Rio Tinto's CEO Discusses Interim 2012 Results - Earnings Call Transcript

| About: Rio Tinto (RIO)

Rio Tinto plc (NYSE:RIO)

Interim 2012 Earnings Call

August 08, 2012 12:00 pm ET


Tom Albanese - CEO

Guy Elliott - CFO


Lyndon Fagan - JPMorgan

Paul Young - Deutsche Bank

Paul McTaggart - Credit Suisse

Heath Jansen - Citigroup

Jason Fairclough - Bank of America

Rob Clifford - Deutsche Bank

James Gurry - Credit Suisse

Abhi Shukla - Société Générale

Tom Albanese

Good morning everyone and welcome to the webcast of our 2012 interim results with our CFO Guy Elliott in London. First I know many of you would rather be watching the broadcast of the Olympics than a webcast with me here in London.

In London the excitement of the Games are sweeping the city and I'm very proud of the medals and the medals that come from Rio Tinto. Tonight for example we are hosting a welcome dinner for a group of Rio Tinto employees from around the world who have shown outstanding efforts and work in their communities. Their rewards are a series of events at the Games and I'm sure the last few days will be just thrilling as what we've seen so far.

Of course talking to international audience I'm aware that some countries are doing better than others when it comes to the medal table. So maybe I better just stop there. I do look forward to visiting Australia next week and talking to our investors in Australia.

So let's start as usual with safety. We have seen a continued improvement in our safety record but I deeply regret there was a fatality earlier in this year in one of our managed operations. This was a terrible tragedy. As I said to all of you before, we will not be satisfied until workplace is injury free across the group. We have a strong safety culture throughout our businesses and making it even stronger is my priority, for my executive team and for our senior leaders.

Before I turn to our numbers, let me start with strategy. Rio Tinto strategy of investing in Tier 1 assets gives us a strong base for earnings power and resilience to the short-term buffeting of the global market volatility. As well as keeping a tight rein on the businesses in these uncertain times we continue our program of disciplined investment in high returning projects to position ourselves for long-term demand growth.

This investment decision takes into account our aim in maintaining a strong balance sheet and single A credit rating and our commitment to a progressive dividend. We've seen some of the best quality projects in the world and the flexibility of phasing our investment plans. And during the first half, capital expenditures in these projects increased to $7.6 billion in line with our full-year CapEx forecast of $16 billion.

Many of our high-quality projects are getting close to completion and will start to generate returns over the next 12 to 18 months. By the end of 2013, we’ll have 50 million tons of new capacity at Pilbara taking us to 283 million tons. The second phase taking us to 353 million tonnes by mid 2015 is also underway.

Commercial production from Oyu Tolgoi will start in the first half of 2013. Early in this year, after more than five years of aggressively increasing our interest, we moved for majority stake management control of Ivanhoe mines, now renamed Turquoise Hill Resources. We've taken further actions this year to shape our portfolio through divestments, joint ventures and one acquisition.

Now I would like to give you a snapshot of our first half results. We continue to deliver strong earnings and cash flows despite the challenging global economic environment. Our industry has experienced lower commodity prices almost across the board, and this of course is the main reason for the fall in our earnings. Our consistent view has been that market volatility would endure and we have seen these difficult economic conditions over the past six months.

Our Pilbara iron ore operations continue to be the standoff and join one of the highest margins in the industry and where we've set new first half records for both sales and production. Net earnings were higher than underlying due to the one-off tax accounting item related to the new resources tax in Austria which Guy will explain shortly.

And finally but importantly, our interim dividend has increased by 34% as a consequence of the board's decision to increase our progressive dividend six months ago and we completed our $7 billion share buyback in the first half.

So now let's take a deeper dive in each our businesses and I'll start with our industry leading Iron Ore Group. Our business in Pilbara continues to set new and higher standards of performance and has generated world-class returns. Once again we have improved productivity through low capital debottlenecking or scaling up our step change mine in the future program.

These integrative and innovative technologies are delivering returns now and they will allow us to transition to a much higher capacity business in the near future. Our underlying iron ore earnings were the second highest for a first half period and this was achieved despite lower prices as the market came off historic highs.

Of course even in these challenging markets, we realize an average price for our Pilbara Blend Fines product of $133 per tonne. Our results were boosted by first half production leading to increased sales volumes as we increased annual capacity by 5 million tonnes to 230 million tonnes.

Work is advancing or on ahead of schedule on the major Pilbara expansion program. As we prepare for this substantial growth in volumes, I was particularly pleased that costs have remained well under control. Costs in Western Australia continue to escalate above Australian CPI and are currently increasing at about 6.5% per year. We are setting the stage for the whole of the sector with our focus on productivity improvement and cost management to our mine and the future program.

This is delivering real performance improvements on the ground as we speak. It’s also setting us up for a planned growth in annual capacity of 353 million tonnes in 2015 and for further major debottlenecking gains beyond that level. So once again, we have delivered on outstanding results in iron ore, it is a good place to be.

Turning now to copper which remains a highly attractive business given the ongoing supply constraints that persist in the sector. These challenges have shown no signs of abating. Recently some developers have reviewed their expansion plans due to concerns of their escalating capital and operating costs, the weakening macroeconomic environment and financing challenges.

Existing mine production has struggled to grow due to declining grades and production disruptions. As a result, the copper market has remained in deficit and global exchange inventories have continued to decline. As expected, our copper production was lower in the first six months of 2012. At Kennecott Utah Copper, the relocation of the unfit conveyor at the mine and the 26-day smelter shutdown were scheduled to coincide with the period of lower grades.

Both were successfully completed in the first half. At Escondida copper grades began to improve with mined copper production 29% higher half on half. During the period, we approved projects that are Tier 1 Brownfield assets to maintain production into the future. At Kennecott Utah Copper we are extending the life of the mine by another 10 years to 2029.

And at Escondida, a new mill will replace Los Colorados and allow access to higher grade ores. In addition to brownfield volume growth, we will see first commercial production coming from Oyu Tolgoi in the first half of next year. After acquiring our majority stake in Turquoise

Hill we agreed to support the comprehensive financing plan and nominated new team of Rio Tinto management led by Kay Priestly. After over two years of construction, I'm looking forward to seeing Oyu Tolgoi coming on stream in the very near future.

Moving on to aluminum, our aluminum business is better positioned compared to its industry peers, but we have experienced increasingly challenging market and operational conditions. I'm confident that we are pursuing the right course with our focus on EBITDA improvement, concentrating the portfolio on Tier 1 assets and completing strategic investments and modernization projects. But we do need to do more and particularly to aggressively achieve further cost reduction and EBITDA improvements. This will require us to take some tough decisions across the global aluminum portfolio with these businesses that continue to lose cash in the current environment.

Global economic concerns continue to weigh on the LME price with aluminum now trading at about $1820 per tonne. At these prices combined with continued elevated raw material costs, approximately 25% of the smelting capacity outside of China is in a loss-making position.

Some smelter closures have been announced, but we’ve also seen local governments both in and outside of China providing incentives to ensure loss making smelters continue to produce.

This is preventing the rationalization of high cost capacity that’s required to balance the industry.

Given these circumstances, we will continue our approved projects including a Kitimat AP60 Phase 1 and ISAL, but we will be deferring further allocation of capital to aluminum smelting and refining projects for the foreseeable future.

The net result of higher prices, higher raw material costs, our lower prices, higher raw material costs and favorable currency movements was to reduce EBITDA by about $600 million compared to first half of 2011.

EBITDA was further reduced by approximately $100 million as a result of lockout at Alma. This was resolved in July when employees ratified a new collective labor agreement.

The new agreement will provide RTA with a flexibility to implement cost and productivity improvements into the future. The adverse impacts were partly offset by further progress on business and proven initiatives and the recovery from abnormal flooding that we saw in Queensland back in 2011.

Delivering on the business and proven initiatives outlined last year remains a top priority and we’ve now achieved a run rate of $250 million of annual EBITDA improvement.

