Fortescue Metals Group: Bigger push into renewables

About the author:

Adrian Prendergast
Author name:
By Adrian Prendergast
Job title:
Senior Analyst
Date posted:
30 July 2021, 1:00 PM
Sectors Covered:
Mining, Energy

  • A better-than-expected 4Q21 result from Fortescue Metals Group (ASX:FMG) on balance. Delivering higher shipments than expected, offsetting rising C1 costs and sustaining capex.
  • Solid price realisation at 86%, albeit with discounts continuing to grow post quarter end.
  • FMG remains on track to reveal a giant final cash dividend in August. FY22 guidance surprised on high sustaining capex and aggressive planned FFI (renewables) spend.
  • We expect FMG to perform well into its August result on what we expect to be a bumper dividend. Post dividend we see downside risks to its record share price.

Event

Fortescue Metals Group (ASX:FMG) reported strong 4Q21 shipments of 49mt (vs consensus 47mt vs MorgE 45mt), allowing the iron ore miner to achieve FY21 guidance of 182mt. The result was supported by Eliwana, adding incremental mine and processing capacity to the FMG system. C1 costs stepped up ahead of consensus estimates at US$15.23/wmt (vs consensus US$14.63/wmt vs MorgE US$15.39/wmt).

Realised price in 4Q21 was close to expectations at US$168/wmt (vs MorgE US$173/wmt) on an increasing discount but still good price realisation of 84%. An area of keen focus in 1H22 as discounts have grown on lower grade iron ore.

FY22 guidance of 180-185mt points to another strong year of shipments. While C1 costs are expected to remain in line with 4Q21 levels at US$15-$15.5/wmt.

A big capex budget has also been set for FY22 at US$2.8-$3.0bn (excluding renewables spend), with sustaining capex surprisingly high at US$1.1bn (equivalent to US$6/t), with cost pressures difficult to defend.

The other surprise was the large spend FMG planned on FFI in FY22, FMG’s renewables business. FMG plans to spend US$400-$600m, with only roughly a quarter of that aimed at R&D on decarbonising FMG’s iron ore business, and the remainder to be spent on exploring local and global renewable project ideas.

Analysis

FMG continues to do a good job maintaining shipments, made difficult by labour pressures in the Pilbara. Rising expenditure in all forms is a material negative impacting multiple years.

It is difficult to do any sensible analysis on FMG’s big spend on renewables given it has not outlined any specific details. This leaves us with annual FFI spend of US$400-$600m and the general concerns that renewables is a difficult sector to secure compelling returns from (not helped by FMG’s lack of experience).

In the near term the above factors are almost irrelevant, with record iron ore prices fuelling bumper cash dividends and as a result maintaining shareholder support.

Forecast and valuation update

We have made a number of changes in line with FY22 guidance: a) increasing shipments to 182mt (from 178mt), b) FY22 capex lifted to US$3.3bn (from US$1.9bn) on higher sustaining cost and Iron Bridge FY22 development spend, c) inclusion of US$1.0bn catch-up tax payment in 2Q22, and d) broad increases to FFI spend (flowing through both P&L and CFS).

Post the above changes our target price has been revised to (login to view).

Investment view

FMG is in great shape, and paying big dividends, but we expect current valuations will prove unsustainable against any sign of moderating iron ore prices. Against a target price of (login to view) we maintain our REDUCE rating.

Price catalysts

FMG’s dividend announcement and ex date.

Potential FID on FMG’s first renewables project in Tasmania during FY22.

Risks

Primary risk is related to FMG’s iron ore price sensitivity.

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Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.


 

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