Vale S.A. (VALE) Q2 2010 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen. Thank you for standing by, and welcome to Vale's conference call to discuss second quarter 2010 results. If you do not have a copy of the relevant press release, it is available at the company's Web site at www.vale.com at the Investors link. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions) As a reminder, this conference is being recorded. To access the replay, please dial 5511-4688-6312, access code 47095. The file will also be available at the company's Web site at www.vale.com at the Investors section. This conference and the slide presentation are being transmitted via Internet as well. You can the webcast by logging on to the company's Web site, www.vale.com, Investors section, or at www.prnewswire.com.br. Before proceeding, let me mention that forward-looking statements are being made under the Safe Harbor of the Securities Litigation Reform Act of 1996. Actual performance could differ materially from that anticipated in any forward-looking comments as a result of macroeconomic conditions, market risks, and other factors. With us today are Mr. Roger Agnelli, president and chief executive officer; Mr. Guilherme Perboyre Cavalcanti, chief financial officer; Mr. José Carlos Martins, executive officer of marketing, sales, and strategy; Mr. Tito Martins, executive officer of basic materials operations; and, Mr. Eduardo Bartolomeo, executive officer of integrated operations. First, Mr. Cavalcanti will proceed to the presentation. And after that, we will open for questions and answers. It is now my pleasure to turn the call over to Mr. Cavalcanti. Sir, you may now begin.

Thank you. Good morning to you all. We will have a brief presentation about results in perspective. And then, we'll go to our Q&A session. We believe that we delivered an outstanding performance in the second quarter of 2010, reaching operating revenues of almost $10 billion, EBIT margin of almost 48% and EBITDA of $5.6 billion, and net earnings of $3.7 billion; all significant increases from the previous quarters, and also a very significant increase compared to the same previous – same period of last year. On the cost side, we presented savings in two quarters in a row summing up $500 million. Adjusted EBITDA almost doubled, being driven by strong demand for minerals and reflected on the price valuation. And we presented a decrease on the revenue ratio from 2.4 to 1.8 gross debt to EBITDA and to 1.3 times net debt to EBITDA. Our powerful cash generation also allowed us to increase our investment to 88% from $5.2 billion to almost $10 billion on the first half of 2010. Now, talking about short term outlook, it appeared that financial markets were predicting leases that did not happen. This trend was reflected on the commodity prices that now appear to be recovering as you can see on page 12. In four countries of Europe, recovery also remains strong. And on page 14, following the history of US industrial production, we can see a pattern of moderate growth after strong recoveries. On page 15, you can see China continues to grow at high rates, although lower than previous quarters, we believe it is a more sustainable pace. On page 16, we can see global carbon steel output return into peak reached before the crisis. Despite short term volatility, demand for iron ore remains strong. The quarterly pricing system is being…

I wasn't supposed to speak, but I think it's good to say something about the results. First of all, good morning, everybody. It's a pleasure to be with you today. And it is – I was very happy to see that you (inaudible) we call in Brazil (inaudible) or hot seat because of using – the slide presentation is showing very good results for the – in the second quarter. What I would like to say is that everything is going well. The trend is very good. In terms of revenues, in terms of costs, in terms of perspective, we are very happy that we are in a very nice and very good year for VALE. We have several projects that we are finalizing right now. As you know, we have been investing heavily in the last three or four years. And we have almost $15 billion, $16 billion in capital allocated to those investments without any revenue. And now, we are going to see some returns on those investments. And I think the most important thing is that the major parts of the projects are Greenfields projects. And we have already prepared those projects due – from field expansion. And we are going straight in almost everything. In Bayóvar, we are going to inaugurate that in the 5th – August the 5th. And we are going to announce that we are going straight for the expansion. We are going to finalize Mozambique. And again, we are going straight for the expansion. We finalized already the CSA. Maybe at the end of the year, we are going to decide if we are going to expand the project again or not. Other projects that we are finalizing next year, also we are going straight to the expansion, for example, Salobo. So…

Thank you. Ladies and gentlemen, we will now begin the question-and-answer session. We kindly ask to please restrict your questions to two at a time. (Operator Instructions) Again, please restrict your questions to two at a time. Our first question comes from Mr. Felipe Hirai from Merrill Lynch. Felipe Hirai – Merrill Lynch: Hi. Good morning, everyone. Guilherme, good luck on your new role at VALE. So I have two questions here related to iron ore. So my first one is regarding prices, so if you could just give us some explanation of what happened to the realized prices, according to the formula, we were expecting prices closer or above $100 a ton. The average price came at $92. Maybe if you could talk on what happened with prices in May and June? And also on that topic, if you could talk a little bit on where you expect to see prices in the third quarter? Again, according to the formula, we would expect to see prices going up by $30 in the third quarter. So that's my first question. Thank you. José Carlos Martins: Okay, Felipe, Martins speaking. As far as the price system, it's rolling out very well. In the first quarter, there was no problem to apply the new price system because, as you know, spot market at that time was going below the formal price, and in this quarter, the opposite. But the system is going all very well also. We shipped every ton in this first month. And we had all the vessels nominated for the next month. And we don't believe we're going to have any kind of problems. So customers are fulfilling their obligations as far as the price system, also as far as the quantity. So the system in itself is doing…