However, in the current environment, we’re prioritizing our efforts and delivering further cost reductions. To the late we have delivered improvements from better terms on Bauxite sales, reductions is corporate cost and capacity creep Canadian smelters.

In the second half, further cost savings will be delivered from reducing site and support cost in addition to productivity gains from the ramp up at Alma. Another driver in the transformation of aluminum business is delivering our strategic investments at highest quality assets.

During the first half of the expansion of Yarwun, the first of these projects was completed. The expansion more than double capacity of $3.4 million tons of alumina per year and is expected to ramp up to full capacity by the third quarter of 2013 and will deliver unique cost improvements, moving alumina production firmly into second core tile of the cost curve.

Our energy group is also seeing a tough environment recently. Excess seaborne thermal coal supply has been driven by growth from all the major producing regions as well as the increase in seaborne supply for the US to lower domestic gas prices. Thermal coal prices are down fallen two levels, they are putting pressure on producers at the top end of the cost curve.

The current environment of excess supply coupled with rising Australian cost is likely to be with us for some time. Despite these global changes in the energy sector, we continue to see continued growth in demand for seaborne thermal coal over the long-term.

As recent blackout events in India have demonstrated emerging markets continue to need further investment in power generation. The coking coal market has been affected by increased supply from Australia and other regions at a time where weaker demand from the steel industry. We are under no illusion about the scale of these challenges and we will take strong action to return to acceptable levels of profitability.

All of our Australian coal operations are actively looking for ways to reduce costs through ongoing business improvement and asset management programs. We are also reviewing staffing levels of the Clermont mine and today we announced the decision to cease production at Blair Athol by the end of this year after nearly 30 years of mining.

We are also reviewing our allocation capital to the sector; in particular we've deferred the decision about the Mount. Pleasant project until at least 2013. In the meantime we are undertaking a thorough review to identify how best to configure this project to optimize returns.

In Mozambique, we achieved a key milestone with the first delivery of coking coal to an Indian customer. We do expect Benga mine to produce and rail more than 400,000 tonnes of coking coal this year. Meanwhile, we are continuing exploration activity with promising results. Early indications are the exploration potential is far higher than anticipated just a year ago and beyond that of coking coal.

Significant additional tonnes maybe delivered. However, it is likely that it will take longer to develop this infrastructure than previously planned due to the timing approvals and internal constraints on our capital. Discussions continue with the Mozambique government on a range of future infrastructure solutions. In our [Yarwun] business a significant improvements in underlying operational performance have been achieved.

During the year, we did sell our shares and Kalahari minerals and extract resources. We do however continue to see an opportunity to realize synergies through joint development of the Husab uranium deposit taking advantage of our strong asset base and existing infrastructure at Rossing.

Finally, our purchase of the Hathor uranium exploration business in Canada, our drilling program has been underway to increase ore body knowledge and expand the resource base. Early signs have been positive indicating a larger resource potential for this asset. Turning now to diamonds and minerals, we will see a portfolio shift to this product group over the coming years. In particular, our late cycle, TiO2 feedstock business is just starting to see the benefits of growth in demand from China and other emerging markets.

Earnings did more than double over the period as it grew benefit from higher prices across the minerals portfolio. In particular, we saw a significant momentum for the prices achieve in titanium dioxide feedstock as long-term contracts continued to unwind.

Markets for both TiO2 and (inaudible) did soften in the first half compared to late last year and this is in line with the current economic cycle following inventory build by consumers and weaker demand growth this year.

However, we do remain positive on the medium term, outlook for TiO2 feedstocks and demand will strengthen in line with urbanization in emerging markets. We also enjoyed a healthy increase in TiO2 production with record half year production at our RTFT and year-on-year growth with the QMM in Madagascar following successful implementation to dry mining and other improvement initiatives.

Our TIT is the world’s leading producer of TiO2 feedstock and as many options to enhance shareholder value through expansion and investment. We're excited to be doubling our stake in Richards Bay Minerals, which is expected to be complete in the second half of this year. This is a significant tier-one asset, it will give us increased exposure to the growing market, where China now represents 30% of global TiO2 feedstock demand.

The outlook of the diamond’s industry is attractive and strong demand growth, the world’s emerging economies coupled with lack of new supply means it add some good prospects.

However, given the relative scale of our diamond business within the broader Rio Tinto group and the capital intensive nature of the industry, we maybe able to create more value through different ownership structure. With that, I'll now hand it over to Guy.

Guy Elliott

Thank you, Tom. Let's first take a look at the decomposition of underlying earnings and net earnings in the first half. Once again, price was the principal driver of half-on-half performance with iron ore and aluminum making up the most of the $1.9 billion (inaudible). This was only partially offset by the impact of currency movements which collectively enhanced underlying earnings by $200 million compared with the first half of 2011.

Lower sales volumes reduced earnings by $584 million largely due to temporarily low the copper and gold grades at Kennecott as expected and no metal share from Grasberg. This was partly mitigated by record iron ore and higher coal volumes in line with recently completed thermal coal expansions and less severe weather conditions. These boosted earnings by $366 million compared with the first half of 2011.

Industry wide cost pressures continued in 2012 notably in some of the mining hot spots in which we operate. The impacts of inflation on higher energy costs lowered our first half earnings by just over $170 million. Higher cash costs reduced earnings by a further $388 million of which the majority related to an increase in operational readiness and site transition costs connected with the Pilbara expansions.

I will return to this in a moment. But overall, I would say that we have had a good cost performance during the first half. In 2012, we have seen quite a significant increase in exploration and evaluation costs notably as some of our more advanced projects including Simandou, Resolution, La Granja and Mozambique Coal.

Given progress made Simandou evaluation costs are now being capitalized from the April 1, this year. These higher exploration and evaluation costs assure net of the gains on disposal of various exploration properties. Notably, our interest in Kalahari Minerals and Extract Resources. Their total impact together with other movements including interest and non-cash with slower earnings by just over a $100 million.

This brings us to our underlying earnings of $5.2 billion. Now let me touch briefly on net earnings, the Australian government introduced the Minerals Resource Rent Tax or MRRT on the July 1this year. We have recognized a deferred tax asset of just over a $1 billion within net earnings in relation to this. This is non-cash accounting item. It reflects the deductibility for MRRT purposes of the market value at the first of May 2010 of our considerable past investment in our Australian iron ore and coal assets. To the extent, recovering is considered probable.

This is clearly a highly technical accounting area, but it has no bearing on our underlying business performance and so it is excluded from underlying earnings. So overall net earnings came in at $5.9 billion. Now back to costs, as I previously mentioned, we are continuing to experience cost pressures and localized inflation in excess of normal CPI in some regions.

However we are seeing external pressures reduced, and a slowdown in the rate of increase. Total cash costs were broadly flat half-on-half and after adjusting for volumes and grades, controllable unit costs increases slow to less than 3% on the prior period. I believe that this icon will compare favorably wit the rest of the industry. In this slide, we have attempted to separate the one off impact of certain costs compared with the more structural cost increases. The principle effect is coming from operational readiness and site transition costs which I alluded to just now as we prepare to bring online a number of major growth projects in particular in the Pilbara. While we would expect these costs to continue as we prepare for commissioning they will be offset by higher sales volumes and unit cost efficiencies through improved productivity in the future.

We've also highlighted an increase in stripping rates written to Coal Australia which is a phenomenon that we would expect to reverse over the shorter-term. And we incurred some additional one-off costs in particular the impact of the Alma lockout which we've shaded in this chart.

Last year, we suffered significantly higher costs from exceptional weather events. These have had a lesser impact in the first half of 2012 creating a positive variance. We have a long established track record of cost control and productivity improvements. While we've seen some softening of cost pressures the mining inflation is still above its historic levels. Therefore, we are continually seeking to enhance our operational and financial performance.

Around 90% of our costs are incurred at our operations and so it makes sense to focus on these areas. But we also are not forgetting our functional and support costs and we are implementing a program to improve their effectiveness starting with our corporate offices.

