IRON ORE Battle for the bottom of the curve

Prepared for:

Americas Iron Ore Conference November 2014

Laura Brooks Senior Consultant - Steel Raw Materials

Agenda • Is Chinese supply responding? • Is there more pain for producers in the next 5 years? • What are the prevailing risks to our forecast? • Focus: prospects for Brazilian producers • Conclusion

Buy-side: China, where are we today? Chinese crude steel production, Mt

Data: CRU, CEIC. Note: (1) CRU assessed from the Steel Cost Review.

160

170

180

190

200

210

10 12 14 16 18 20 22 24

Jan-

12

Mar

-12

May

-12

Jul-1

2

Sep-

12

Nov

-12

Jan-

13

Mar

-13

May

-13

Jul-1

3

Sep-

13

Nov

-13

Jan-

14

Mar

-14

May

-14

Jul-1

4

Sep-

14

Chinese FAI, year-on-year, nominal, %

2400 2600 2800 3000 3200 3400 3600 3800 4000

1-Ju

l-13

1-Au

g-13

1-Se

p-13

1-

Oct

-13

1-N

ov-1

3 1-

Dec

-13

1-Ja

n-14

1-Fe

b-14

1-

Mar

-14

1-Ap

r-14

1-

May

-14

1-Ju

n-14

1-

Jul-1

4

1-Au

g-14

1-Se

p-14

1-

Oct

-14

SHFE rebar price, RMB/t

-10.0% -5.0% 0.0% 5.0%

10.0% 15.0% 20.0% 25.0%

Jan-

10

Apr-

10

Jul-1

0 O

ct-1

0 Ja

n-11

Ap

r-11

Ju

l-11

Oct

-11

Jan-

12

Apr-

12

Jul-1

2 O

ct-1

2 Ja

n-13

Ap

r-13

Ju

l-13

Oct

-13

Jan-

14

Apr-

14

Margin Annual average

Average Chinese steel mill EBITDA margin (1), %

3

Sell-side: Australian majors show no mercy Australian iron ore shipments by selected company, Mt

Data: CRU, GTIS.

0

50

100

150

200

12 Q1

12 Q2

12 Q3

12 Q4

13 Q1

13 Q2

13 Q3

13 Q4

14 Q1

14 Q2

14 Q3

Rio BHP FMG Others

59.4%

59.8%

60.2%

60.6%

12 12 12 12 13 13 13 13 14 14

Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2

Australian weighted average Fe grade, %

Global Business Cost curve, 2014, nominal x axis: Cumulative production, Mt y axis: Business Costs, $/t

- Australian producers

4

Prices currently sit at the 74th percentile on cost curve... LHS: Iron ore price as a percentile on the global Business Cost curve, % RHS: Iron ore price, $/t

Data: CRU. 5

50

70

90

110

130

150

170

190

30%

40%

50%

60%

70%

80%

90%

100%

Percentile Fines, 62% Fe, CFR China, SPOT (CRU assessed)

...meaning that ~26% of production is not generating cash. CRU assesses that supply is responding.

Data: CRU.

There are 3 groups of producers where

cutbacks have already emerged

Brazil China Australia India Other

Country break-down of those producers in loss-making territory in 2015, according to CRU’s Iron Ore Cost Model, %

6

1. Several Chinese mines have stopped producing under the low prices. Government support is not present and...

y/y change in 2014 Chinese iron ore concentrate production, 64% Fe, Mt

Data: CRU, WSA.

-15

-10

-5

-

5

10

Jan Feb Mar Apr May Jun Jul Aug Sep

y/y change

Includes • stock change • changes seen in import grades and research on average domestic grades

From CRU’s Beijing office on APEC conference closures: “Some iron ore mines are being closed as the authorities want to limit transportation around the Beijing area”.

7

...primary research backs up our calculations Examples from CRU’s Beijing office...

Data: CRU, MySteel.

