Vale (NYSE: VALE), like all other commodity companies, has had a difficult time since the start of the commodity market downturn. The company was forced to cut its dividend and watched its earnings crater significantly hurting its share price. However, despite the company's difficulties, as we will see, the combination of the recovering commodity markets along with the company's recent cost cutting measures make the company a strong investment at the present time.
Vale is a Brazilian multinational corporation engaged in metals and mining. The company is one of the largest logistics operators in Brazil with a market cap of just over $40 billion. At the same time, the company is the largest producer of iron ore and nickel in the world with significant other mining assets. The company's dominance in mining have allowed it to use its quality assets to stay ahead of its competitors throughout the down cycle.
Vale's stock price peaked in early-2011 at just over $36 per share. From that point, the company's stock price took a rapid fall to an early-2016 low of just over $2 per share. This was in the face of iron ore prices that took a devastating hit over the past five years. Since then, the company's stock price has quadrupled to a present stock price of just over $8 per share. Despite this recovery, Vale still has significant room to continue recovering to its pre-crash prices.
Vale Cost Discipline
Now that we have an overview of Vale along with a discussion of the company's recent stock price performance, let's begin by discussing the company's cost discipline.
Throughout the market crash since 2011, Vale has delivered significant new projects, especially in ferrous minerals, or the iron ore markets the company specializes in. However, at the same time, while delivering these projects, the company has decreased its capex significantly. The company's capex has decreased by 65% from 2012 when it was $16.2 billion all the way down to $5.6 billion in 2016.
This is a result of both a rapid decline in growth capex and the company cutting sustaining capex costs.
Vale Expense Reductions - Vale Investor Presentation
While delivering on its new projects and cutting its capex, Vale has been focused on reducing its overall costs. The company's overall costs have decreased by an astounding 31% from 2012 to 2016 saving the company roughly $7 billion annually. At the same time, the company's expenses have declined by 82% from 2012 to 2016 from $6.9 billion to $1.2 billion.
As we can see here, Vale has seen its expenses decline significantly. This significant decline in the company's expenses saves the company cash every year. This means that the company can handle a longer crash. At the same time, it also means that when prices do recover, the company could see its earnings recover rapidly. This rapid recovery in earnings puts the company in a strong position to reward shareholders in the future.
Vale Project Success
Now that we have a detailed overview of Vale's cost discipline and how the company has been cutting costs since the start of the crash, let's discuss Vale's success in project startups.
Vale S11D Cost Reductions - Vale Investor Presentation
S11D is the largest mining complex in Vale's history. The project provides Vale with access to high-grade iron with a 66.7% iron content. At the same time the project will require $14.3 billion in investment from Vale. As a result, this mine will be able to produce 90 million metric tonnes in annual iron ore production.
Iron Ore prices had a difficult time and bottomed out in early-2016 at just over $40 per metric tonne. Since then, worldwide iron ore prices have recovered significantly to December 2016 average spot prices of $80 per metric tonne. At present prices, that means that the S11D mine alone will be able to produce $7.2 billion in annual revenue.
We can then combine these numbers with the mine's cash costs of just $7.7 per metric tonne in cash costs and $1.8 per metric tonne in sustaining capex. Both low prices in comparison to the remainder of Vale's operations, we can see how this mine will provide Vale with significant future profits. That mine is central to Vale's future growth.
Vale Longterm Capex - Vale Investor Presentation
As a result of Vale's improvements in global recovery, the company's sustaining capex are continuing to go down significantly. Since the start of the 2011 crash, the company has reduced its sustaining capex from $4.6 billion to $2.4 billion. As the number of mines required for the company to maintain production at its present level decreases, the company's sustaining capex should continue to decrease.
At the same time, iron ore prices have been recovering recently. As we saw above, from early-2016 to late-2016, iron ore prices almost doubled. That means that not only can Vale cheaply maintain its iron ore production, but the profits the company is earning from this iron ore production are increasing rapidly.
This shows how cost cutting measures along with recent prices recoveries make Vale a strong investment at the present time.
Vale Earnings Increase - Vale Investor Presentation
Looking at the numbers of Vale's EBITDA from ferrous materials, iron ore, specifically, we can see how the company's earnings are increasing significantly. The company's EBITDA per ton of iron ore production is expected to increase from $3 per ton present to $5 per ton in 2020. At 450 million tons in annual production, this points towards Vale earning $2.25 billion in annual EBITDA from this annual production alone.
As we can see here, Vale's earnings are anticipated to increase significantly which should noticeably help to reward the company's investors. In fact, by 2020, Vale anticipates its EBITDA potentially reaching an astounding $18 billion. Given Vale's present market cap of just over $40 billion, this would give Vale a market cap over EBITDA ratio of roughly 2.3.
This shows how undervalued Vale is based on its future earnings potential.
Vale had a difficult time from its 2011 stock price peak to an early-2016 low of just over $2 per share. In fact, from the company's 2011 stock price peak, the company watched its stock price drop by almost 95%. Even with the company's stock price quadrupling in 2016, the company is still noticeably below its 2011 highs.
On top of this, Vale has been significantly reducing its costs. The company's sustaining capex has almost halved since the start of the 2011 crash and the company has managed to significantly reduce its growth capex at the same time. This shows how Vale has been significantly reducing its costs.
At the same time, the iron ore markets are recovering with prices almost doubling in 2016. This combined with Vale's massive S11D project mean the company's margins should significantly grow. This impressive combination of Vale's cost reductions along with the recovery of the iron ore markets make Vale a strong investment at the present time.
Disclosure: I am/we are long VALE.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.