Now I am sure it hasn't escaped your notice that the Australian dollar has continued to strengthen in recent times. The impact of a stronger Australian dollar when combined with the productivity issues in Australia amounting a challenge for our local operations. Our industry leading investment in technology which will lead to increased automation and improved productivity across many of our operations will help to mitigate some of these increases; notably the more structural ones.

Now let’s turn to cash flow. First half cash flow from operations was $7.8 billion, 39% down relative to 2011, driven primarily by lower prices. Other significant inflows during the half included the $1.35 billion proceeds from Chalco following the completion of the Simandou joint venture; the proceeds from the divestments of our interest in Kalahari Minerals and Extract Resources.

Capital expenditure was $7.6 billion, in line with our full-year guidance of $16 billion based on approved projects and sustaining capital expenditures. Major capital projects are underway include the continued expansion of the Pilbara iron ore mines and infrastructure, the development of the Oyu Tolgoi copper gold project and the modernization of the Kitimat aluminum smelter.

Cash returns to shareholders during the period totaled $3.2 billion, and included $1.5 billion to complete the share buyback program by the end of March.

Corporate taxes paid in the period increased 4% to $3.8 billion in line with the higher taxable profits recorded in the second half of last year. Its worth noting that even before the introduction of the MRRT, Rio Tinto was the largest single income tax payer in Australia in 2011. Taxes are partly payable in arrears, so we would expect to see this number decline in the second half of this year.

Our capital expenditure forecast for 2012 remains at $16 billion. As the slide shows, CapEx on improved and sustaining projects will taper off from this level in 2013. New project approvals such as Phase II at Oyu Tolgoi, Simandou and (inaudible) may lead to capital expenditure in 2013 at a similar level to 2012, but this will depend on market conditions and the timing of approvals.

We retained a high degree of flexibility over our spend in any one period, but we have not envisaged capital spending above these levels due to our own internal limits including financial and people constrains. While this represents the CapEx shown in our cash flow statement, we now fully consolidate a number of businesses that we do not fully own. Our share of this capital expenditure is more important and is actually lower at $13.6 billion. For example, the Simandou mine is fully consolidated even though we provide 50% of the capital.

We are continuing to take a disciplined approach to investments and are only allocating capital to the highest quality projects of which the Pilbara expansions represent the lion’s share as this slide demonstrates. Our rigorous approach to project approval includes various stage gates, each of which requires review by internal, but independent commercial and technical teams. We are mindful of balancing the high returns that can be achieved from investing in our superior growth pipeline with the desire for cash returns to shareholders, our progressive dividend policy and our aim to maintain a single A credit rating.

For some time, we have been taking a phased approach to many of our project approvals such as our decision in 2009 to expand the Pilbara in two distinct stages. This phased approach allows us to commit capital in a risk measured way balancing our CapEx commitments with the market environment and other potential uses of cash.

In the Pilbara it has not only reduced risk, but has created embedded options. We've also enhanced the overall value of the project by increasing its scope from a 100 to 133 million tons of annual capacity by identifying and eliminating bottlenecks.

Our approach to investment will shortly be rewarded as we bring these new projects on stream. Over the next 18 months we will see first production from Yarwun 2, Oyu Tolgoi and the first phase of the Pilbara expansion. And any new project approvals will only get the green light should market conditions be favorable.

Alongside investment to generate superior returns, we are also continually reviewing the portfolio to ensure that it remains aligned with our strategy. We are of course aware that iron ore has come to dominate our earnings in recent times. This reflects the superb quality and performance of that business.

As Rio Tinto become larger a number of businesses are no longer aligned with our strategy. Over the past four years we've divested over 20 businesses for approximately $12 billion including a couple so far this year. We've now completed the divestment of the Specialty Alumina’s business and we expect the sale of the Cable business to complete later this year. This is a constant process and we currently have a number of assets identified for potential investment including Palabora and Pacific Aluminium. There maybe more to come.

We are actively seeking to create value by introducing new partners to some of our businesses. Joint ventures and farm-ins may provide access to resources or finance, reducing risk or creating synergies. We've had many successful joint venture partnerships that have lasted many years and have created great value.

And finally on the acquisition front; we have completed on several transactions gaining majority ownership and control of Turquoise Hill and completing the acquisition of Hathor. During the second half of this year, we expect to complete the doubling of our stake in RBM subject to regulatory approvals. Each of these incremental steps demonstrates progress in ensuring the portfolio remains in good shape, so to wrap up with our well established and consistent financial strategy.

Our balance sheet is strong. While debt is increased, we aim to maintain a single A credit rating. Our progressive dividend policy provides sustainable and predictable long-term returns to shareholders and demonstrates our confidence in the long run outlook for our business. Today, we have declared a 34% increase in the interim dividend in line with the announcement at our full-year results in February.

Within the parameters of the single A credit rating and our progressive dividend policy, we are focusing our capital allocation decisions on the highest quality projects which will deliver cash returns under any probable economic conditions. We’re making great progress with our major projects, many of which will start to deliver earnings in the near future.

As we have shown you in the past, we’re prepared to return surplus capital to shareholders. In the light of the attractive returns that can be generated from our investment program, together with short-term uncertainty in the financial markets, we don’t believe that it’s appropriate to return surplus capital at this time. However, we continue to keep this under review.

With that, let me hand it back to Tom.

Tom Albanese

Thanks Scott. So let’s now just take a moment to look what's driving current market conditions. Ongoing sovereign debt issues in Europe, the fragile US recovery and fears of a hard landing in China, all serve to increase risk aversion in financial markets. My main concern remains a lack of action by policy makers to tackle the key structural issues in both the US and European economies, the continued uncertainties, undermining sentiment and deterring investment.

Of course against this backdrop, the Chinese government has launched a series of pro-growth policies since April. About 500 of these investment projects are slated to start later this year and in 2013. As a result we still expect modest pickup of activity in the fourth quarter and for Chinese GDP growth to be around 8% during the course of 2012.

I do acknowledge that there is still lot of uncertainty and a wide range of potential outcomes in the short term. There are number of tensions in the global economy, including the sovereign debt crises, the structural imbalances and elections in a number of key countries. So all the risks in Europe and the US remain high. We do expect emerging economies particularly China to remain resilient.

But ours is a long-term business based upon a long term view of demand and it is critical that we remain resilient to the short-term volatility, but must keep our eyes on that horizon. And I remain convinced on the strength of the long-term demand outlook. As we said before this continues to be driven by the force of increasing global wealth leading to literally billions of people moving through increasingly metals intensive phases of development.

While the rate of year-on-year demand growth in China will inevitably slow, these demand changes remain large in absolute terms. By middle of the century some 400 million people in China are expected to urbanize requiring additional investment in residential housing.

Looking specifically at steel demand, the Urban population will typically reside and work in high rise buildings, own at least one car and a myriad of home appliances including computers et cetera and depend on supporting infrastructure such as metro, rail, elevator roads, bridges, power and water to sustain an urban life style.

Construction will continue to drive steel demand in this decade before consumer demand begins to take over beyond 2020. Our top down and bottoms up analysis indicates the Chinese annual crude steel production will peak at around 1 billion tonnes toward 2030 and you can see from this chart that our projections are modest compared to some of the most other reputable industry analysis.

And remember this is not just a story about China. This is a transition we will see repeated albeit in response to unique country circumstances in a number of emerging economies over the coming decades including India and parts of Southeast Asia, Africa and South America.

While there are currently about 3.5 billion people live in urban areas across the globe, this expected to increase by another 2.6 billion by the middle of this century.

Moving to supply, our industry also faces increasingly challenges on the supply side. In fact the changes to our assessment of long-term supply growth have been far more significant than changes to the demand outlook in recent years. As an example, a persistent feature of the iron ore industry has been the delays experienced in bringing new projects to market.

