Is Rio Tinto Trying to Corner the Iron Ore Market?

The iron ore miner has plans to catapult itself to the forefront of the industry.

Rich Duprey
Rich Duprey
May 25, 2016 at 5:34PM
Energy, Materials, and Utilities

The Simandou mountains in Guinea could alter the landscape of the entire iron ore industry. Image source: Rio Tinto. 

Despite the iron ore supply glut, the biggest miners in the industry continue to boost their output leading to allegations that BHP Billiton (NYSE:BHP), Rio Tinto (NYSE:RIO), and Vale (NYSE:VALE) are trying to drive smaller producers out of the market.

Vale, for example, reported it produced 77.5 million tonnes of iron ore in the first quarter, a record output for the period, with its Carajas project alone producing a record 32.4 million tonnes, up 18% year over year.

Similarly, Rio Tinto said it was on schedule to produce a record 350 million tonnes this year, and though BHP Billiton cut its production forecast for the year, it blamed it on poor weather it suffered in the first quarter as well as railroad maintenance work. Other miners like Roy Hill and Fortescue Metals have also been increasing their volumes this year, while countries like Russia are expected to increase production as well.

Although Rio Tinto dismisses the notion that it's working in concert with BHP Billiton to force out less efficient producers -- Chairman Jan du Plessis saying it was nonsensical to suggest it was "trying to be Saudi Arabia," a reference to the oil-rich country's oil minister in February calling on high-cost producers to "get out" of the market -- it certainly looks like the miner is trying to corner the iron ore market.

Simon says, "Do this"

The world's No. 2 producer just announced it was moving ahead with its Simandou project in Guinea and had submitted feasibility studies to the government. When Simandou comes online, it could dramatically tilt the playing field in Rio Tinto's favor.

Guinea is currently best known for having one of the world's largest reserves of bauxite, and its economy is also dependent on the significant quantities of diamonds, gold, and uranium that are mined there, as well as the oil off its coast. But the iron ore deposits in the Simandou mountains could dwarf all that with an estimated potential worth of $50 billion. And Rio Tinto is essentially sitting on top of it.

It was granted exploration rights to the massive deposit in 1997 and was subsequently granted a concession to develop the project. But in 2008, Guinea's then-dictator, Lansana Conte, charged Rio with taking too long to develop the mine and stripped it of half its rights to the claim. Just before his death that year, Conte granted the northern portion of Simandou to BSG Resources, which invested $165 million in developing the project, only to sell to Vale a 51% stake.

When a new, democratically elected government took power after Conte's demise, it simultaneously launched a probe into the deals the previous administration had made and ruled the entire process was riddled with corruption. It stripped both BSG and Vale of their rights to the northern half of Simandou, which it then put up for auction. Rio Tinto then sued both BSG and Vale for their part in it losing half its claim, but a U.S. district court ruled in November the miner had waited too long to bring the case.

High cost, high reward

Rio Tinto has spent some $3 billion over the years on Simandou, and earlier this year reported a $1.7 billion loss primarily because of $1.8 billion it was forced to take in impairment charges related to the project.

But the lucrative asset could eventually change all that. At full production, Rio Tinto says it would be producing 100 million tonnes annually, or would add $7 billion in revenues each year at a price of $75 per metric tonne. While iron ore prices have been rallying this year, they've struggled to remain above $50 and most miners and analysts are expecting it to fall as the year progresses.

Still, it represents a huge opportunity for Rio Tinto, and the decision to move forward on the project despite seemingly disadvantageous conditions suggests the iron ore miner wants to catapult itself over the competition and gain a stranglehold on the market.