Thinking of things that might surprise on the upside, China is likely to continue growing in the mid-single digits for many years to come. That should support steady demand for its commodities, at least. Global growth also looks to be perking up.
It would be interesting to see Vale merge with one of its large rivals. Its market capitalization (shares multiple by the stock price) is just shy of $45 billion. This is much less than BHP Billiton ($96 billion) and Rio Tinto ($73 billion), but larger than Posco ($21 billion), Fortescue ($17 billion) and Freeport-McMoran Inc (NYSE:FCX) ($20 billion).
No merger activity has been mentioned or speculated, and miners have a reputation for buying assets at the height of mining booms. It would be wiser for them to consider joining forces now, which would allow for cost cuts when they are needed most.
Overall, I am not finding much to get excited about with Vale, or the industry in general. Its cash flow production is certainly impressive, however, and the valuation is low enough that any economic growth from China or the world that comes in higher than expected, could jolt the shares back to life.
A rise to $13 isn’t out of the question for VALE stock, and would represent a share price gain close to 50%.
As of this writing, Ryan Fuhrmann did not hold a position in any of the aforementioned securities.