Building new iron ore operations is an incredibly complex and difficult task. The major producers and even Rio Tinto have not been immune from this. For Rio Tinto, the global financial crisis in 2008 and 2009 followed by the proposed super tax in Australia led us to rephase our Pilbara growth plans.

While still significant, our near term growth is less anticipated back in 2008. However due to the quality of our assets we expect to close this gap than in the original plan than the original plan by 2015. Other producers have been equally affected and some to much greater extent, among other challenges the complexity of their growth projects, competition for capital and rising costs have all conspired to slow down growth.

In addition, and as we’ve been saying for sometime, resource nationalism is elevating risk and reducing available capital leading to reduced supply. A range of emerging stakeholder issues is also leading to greater pressure on permanent approval processes.

The accumulative effect of all these factors will continue to lead to less supply coming to market than envisioned just several years ago. And this is not just a feature of the iron ore industry, it's also affecting copper, coking coal and a number of other key commodities.

Our track record of delivering iron ore expansion projects in Western Australia on time, and on budget is unrivalled as demonstrated by this third party study. Our Pilbara expansion projects will be amongst the first to market taking advantage of conditions created by other project delays.

I am confident that this is the best iron ore project in the sector today and will generate high returns for shareholders under any probable macroeconomic condition.

We’re making great progress with the expansion of our Pilbara annual capacity to 283 million tonnes, due to come on screen in the second half of next year. And at June we approved the next stage of phase growth from our global iron ore business.

Approvals include port and rail elements of the 353 million tonne per year capacity project and funding for other detailed studies, early works and long lead items for a continued development of Simandou project in Guinea with our partners, the IFC, Chalco and the Government of Guinea.

Not only are we delivering projects on time and on budget, but we can hold our product quality for longest single traded iron ore product, our Pilbara Blend Fines for the next 30 years. And this is an unrivalled position in the sector.

Our product portfolio will also be enhanced with high grade and high quality Simandou iron ore in 2015 as construction in that project continues. While we have options for further expansion of Pilbara beyond 353, as I have said before it’s likely at that time we will pause for breath.

And our intention is that we will redirect our engineers toward debottlenecking with a plan to have a larger stated capacity then the current nameplate objective of 353 million tonnes at that time. These efforts we focused on a combination of normal business improvement plans and taking full advantage of the integration and automations of Pilbara through the Mine of the Future programme. We will cover this in more detail later in the year.

These next few slides show pictures of progress we are making with our Pilbara growth programs. At the port, we have now completed ahead of schedule, dredging for not only the 383 million tonne expansion project, but also that required for the ramp up production 353 million tonnes.

We are also on schedule with the sinking of pylons for the Phase A wharf and jetty which is now almost 85% complete. And you have seen the quarterly production as consistently exceeding sales for the last 18 months. And this is all part of our expansion. We are progressively ramping up new mine capacity at some of our existing mines in anticipation of this infrastructure expansion.

Moving to the rail system. We are in a process of fitting out all ore cars, electronically controlled pneumatic brakes. This will improve braking efficiencies and reduce the risk of breakaways and derailment.

And work progresses on fitting out the same technology on our locomotives to further increase speed at which our trains can safely travel. Overall the 283 expansion program is now about 55% complete and on schedule for the ramp up to commence in the second half of next year.

Moving over to copper and into Mongolia. Construction in the Oyu Tolgoi is now over 90% complete. Stockpiling of ore began in April. Recommissioning of the crusher conveyor and coarse ore stockpile circuits is progressing with first ore put into the crusher in July.

Physically construction of all the transmission infrastructures is complete and has been energized and tested on both sides of the border. Discussions continue with securing power from China to enable the completion of final commissioning activities and the processing of first ore.

And I remain confident that agreement of the terms of power supply from China will be achieved shortly. We do look forward to working with the new government of Mongolia in a professional relationship that will be good for Oyu Tolgoi and good for Mongolia.

As you know we are ahead of the industry in developing and using innovative technologies. As I said we are already seeing the benefits of the Mine of the Future programme in the Pilbara. Integrating these technologies to Pilbara iron ore operations is helping us hold the line on costs.

Automation in the operations centre are bringing greater efficiencies. And in the near-term there will be more benefits from further debottlenecking in the Pilbara supply chain.

The Mine of the Future is much more than just automation. It's things like faster underground tunneling, better mineral recovery and an airborne gravity gradiometer that will help us find future Tier 1 ore bodies, all of which we are starting to trial. And it's more than just for iron ore. The new technologies and trial starting the plan across the business.

As the former head of Exploration of Rio Tinto I have always been excited by developments in these exploration area and we will build on our unrivalled track record to keep us further ahead. For bauxite in Brazil through to uranium in Canada, new projects across the globe are delivering promising results.

So to conclude. Our consistent strategy of investing in operating large long-term cost competitive assets in businesses has given us a solid first half results. We continue to generate strong margins despite falling prices reflecting the low cost nature of our businesses and our first rate operational performance.

Our record production sales for the Pilbara is complimented by the best iron ore expansion projects in the sector. Our balance sheet remains resilient in the face of short-term macro economic uncertainty and we aim to retain our single A credit rating. I recognize that we live in a world of volatile short-term market conditions but we must keep our eye on the long-term horizon.

And we remain confident of the long-term Chinese growth story and plan to position ourselves to capture the opportunities that this presents. With this in mind, we continue to balance our disciplined project investment with cash returned to shareholders. Our major projects are on track to deliver the revenues over the next 18 months. And we've taken action to shape the portfolio. All these advantages position us well to continue to maximize shareholders value over the long-term. With that we now would be happy to take your questions and I will hand over to the operator to explain the process.

Question-and-Answer Session


(Operator Instructions) The question comes from Lyndon Fagan from JPMorgan. Please go ahead.

Lyndon Fagan - JPMorgan

I’ve just got a question on impairment charges and I notice there wasn’t any major impairments for the aluminum division, yet your net asset value still quite high compared to market valuations, just wondering if you can perhaps shed a bit of light on that and then just a second question. Can you perhaps talk a little bit more about the iron ore mark and your take on where iron ore process is sitting at the moment relative to marginal cost and whether you are saying any material production cuts to China’s domestic ore? Thanks.

Tom Albanese

Maybe Guy you can focus on the impairment question, I'll focus on the iron ore markets.

Guy Elliott

Yes, there are a couple of small items in impairment. We’ve reversed the impairment on the cable business which we have previously taken a write off on that which we now anticipate selling, but there has been an impairment which more than offsets that in the specialty aluminum business which we have just sold.

On the subject of aluminum, I mean, we actually regularly look at all our businesses and goodwill in the fourth quarter of the year. That review has not taken place. It will take place later in the year. There hasn’t been any triggering event in the first half which would cause us to look at any of values except for the two which I already mentioned. So this is something we’ve been looking at later in the year as usual.

Tom Albanese

Thank you Guy. On the iron ore markets, I think that we’ve seen a continued softening of both steel pricing and iron ore pricing over the past few months and again over the past two to three weeks, we’ve been seeing iron ore pricing just below 120 per ton in terms of the index. Is that actually would be below what people would have been flaying including ourselves to support level representing Chinese marginal costs. It's been relatively stable at these levels over the past week. We’re watching this very closely. Of course people are watching the correlation between iron ore pricing and the possible leading effect of rebar program at the same time.

In terms of our business, we are continuing to see full sales and full order books and again are sales are really more affected by operational performance than anything else. We certainly recognize that the margins are very thin within the steel industry, we have seen some buildup in inventories but frankly if you look at overall inventories whether at sea or in stockpiles or at the steel plants, they have been relatively flat over the past year and weeks of consumption or days of consumption purposes.

I think in talking in steel makers, they are watching very closely these Chinese stimulus programs and what affect that will have on their business, so I think we are all watching for the same thing as these projects begin to kick in and move beyond the approval state actually seeing metal consumed on the ground. We would be seeing some changes in the overall balance of steel markets and steel inventories.


