Fortescue Metals Group: A bajillion dollars?

About the author:

Author name:

By Adrian Prendergast

Job title:

Senior Analyst

Date posted:

30 August 2022, 8:30 AM

Sectors Covered:

Mining, Energy

• A ‘bajillion’ is a huge, unspecified number, which feels a lot like FMG’s FFI business at the moment. With management still unable to give any details but already spending substantial capital on FFI.
• Fortescue Metals Group (ASX:FMG) delivered a solid FY22 result that was inline with consensus/Morgans expectations. A large final dividend was inline with our estimate.
• FMG Chairman Andrew Forrest stressed his high conviction in FFI’s list of 120 potential projects. FMG is planning to give more detail on its initial FFI projects later in 2022.
• We maintain a Hold rating on FMG, with a (login to view) target price.

FY22 result

A result that was very close to expectations. With a narrow consensus range.

Final dividend of A121 cents, was inline with our estimate of A121 cents, but above consensus 112 cents. A healthy 75% dividend payout ratio.

Underlying EBITDA of US$10,561m (vs MorgansE US$10,673m vs consensus US$10,389m), -36% vs pcp. Underlying NPAT of US$6,197m (vs MorgansE US$6,233m vs consensus US$6,138m), -42% vs pcp. FCF of US$3.6bn was ahead of our estimate of US$3.3bn, attributed to lower interest and working capital. 

FY23 guidance for shipments, C1 costs, and capex were unchanged from 4Q22.

Analysis

The very inline result, and growing list of unknowns in FFI, saw the market call focus majorly on the latter.

Questions on FFI focused on:

1. Trying to narrow down some specific projects or details around spend (FMG promised to give some project specific details before year end).
2. How to value FFI (FMG could not offer any help, and hasn’t valued FFI itself – which raises further questions around how FMG is measuring the return profile and capital efficiency of its FFI spend).
3. How FFI can overcome some hurdles such as a high transport cost in hydrogen (on this FMG appears dependent on government subsidies).

On the call, FMG claimed that it is humble and frugal in its approach to FFI, a claim that seems at odds with: a) calling itself a leader in the space before developing any projects, b) its global branding efforts and high-profile appointments, and c) the billions being sunk cumulatively into R&D and other pre-development work.

We are hoping that FMG will be able to turn this view around when it provides some detail on planned FFI projects later in 2022. But in the meantime we still have nothing to analyse outside of the capital FMG is spending.

While unable to value any yet-to-be sanctioned projects, we have attempted to value the potential long-term value of reducing carbon in FMG’s business (assuming a long-term carbon cost and testing scenarios around opex savings from displacing diesel and gas in FMG’s iron ore business).

Forecast and valuation update

Minimal changes to our estimates post the FY22 result.

Investment view

While quite conservative on FFI at this stage, we reserve the hope that the new business might look much better once we get to see some detail on specific projects.

In the meantime, even with iron ore prices likely lower in FY23, FMG is still trading on a reasonable 6.0x EBITDA. Also trading close to our target price of (login to view) we maintain our Hold rating.

Price catalysts

• 1Q23 operational result (October 2022).
• FFI project and further spend details (before CY22 year end).

Risks

• Execution risk on FFI and Iron Bridge commissioning and ramp up.
• Steel demand drivers, particularly in China

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