Main cutbacks at: privately-owned, small-scale, coastal miners

Ratio of imported fines in sinter Region Location April Oct

Hebei Tangshan North 88% 91% Hebei Handan North 77% 84% “Private steel mill in

Chengde, Hebei province. Previously used 100% domestic which could satisfy

their demand. Have had to start using imported

ores since July.” “Mine located in

Shandong province, private,

which has a concentrate

capacity at 200-300kt/y, has shut

down”

8

2. Non-mainstream exporters are uncompetitive and less attractive

Iranian iron ore exports, Mt

Data: CRU, GTIS.

Russian iron ore exports, Mt

Malaysian iron ore exports, Mt

0.5 1.0 1.5 2.0 2.5 3.0 3.5

1.0 1.2 1.4 1.6 1.8 2.0 2.2 2.4 2.6 2.8

0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 % change year-to-date*

Iran -3%Russia -12%Malaysia -2%Mexico -64%Indonesia -86%

Non-mainstream iron ore exporters

Note: * Latest monthly data varies by country

9

3. Swift exits from some small-scale juniors

Data: CRU.

Closures at existing operationsCountry Company Project Production* StatusAustralia IMX Resources Cairne Hill 1.7 Mt/y Initial 2015 closure brought forwards to 2014Australia Western Desert Resources Roper Bar 3.0 Mt/y Closed. Lenders did not extend a debt facility.Canada Labrador Iron Mines Silver Yards 1.7 Mt/y Did not resume operations after the winterBrazil MMX Serra Azul 6.0 Mt/y Suspended operations for 30 days through September. Uncertain of re-start.Sweden Northland Resources Kaunisvaara 4.3 Mt/y Ongoing financial difficulties has forced operations to cease.Note: *Production at full capacity.

Australia: majors start to force out their neighbours

0 20 40 60 80

100 120 140

0 200 400 600

Australia-only cost curve X-axis: Cumulative Australian iron ore production, Mt Y-axis: Value adjusted cost curve, $/t, CFR China

November ‘14 price level

10

Agenda • Is Chinese supply responding? • Is there more pain for producers in the next 5 years? • What are the prevailing risks to our forecast? • Focus: prospects for Brazilian producers • Conclusion

Combined growth from Australia and Brazil is set to persist - but rates to slow

y/y change in combined exports from Australia and Brazil, Mt

Data: CRU, GTIS. Note: *Shipments have begun.

0

20

40

60

80

100

120

140

160

11 12 13 14 15 16 17 18

58%

60%

62%

64%

66%

68%

70%

11 12 13 14 15 16 17 18

MAJORS’ MARKET SHARE Vale, Rio Tinto, BHPB and FMG share of global export market, %

12

China is not checking out – but growth to ease

Chinese steel consumption, Mt

Data: CRU.

700

750

800

850

900

950

1000

1050

1100

1150

LHS: Global iron ore demand by product, Mt RHS: y/y growth in global iron ore demand, %

N.B. Demand from construction to peak

sooner than total

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

0

500

1000

1500

2000

2500

13 14 15 16 17 18

Lump Pellets

Fines Growth

13

Our price forecast is based on continued responses from the marginal players Iron ore exports from selected countries, Mt

Data: CRU, GTIS.

0

20

40

60

80

100

120

12 13 14 15 16 17 18

Mexico Russia Malaysia Indonesia Iran

x axis: Quarterly Chinese domestic ore production, saleable basis, Mt y axis: Iron ore price, 62% Fe fines, CFR China, 2013 real

0

50

100

150

200

250

300

0 10 20 30 40 50 60 70 80 90 100 110

Historic

14

Agenda • Is Chinese supply responding? • Is there more pain for producers in the next 5 years? • What are the prevailing risks to our forecast? • Focus: prospects for Brazilian producers • Conclusion

Risk to CRU’s price forecast lies to the downside in the short- to medium-term

Data: CRU.