Your next question comes from Danielle Chigumira from UBS. Please go ahead.

Unidentified Analyst

Hi, this is Miles also from UBS. Just another couple of questions, first of all on your the Chinese steel production looking at (inaudible) investor briefing back in April you were talking about China production reaching 1 billion tonnes by 2020, now you are saying by 2030 should we read that you are getting slightly more cautious on the longer term outlook for Chinese steel consumption in China? And then secondly just could you remind us with the target 40% EBITDA margin for aluminum. So when we can get that what is realistic in the current pricing environment?

Tom Albanese

Thank you. I think to the extent that there's something significantly different we will come back and clarify that but I don't think we have a fundamental difference in our curve, I mean basically the curve shows a slowing down and tapering off over the next five years and then gradually a flattening of demand at that billion tonnes of crude production 900 million tonnes of finished production. I don't think it really has changed that much since Sam had presented but again if we will follow-up that it's been significantly different then we will let you know.

In terms of the 40% EBITDA margin, I think as we would have said in February it is, we do need to be realistic about what happens with LME pricing and as we said back then clearly there's more metal being produced in the western part of China than we would have expected. The question’s going to be whether the actual industry moves there when you see some shuddering of some of the higher cost capacity and coast to China but I think realistically it means it will take longer for that to place. I think it's important for us to continue to retain that target of a 40% EBITDA margin but we would be realistic about the fact that ultimately LME prices will be driving the top line of that margin number.


The next question comes from Paul Young from Deutsche Bank.

Paul Young - Deutsche Bank

Two questions, one on your iron ore expansions and second one on Oyu Tolgoi. First one on your growth of the Oyu Tolgoi, you've clearly got to accelerate that expansion and that seems to be apparent to (inaudible) and beyond and if you view the global seaborne demand will increase by 80 million to 100 million tonnes out of the medium term combined with the fact that Oyu Tolgoi piece is appear to be really rethinking their future expansion plans and surely this presents a massive opportunity to rate it and therefore the question shouldn't you be trying to accelerate your expansion through this point in time and on Oyu Tolgoi please give us some clarity on (inaudible) when you think you will bring more CapEx underground will face? Can you comment on when you (inaudible) I think $11 billion CapEx estimate for (inaudible) the plan expansion. Thank you.

Tom Albanese

Yeah, I think first one, iron ore expansion, I do appreciate your views that we’re well positioned to go beyond 353. I think in the context of our view of the markets but also recognizing the need to find this balancing between how we expand our funds, also cash returns to shareholders an a strong balance sheet. it's probably better for us to be prudent, get 353 bill, recognize a 353, we would have had a massive expansion from the 200 level to get to that point and we should buy the nature of that have opportunities to create debottlenecking and I think reinvest in terms of value creation to put some efforts in probably for a couple of years to get the maximum debottlenecking at that level.

I wouldn’t see us not having the opportunity to expand either Cape Lambert beyond the 353 as we thought 450, whether we do in two phase or four phases, beyond 450, we also have other expansion opportunities, other ports. These are tremendous opportunities. We got of course develop the resource with that but I think as you said, we’re better position to any one in this sector for this growth factor but again we want to do that growth in a sense which is prudent, recognizing the need to balance all the other interest and keep a strong balance sheet.

So I think if we talked about value creation I think any thing we can do to create low capital intensity, debottlenecking opportunities over and above 353 at the end of the current phase of the Cape Lambert work will be best for shareholders. I think in terms of OT there is quite a bit of work that’s been going on of course we should say Turquoise Hill is flagged the review. They are involved with the discussions with government and we see them carrying way for that; I would say that we have several more months of work to do and a lot of that will have to take its natural course. Again for us its important thing is to get the work done right by rather than to see it get done too quickly.


The next question comes from Paul McTaggart from Credit Suisse. Please go ahead.

Paul McTaggart - Credit Suisse

Hi guys; just back on alley for a moment and you mentioned that $1 billion kind of (inaudible) running at the 250 level. How quickly can we bring and we get to check balance of 750 and not only where the 40% EBITDA target because the cost side? And secondly, with regard to tax rate, the effective tax rate looking into next year, as we start to kind of work towards that deferred tax assets back will the guidance change with the effective tax rate in the P&L?

Tom Albanese

Paul I’ll try to take on the aluminum question and maybe Guy can address the tax rate question. I think in the numbers we would have flagged last year, we are looking at that $1 billion EBITDA coming in – improvement coming in by 2014. And what I said to the aluminum team is given the fact that we’ve actually had quite a setback in terms of market conditions in just the past few months facing that’s closing us the need to accelerate some of that work and actually do more; I think I referred to it with the aluminum team of turbo charging them at our transformation.

And certainly just Jacynthe and her team are very focused on doing just that, of course this involves jobs, this involves people, this involves communities, so we have to do it in a way which is also reflective of stakeholder sensitivities. So it’s a very, I think its balance, but it’s going to be very aggressive and if anything accelerated approach from what we talked about late last year.

Guy Elliott

On the tax rate let me first of all differentiate between the rate on underlying earnings and the rate on net earnings. So the rate on underlying earnings this year was or this half was very low, 11%. And that's because of the big credit on MRRT, the deferred taxes asset and that will reverse overtime.

In terms of underlying earnings our tax rate in this half was 27% approximately, that's a little bit lower than normal guidance which would be about 30% and so that guidance will be what I would give you for 2013. Of course, it embraces numerous geographies and it does depend on the mix of earnings, but that's a pretty good guide for 2013.


The next question comes from Heath Jansen from Citigroup. Please go ahead.

Heath Jansen - Citigroup

Sorry to hop on about aluminum again, but you sort of made the comments that you said you were willing to take strong action on aluminum does that sort of mean that you are going to shutting capacity and just on that, what percentage of your alloy capacity and aluminum capacity now is cash negative and potentially would be in a shutdown situation?

And the second question just for Guy, obviously operating cash flow came down quite significantly year-on-year; there seem to be a bit built up in working capital or inventory. So I am just wondering whether you can confirm that to about for $600 million and if so just give us some detail about which commodity that might be and why that working capital increased? Thanks.

Tom Albanese

Yeah, I think first of all, I think that it is quite important to recognize that every plant manager in the aluminum business would be aware of the fact that the have to be generating positive cash margins, otherwise they face the very real risk of plant closures and whenever we consider whether to keep an operation running or not, we look at the cost of the closure and the cost of restart up against that.

I would say even in the current market that virtually all our facilities are holding their head above water. We have shutdown some facilities and we have been permanently closing down some facilities as you know, and we’ve done that with all the proper stakeholder consultation.

In the smelter, I would say that the businesses are basically holding their own even in the current environment, although I think some are quite stressed and in some cases we have been reducing capacity say and not rebuilding parts as we’re going through to protect cash. The area probably in the aluminum business that would pay probably most in the position of losing cash in the current market would be the Gove refinery and that is basically affected by not only the weakness in the aluminum markets, but also high cost of fuel required for the steam, for the refining process.

Guy Elliott

On operating cash flow Heath, you're basically right. We have got a higher working capital element here. It’s mainly inventory. It's mainly increasing iron ore inventory in the Pilbara as we prepare for the expansion to 283 and it is to some extent in Oyu Tolgoi as we prepare for production there. Other features in the difference between operating cash flow and EBITDA are the utilization of various provisions post retirement closure etcetera. So there are some of the features, but essentially your numbers are right for inventory.


The next question comes from Jason Fairclough from Bank of America. Please go ahead.

Jason Fairclough - Bank of America

Just two quick questions on pricing if that’s okay. First one is on TiO2 feedstock; perhaps you could discuss the extent to which you are now exposed to the spot market versus still selling on these longer term contracts and I guess as part of that how are you setting prices for your TiO2 products now? And then second on iron ore, to what extent are you exposed to counterparty risk; we do remember 2008, 2009 where we had mass reneging on contracts, is there a risk that the iron ore that you think is contracted isn’t actually because clients decide they would rather buy it at lower level?

Tom Albanese

Thanks. Well, I’ll cover both of these. First of all on TiO2, as we have flagged that most of our product is long-term contracts, they are winding off over the next couple of years and I think as we see these coming off we are replacing those with pricing contracts that are shorter-term in nature and are quite elevated levels from where they would have been under the long-term contracts. And you can see that sort of playing through in terms of the year-on-year improvement in earnings in the TiO2 business and we would expect that to continue going forward.

I think it’s important to recognize in TiO2 and even though the current spot market is actually weaker for pigments now, I would say the underlying market is weaker for pigments now then it would have been six months ago market conditions, the pigment has sectored itself is increasingly challenged to find adequate sources of high grade feedstock’s in particular better match for their particular pigment production configuration. So we are very well positioned in that space and as we see these contractors wind down it’s generally been a positive effect on overall business performance.

And in terms of iron ore, right now about 35% of our iron ore business would be going to Japan Korea and the Taiwanese markets and the bulk of that would be on a quarterly lag bases, so we haven’t seen really any counterpart issues; I think we have seen a recognition by those markets that there is a benefit for future end for the consumer light to have some type of say predictability in the pricing and we respect the customers on that and I think they respect that this is actually a win, win for both of us.

In the Chinese market we have seen I think a case, as you say correctly in 2008 and I think some recent events which will show that longer term contracts have the risk of being gamed in a short-term drop in the price and progressively you have seen the Chinese steel markets moving to shorter, shorter contracts, either spot or some type or monthly actual or quarter actual where frankly this less incentive to traded counterpart risk environment in those contract pieces; effectively not much of a difference between those contracts and what would be a tradable spot market.

I think when you talk about counterparty risk we’re also going to think about credit and I think for the most part we’ve actually have pretty good track record on our credit conditions with all our customers frankly in all our businesses over at least the past 10 years and the iron ore business either are generally back by letters of credit with Australian banks.

Jason Fairclough - Bank of America

Tom can I just push it back a little bit on the TiO2; so perhaps could you give us a little bit more color on how you are actually setting prices for these new TiO2 products that are available to delivering some kind of a spot market; what’s the price discovery mechanism there?

Tom Albanese

We are moving into some new territory here; we can’t just open up the Wall Street Journal and find the TiO2 price listed. So what we will have is mechanisms that we will basically be working with our customers to recognize that there needs to be a more frequent price discovery than what we would have seen in the past, but it's not obvious in terms of what that market mechanism will be off what I call quoted index.


The next question comes from Rob Clifford from Deutsche Bank.

Rob Clifford - Deutsche Bank

Just a comment on the counter diversification would be great, just with reference to the fact that the Guinea has proven much more difficult to grow than you first thought. You also made a comment today that in fact Mozambique will take longer to develop than you first thought. What have you learnt from these exercises? Are pulling back to home ground territory or have you got to the point where you can now develop the new regions more effectively.

Unidentified Company Representative

Rob I wouldn't say that Rio Tinto has a OECD or non-OECD strategy per se. If you look at our history which literally goes back for more than a 100 years, we have a long history of operating in a mix of OECD and non-OECD countries. We've been in many of the African countries for 80 years or more. Long experience in these areas and a culture of operating in each of these regions.

On a diversification basis I think it would be safe to say we are oriented toward OECD domination of our earnings right now, but we have to recognize our strategy is to look for the best global resources around the world. And I'm comfortable that Guinea for iron ore or bauxite, Mongolia for copper, Mozambique for coke and coal, would be actually putting our hands on the best quality assets in the world.

And even so it's in an overall risk basket that is actually quite positive, favorably oriented toward OECD now and in the future. It does take longer to develop in emerging countries, but frankly emerging countries have their own permitting delays themselves.

So can’t say that one is completely easier than others, but it does take a different set of skills. I think in Guinea we've recognized that the pathway for success involves bringing in partners and having those partners derisk the project with us and they then bring unique qualities that actually can help that and again end up giving us less than a 100% interest in it, but I think on an overall risk basis phasing it in, it is a better outcome.

And certainly I think our true success in terms of progressively derisking our development of Oyu Tolgoi with Turquoise Hill has I think been a real success story in this place too. So I am actually quite comfortable with our strategy of focusing on world-class assets wherever they are, recognizing it, be realistic that some of these countries are going to be harder to develop than in others, but frankly we've got to be in a position that we can do that, provided that the countries are providing sufficient what I call fiscal regime either through their history or through some type of agreement or we can bring some partner structure and to properly de-risk it. So that our shareholders will ultimately see thee returns they would expect from these projects in terms of their own long-term shareholder returns.


The next question comes from James Gurry from Credit Suisse.

James Gurry - Credit Suisse

I just want to pick you up on the debottlenecking of the iron ore operations in Western Australia. Is it too early to be thinking that by the first half of 2015, you will have net capacity a step higher than 353, if you are going to do (inaudible) per annum of debottlenecking between now and then or when does that 5 million tonnes per annum of debottlenecking start.

And just also on CapEx approvals, there is a huge step down in non-iron ore CapEx spend based on your currently approved projects next year. Is it a concern of yours given the over 90% of earnings is coming from iron ore at the moment, more volume growth is coming in the future. How do you look at being diversified by and now given the fact that even iron ore is a huge strength at the moment?

Tom Albanese

think on debottlenecking in my comments I referred to wanted to get into this in more detail later in the year. I think when we have our investment seminars, I will be asking Sam to spend a lot of time in this area. Sam and I with Sam’s team are spending quite a bit of time looking at what are the drivers for taking production beyond 353 without significant capital increments.

And again these were not necessary just be at the port or at the rail, there will be in all of the individual places, process and all the individual transfer points from the mine into a tonne of ore getting into a ship.

Some of this is actually, it looks obvious when you do it but actually it is complicated to make it work. Let me just remind that we are moving from 225 to 230 million tones. On reflection it was as obvious as just increasing tonne capacity, that was a bulk of that. It seems obvious in reflection, but actually it was a lot of hard work to actually find out where those pinch points where that could be actually debottlenecked on an efficient basis. I think we are moving into some new ground here with our operating center and our automation.

I mean for those of you in the audience that have actually run a mine and have been responsible for the 24/7 nature of a mine, you know that at any given time no matter what we might say in our polished script here, there's always something that's breaking, there's always a truck that's down here, a drill rig that's not working over here or a train that's not met its production -- its maintenance schedule.

Something has always happened that wasn’t expected and you are always on a 24/7 basis trying to create some work around, so you can keep production going notwithstanding that outage is happening somewhere and the larger the business, more likelihood you will have, that you will have unexpected outages that do need work around.

But many of you have the ability to see in a single room, on a single screen, on a 24/7 basis where all of these outages are occurring so that you can immediately in real time begin to create a response for that, you immediately begin creating opportunities to debottleneck. Some of them you can actually measure in advance, some of them you have to actually put into practice and see how they play out.

I think the evolution of the Mine of the Future, the continued learnings we are seeing out of the operations center will be a big part of this and certainly I'm quite excited about what we think we can do in terms of driving that additional production and going back to Paul’s earlier question about why don't you just keep expanding Cape Lambert to 450. I think ultimately we will get there but boy, I think there's a lot of space to create value after 353 and as you say on the way to 353 in the meantime.

On CapEx approvals, I think we are being realistic about the need to balance how we look to the future and how we develop the future, particularly with the quality of the Pilbara investment of 353 with the need to reflect cash returns to shareholders and with the need to be resilient with a strong balance sheet with a aim of single A credit rating.

That means we will need to make some tradeoffs and the tradeoffs mean that we're probably going to be spending less capital outside the Pilbara than otherwise would have been the case. Does that mean we’re moving away from a diversified strategy in the long term? Not at all.