Risk

Likelihood

Price pressure

Majors at loggerheads High (But in the long-

term this provides upside)

Iron ore to follow metallurgical coal Medium

Chinese demand hits a wall Medium (downgrade from High)

Start dates of large-scale projects Medium (downgrade from High)

16

1. Competition between the majors heats up greater volumes growing market share lower unit costs

Data: CRU. Note: (1) Includes Vale, BHPB, Rio Tinto (Pilbara only), FMG and Samarco. CRU view on export volumes in 2018.

BHBP “We are targeting unit cast costs of $20/t (excludes freight and royalties) in the medium-term”

Near-term: prices will fall further and investor appetite will plummet Long-term: upside price potential emerges

Scenario: majors(1) deliver stronger growth by x% in 2018 Additional tonnages on to seaborne market, Mt

0

50

100

150

200

0 3,000

x axis: Cumulative production, Mt y axis: Business costs in 2018, $/t real 2013

STRETCH

17

0

20

40

60

80

100

120

2% production gain

5% production gain

10% production gain

2. Could iron ore follow coal’s stickiness next year and beyond? “Easy wins” achieved...what next?

Data: CRU. CRU Metallurgical Coal Cost Model 2014.

0

50

100

150

200

250

0 50 100 150 200 250 300 350

Co

sts

($/t)

Cumulative production (mt)

0

50

100

150

200

250

0 50 100 150 200 250 300 350

Australia USA

Canada Russia

Mozambique

Mongolia

X-axis: Cumulative production, Mt Y-axis: Business Costs, $/t, FOB

Hard coking coal Business Cost curve, excl. China

Equivalent for iron ore? 50th percentile on cost curve >$60/t

18

Current price level

3. Chinese demand hits a wall

Data: CRU. 19

....recent statements from Premier Li have led us to “downgrade” this risk

4. Another +170 Mt will hit the market in the coming 5 years – the important question is “when?” (not including Rio Tinto and BHPB expansions)

Company Project Country Product Capacity Quartile on cost curve at full capacity

Company announced start date

CRU assessed start date

Vale S11D Brazil Sinter fines 90 Mt/y 1st 2016 2017

Hancock Prospecting

Roy Hill Australia Sinter fines and lump

55 Mt/y 2nd

2015 2016

Anglo American

Minas Rio Brazil Pellet feed 26.5 Mt/y 1st – 2nd 2014 - achieved

2014

Agenda • Is Chinese supply responding? • Is there more pain for producers in the next 5 years? • What are the prevailing risks to our forecast? • Focus: prospects for Brazilian producers • Conclusion

90% of Brazilian production is generating cash at today’s prices

Data: CRU.

CRU Iron ore business cost curve x axis: Cumulative production, Mt y axis: Business costs, all products, $/t, nominal 2014

- Brazilian producers

Current price level

21

How do the Brazilian non-majors stack up against those in Australia?

Data: CRU.

Weighted average Business Cost of Brazilian and Australian producers, excluding the majors Business Cost, nominal 2014, $/t

Theoretical standpoint Brazilian producers are likely to be more resilient to falling prices This will not always be the case in practice!

22

0

20

40

60

80

100

120

Brazil non-majors Australia non-majors

For those producers targeting the domestic market, we forecast strong underlying growth in the long-term

Data: CRU.

LHS: Latin America steel consumption, Mt RHS: Latin America steel intensity of use, kg/capita

0

50

100

150

200

250

0

20

40

60

80

100

120

140

160 Steel consumption

Intensity of use

23

CONCLUSIONS

Conclusions

1. Marginal production is responding in China and elsewhere

2. Prices set to anchor around $80/t in medium-term – current levels represent “very weak market”

3. Actions of majors present critical downside price risk in short-medium term

4. ~10% of Brazilian production is vulnerable at today’s prices

5. Strong prospects for domestic demand in Latin America in the long-run

25

Thanks for your attention

Laura Brooks Senior Consultant – Steel Raw Materials T: +44 (0)20 7903 2239 E: laura.brooks@crugroup.com Marcio Goto Business Development Manager - South America T: +55 11 5051 8124 E: marcio.goto@crugroup.com