I mean if you think about the quality of the assets that we have outside the Pilbara and outside of iron ore, think about what Oyu Tolgoi is going to be in terms of future producer of copper. You think about the quality of our interest in Escondida or ownership in Kennecott Utah Copper. You think about the emerging quality of what will be the [loyalty] space in terms of the next big coking coal business and you think about the quality of what our TiO2 business will be as we move off these contracts and China continues to March up the consumption curve.

These are all quite good businesses in their own right and any other mining company will just give their IT for a company or a business of that quality. This is a tremendous group of assets. These are all first tier assets. If they’re not first tier as Guy says, we will put them to the test and we will look at whether they fit in the portfolio. But I am completely committed to a diversified strategy, but I also recognize that we should be allocating capital to where we are going to get the highest returns. And right now and for the foreseeable future, that will be in the Pilbara.

James Gurry - Credit Suisse

And just one little follow up on the CapEx. Can you just tell me what sort of a strategy you’re implementing to keep sustaining capital at 4 billion for six years?

Tom Albanese

It’s a good question because we spend quite a bit of time looking at what is the appropriate level sustaining capital. And frankly if we looked at our businesses 10 years ago, we would have been spending much, much less than 4 billion. So we do ask ourselves, is that too much as it is? At the same time, I think we do recognize that some of our assets, they’re getting older. Some of our assets are quite a bit bigger now because of the growth we put into place and again we have I think increasing obligations and requirements to ensure that our business is a meeting permit conditions and certainly I don’t want to create a situation where we have an asset that is creating a hazard for the workers or the communities nearby.

So we do need to keep the businesses in good working order, it does make sense at certain point in a truck life in actually replace a truck with new truck and in some business it's all like city you can actually let a truck run for longer may be 100,000 hours (inaudible) more expensive to bring a maintenance person on site actually frankly return them over probably closer to 70,000 or 80,000 hours and also you have to look into business-by-business but I think it is fair to say we are going back to each of the individual business unit leaders and asking them to take a hard look at the wish list that always get start and start of the budgeting process and keep it pruned as we go forward and keep focused on first and foremost process safety and employee safety and then we move on to what it takes to ensure productivity and a compliance on a going forward basis.


The next question comes from (inaudible) from RBC please go ahead.

Unidentified Analyst

I am just wondered about the strategy that two of divisions to say forth could be kind of major changes, if the gas creates two thermal coals and what you see for process may be talk (inaudible) so not in aluminum the persistence of production continuing at a loss and whether this is kind of be something you see as a long term problem and what it must do way you think about those two divisions for and finally are there any changes in Oyu Tolgoi power tariff from the Chinese or is that all secure now?

Tom Albanese

Okay. Thank you. I think on strategy let me talk about gas and aluminum and then I will say something on OT. Frankly, I think it's probably more appropriate for turquoise hill to get into the specifics of how that is evolving. I just want to say on OT power, I'm confident that when the commissioning of the mine needs the power that we will have the power at that point, and its going to be something that is going to be seen to be commercially competitive.

I think on the gas and thermal coal, we've been spending quite a bit of time with Doug Riche and his team asking ourselves a broad question about the global energy sector which I think that the energy sector globally has actually had more change in the past two years than is seen for the prior 20 years. When you think about the post Fukushima world and its effect on nuclear, when you think about the changing evolving nature of carbon and whether its going to be priced or not and certainly when you look at what has been a phenomenal boost in the US economy in terms of moving from being an almost an energy importer to being an almost an energy exporter that has consequences in terms of the markets and how we see the business long-term. We have looked quite a bit at what this means for seaborne thermal coal.

We have asked the question, we've tested quite a bit with experts outside our industry in terms of what would be the likelihood of the propagation of shale gas outside the US market and to what extent that shale gas will play into traditional markets for thermal coal. And I think on balance, I'm convinced that thermal coal for at least the next 10, probably the next 20 years maybe into the 2020, maybe 2030 we will still be seen as the cheapest source of BTU, kilowatt cost basis. It is still going to be the cheapest source of electricity. You've seen in India what happens when you don’t have the electricity and does it growth rate of the population or the development, things get difficult quite quickly. Each government, consuming governments will make trade-offs between energy security versus energy cost versus the [ancillary] issues carbon versus nuclear safety and I think that thermal coal will play well into that into long-term.

Of course, we have made some strategic decisions ourselves over the past couple of years; I think they were the right ones. Three years ago we said; let's focus on thermal coal business just on seaborne markets. And we chose to divest for a variety of reasons from our coal business in the US, always a right decision on reflection. We did that partly because of our concerns about carbon and how carbon will be basically priced to be regulation rather than a price via market and also the fact that we had this long standing issue with the rail carriers basically carrying the economic value.

And subsequent to that, of course shale gas has made that market much more difficult. So that was the right decision. We will always keep our eye on that but for the foreseeable future, I think in the long-term the thermal coal seaborne market will have a robust demand environment. It will also have robust supply environment because people will come up with new thermal coal.

In terms of aluminum, you know, we’re continuing to see production at a loss. We’re, we’ve to ask ourselves how permanent that situation is with some of the subsidies you are seeing not just in China but also if you have seen in Australia, you’re seeing to some extent in Europe. Are they permanent subsidies or these going to be something that basically represent a transition to closure. I think in China, the real challenge is going to be as Chinese planters moved out of aluminum production to the west partly for job creation in more remote areas, what will they do with their traditional aluminum production facilities in the east and central parts of China. We are frankly power suppliers actually a more difficult issue. I spent some time in Sing Chang Province about a month and half ago to just get first hand sense as to the challenge we face and I think we are being very realistic about what the Chinese are doing now and what they plan to be doing going forward.

In China today, I think we are seeing probably some smelting capacity being carry their loss but also in a weaker Chinese economic environment where we are also seeing power generation not being a stress it is when times are tougher. What we will also be watching is as the Chinese economy gets boosted by the stimulus and say overall power generation is no longer in surplus like it is right now will they continue to carry that aluminum at a loss, and again these are questions that certainly we are keeping a close, close watch on and they do have an effect on how we think of the business but frankly we should remind ourselves we have first tier assets late last year we talked about a strategy which is going to be basically curtailing capital on the parts of business that are most exposed to as you say the smelting capacity issues but also being ready to focus more of the business on those parts of the sector which are benefiting from that particularly bauxite feeding into the Chinese market.

Thank you next question please.


The next question comes from Abhi Shukla from Société Générale. Please go ahead.

Abhi Shukla - Société Générale

I would like to ask two questions if I may. First is, what do you make of the recent fall in the prices of steel, iron core coking coal etcetera, is it just a question of lower demand or is it also an element of destocking or higher supply in it?

Second, could you please just remind us of your guidance for how much coal you expect to export out of Mozambique over the next few years and what is your likely unit cash cost of production on FOB basis?

And third, could you please let us know roughly how much MRRT you expect to pay in 2013 if all commodity prices and exchange rates etcetera stay where they are; and am I right in assuming that given your high level of CapEx it will be a very small amount. And in the long-run if iron ore prices fall to something like $25 a ton, you may actually be a net beneficiary because you will pay little MRRT and you may actually end up benefiting from higher depreciation? Thank you.

Tom Albanese

Thank you I will try with the first two questions and maybe ask Guy to talk about MRRT. I think as we've been seeing as you said, and you correctly pointed out we’ve seen a fall in steel pricing both finished steel and also rebar pricing. We've seen falls in iron ore prices which to a lesser extent than we've probably seen steel and coking coal.

I think we are seeing as the Chinese economy has slowed its GDP growth from say the nine’s to something closer to mid seven in terms of GDP growth we've hit probably over capacity of steel in China that has created an increase in steel inventories although it’s not been extreme. There has been an increase in inventories and a drop off in prices. And I think that there are probably others that are in a better positioned to talk about where that price is going to go on steel, but let me just focus on iron ore and coking coal.

As we’ve said before, we do see the iron ore pricing generally driven by the cost of iron ore margins and in the current environment of we see where supply sits right now, I think the markets view is that the floor has been somewhere about 120 and that’s essentially the marginal cost of Chinese consumption. We now are probably two or three weeks into a period of time when prices have been below 120, albeit not at a big level. I think everyone is going to be asking, how does that support get tested in this environment or do we break through that support?

I can’t say I see any real changes on the ground in terms of the mines, but you would expect mines to be reacting that quickly, but in the last two times since this has happened over the past couple of years, the traders have reacted quite quickly. They haven't so far this time around. So I think we just have to keep watching that point and to some extent, I think coking coal is following that same basis. I think coking coal has the added feature, but the Chinese market probably has more self sufficiency in coking coal and less of reliance on the seaborne market than you would see overall in terms of iron ore space.

I think in Mozambique, we have flagged that we would expect the 4,000 tons of production of coking coal. It's been a good quality coking coal that we’ve been delivering so far this year and I think as we’ve been saying, we will want to be ramping that up, but to be realistic, our own imposed constraints on capital spending will mean that that will probably a slower rate of ramp up than we probably would have envisioned 12 months ago; but the potential for that ramp up exists. If anything I would say the work we’ll be doing over the past 12 months indicates we’re probably more potential in total as we go forward and again this is truly a world-class basin deposit.

So I am comfortable with the position of getting [bang going] I used that to develop our team, used that to develop our local capabilities, continue the engagement with government, continue the engagement with others and find the right pathway and the optimal supply chain solutions which frankly will be there for the long-term.

In terms of cost I think realistically as you are working at lower levels of production you are not going to get the full benefits of higher costs, but I would say that the Mozambique asset does benefit from a much lower stripping ratio than we see from traditional coking coal provinces around the world, so that will be a mitigating factor.

Guy Elliott

Let me finish on the MRRT; look what I would say is as I mentioned we are a very big tax payer in Australia; we paid at about AUD7 billion last year and under the MRRT we do expect to pay the MRRT. I am not going to give you guidance though as to how much we are going to pay and I would discourage you from trying to calculate from the deferred tax asset any number which you might expect reflects the lighter cash payments that we will be making in October and early next year.

And the reason for that is there are lot of moving parts in this calculation to do with iron ore prices, coal prices, volumes of both foreign exchange rates, costs etcetera. In the event as you pointed out of a very much lower price I can hardly think of one as lowest $35 as you say, could we benefit? Well, we might pay less or no MRRT in such an extreme event and that would be curious results to the deferred tax asset, but that would depend on what we then thought about the future likely direction of prices and in any case that's a non cash item.

So I think the important thing is how much we pay and we are not giving an indication of that. What I have to tell you is that this is a rent tax and it is therefore going to be a volatile tax. It will raise money; I am not sure whether it will raise and I don't know, we are not giving any guidance as to how much exactly it will raise from us. I think there are other questions.


The next question is from (inaudible) from UBS.

Unidentified Analyst

I just wanted to ask two questions, firstly just on Pacific Aluminium, my usual question is I mean we've been waiting a while now and the aluminum market doesn't seem to be improving at all and then given your comments about subsidies, government interference to stop closures, it feels like it will be problematic for a while longer. When do we actually see some resolution to what you are going to do with it and then also are you thinking about given the loss making some of its assets will you be causing some of the assets within Pacific Aluminum?

And then I just wanted to see if you had any thoughts on China and you made some comments before about the marginal costs etcetera. The Chinese government has been very quick to support its local industries, you know cutting power tariffs to help the smelting industry; lastly talking about introducing VAT rebates to help the steel industry up. The iron ore industry has some taxes to pay, royalties and taxes, do you think the risk is or you've heard anything about whether the government might step in and lower the taxes on domestic in order to make them competitive with what's happening in international arena? Thanks.

Tom Albanese

Thanks, maybe Guy if you could tackle the Pacific Aluminium, I'll tackle China.

Guy Elliott

I accept that it’s true that we have not been able to sell this business yet. There were various focused on doing so and we have a number of different options as to how we might trade sell spin possible later on an IPO. I do accept, it's not the easiest environment in which to do this. So what are we doing, well, we put a new management team in as you know, they’re focused on running this business in a very lean manner without compromising of course safety or compliance. But in a different way than normal relating to our operations would be run more along a private equity model. And we’re pleased with the progress that’s being made there.

In respect of closures, we’re not looking at that at the moment. I don't think there is any and it is certainly true that some of the businesses are challenged, but we're focused on trying to improve them through various actions and a very good example of that was the recent new contract that Bell Bay obtained in Tasmania. So we're determined to resolve this through sale and we're confident that we can do that. It may not be tomorrow and we're not going to be pushed into accepting to lower value. We want or get a good value for these businesses.

Tom Albanese

Thank you. I think in terms of marginal cost, it’s focused time short on iron ore, and first of all I think we generally have focused more on the private iron ore producers than the SOE iron ore producers and if you look at the demographics, those private producers, they tend to be pretty small. They tend not to be, some are quite sophisticated, some are less, some are very informal. They don’t tend to be what I call big parts of an employment base or to the extent on that so would be and I think over the past five years or so, we have seen I think a reasonable correlation between price activity and whether they come in and out of the market.

So we wouldn’t envision that to be much of a different pattern as we go forward. If anything we have to recognize that you know grades are continuing to fall. We certainly have seen a number of industries in China, labor cost are continuing to rise. We are certainly seeing that as renminbi gets stronger, that also plays into this.

So I think the premise of pricing being driven off of marginal cost particularly driven on the demographics of private iron ore operations in China remains valid.

Unidentified Analyst

I just wanted to clarify something Guy said if I could please. Guy just wanted to clarify, you said your preferred method is the of (inaudible) Pacific aluminum, does that mean the space distribution to Shell is off the table?

Guy Elliott

No it is not off the table. I didn’t prefer any particular route although than to say that we would -- we are looking into selling into that., there are more than one option as to how we might do it. And you know we are focused on that. We are fully prepared for that and meanwhile we are running the business as best – in a very tough manner and very keen to prepare it for that sale prices or not preferring one route or so rather than another. It's all about value.

Tom Albanese

And I think [Glen] the focus in on ensuring that it can be run on a standalone basis which gives us options for whatever commercial pathway is the most optimal. Maybe if we have time for one more question I do want to close off at a 11 o'clock. It is now 11. Operator?


We have a question from (inaudible).

Unidentified Analyst

Just a couple of questions regarding CapEx. In terms of sort of the 2013, where would you sort of expect CapEx to come out based on the current approved projects and given you do some major projects sort of coming to an end outside of (inaudible) I think sincerely that guidance early that CapEx wouldn't go any higher but without approving additional projects would you actually think that the CapEx potentially drop next year and secondly just in regards to Simandou, what's the sort of spin right there at the moment and how long do you continue that spin right without sort of clarity of a (inaudible) rail important when do you sort of make a decision to stop spending the amount and why is the [government] to catch up?

Tom Albanese

I'll tackle those pretty quickly. I think as we said and I think the slide showed if we don't approve anything CapEx drops in 2013 as compared to 2012. I hope you've got appreciation that the burden for a manager to get approval on new capital projects is very, very high right now. There's not a lot of appetite to increased capital above current levels. As a matter of fact, I think Guy recognized that 16 probably represents a capacity limit both in terms of both financial resources but also people resources and other capabilities so that means that I think again its going to take quite an astounding project to get through the hurdles over that next 12 to 18 months. I think in terms of the Simandou I think we are continuing to do quite a bit of work on engineering. We are engaging with the government of Guinea, we are engaging with our partners on all that work we are doing the site prep to enter future camp areas. So we are laying all the ground work. We haven't given a spend rate per se but I would say that it is fair to say the activity on the ground that we are putting in is much, much higher than anyone else and in Guinea. I'm clearly committed to see a rail built but a rail built under the terms that we had agreed upon with the Government of Guinea and with Chinalco over the past 12 months. So it’s in the process for development.

With that, thank you very much and some of you, it’s late in the evening obviously you might want to switch over to the Olympic channel. Thank you.

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