Okay, Felipe. First of all, we should try to separate what is from behind. Behind, we had the (inaudible) on top of the fourth line in Ponta da Madeira. Starting November with the fourth dumper, then it's really catching up, the number of the yards, the reclaimer, the stackers. And now it's all finished, I think. Just look at June, for instance, we did the best year – the best month this year and we are looking very positive. You can say, as Martins already mentioned, during the first semester added to the normal problems that we face in day-to-day operations in quality of equipment. Of course, they heard it a little bit more up in Ponta da Madeira. But our technicians worked very well. It's already solved. So we have the rainy season that, in the case of the north, goes a little bit further than through June. But anyhow, if you look at the second semester, the ramping up of the fourth line is already ongoing and is doing well. The rainy season, of course, is well over, as Martins already mentioned. So we're looking – and the normal problems that we have in day-to-day operations, we've been tackling them and solving them. And we're very, very close and near to our budgets. I mean I'm very optimistic about the second semester.

And Felipe, this is Roger. Of course, it's very important to mention that we are preparing all these systems – all these systems in the company for the coming production. So you know that we are expanding production in the north system, in the south system and we needed to prepare the ports for this new capacity requirement. So Eduardo mentioned about the north – the Ponta da Madeira. I consider that nothing – it's not a problem. It's something that you have to face in a one-part phase. And as you know, 2007, 2008, 2009 equipment – all the equipment that were produced in this time, some of them faced some quality issues. So everybody is facing this kind of thing. So the one part, instead of taking three months, it took three-and-a-half, four months. But this is natural. You are going to see, in the third quarter, that the Guaiba Port here in Sepetiba Bay was stopped before for two – three weeks just to prepare the port to receive the new car dumper.

The new ship loader.

The new ship loader, sorry, the new ship loader. So what we are doing is the work that is necessary to do to prepare the system to increase capacity in the near term.

And to consume all the iron ore that is produced in the mines. That's the most important thing. So we're going to move it through the ships. José Carlos Martins: And Felipe, as far as the price issue is concerned, I would like to add another point that I forgot before – forgot to say. When you make your calculations and you use our deliveries, which in wet basis and the pricing system is in the dry basis. So this brings something like $5 or $6 difference, okay, because you calculated our volumes on wet basis and the price on a dry basis. So this is another point that you have to consider when you assess the average price that we are realizing.

In the first and the second quarter, the ore was really wet. It was raining a lot.

Excuse me. Again, please restrict your questions to two at a time. Our next question comes from Mr. Ivan Fadel from Credit Suisse. Ivan Fadel – Credit Suisse: Good morning, everyone. Good morning, Roger, Guilherme, Martins, Tito, Bartolomeo. My first question is regarding the projects, the CapEx. When I compared the CapEx budget in the first and second quarter releases, I noticed some changes in Carajás plus-30 project, also in Vargem Grande Itabiritos, Tubarão VIII, Moatize, and Tres Valles. Could you go over them briefly to explain why the CapEx increased in most of them? And why, particularly in Carajás plus-30, you have now a lower budget for – specifically for 2010? Carajás And my second question would be related to VALE's growth prospects and M&A. So VALE is to generate very strong cash flows in the next few quarters and, perhaps, years on very high iron ore price expected. And every once in a while, I noticed that there are concerns from market participants, from investors, that VALE might undergo large acquisitions in the future, perhaps taking lower returns. How do you see this going forward? Is it something that VALE's planning for larger acquisitions given that you get very strong cash flows ahead? Or do you keep discipline and perhaps focus on organic growth? Thank you. José Carlos Martins: Thank you, Ivan. Beginning with the second question, first of all remember that VALE is the only mining company who can double the capacity only with organic investments. So our focus is really organic growth. So there's a lot to do in this sense. And again, big acquisitions have also, today, not only for VALE, but also for the mining industry as a whole, restricted from the financing capacity of the banking system today. So that's not our focus today.

If I can go over the process. When you look at the south – sorry, the Carajás plus-30 that you asked, it's because of moving targets of the startup date because due to environmental license that we faced problems to take them for presentation, et cetera. When you look at specifically to one of the projects, like Moatize, Moatize added some logistics on the – so we had to readjust the budget. So taking that into account, we may – we're going to move to truck access. We're going to have to make a solution on the beta ports. So that's basically just as normal – just on the budget. José (inaudible) those things, as José has already mentioned, are being challenged and discussed as to how is the investment that we have now. But they're normal, just as – as we have with all of the projects. José Carlos Martins: Ivan, this is José. How long have you been working with this across – covering the valley. Ivan Fadel – Credit Suisse: Sorry, say it again. José Carlos Martins: How long have you been working covering the valley? Ivan Fadel – Credit Suisse: Eight years, eight years. José Carlos Martins: Eight years, okay. Ivan Fadel – Credit Suisse: Yes. José Carlos Martins: So you know very well that in the last 10 years, they are following strictly this truck – this plan that we are now there back in 2001 as soon as I – before the – same year. Everything that we made in terms of M&A was opportunistic approach. And of course, there are some actors that we expect to hold – minimize to acquire. But they are not at our (inaudible), so if they somewhat decide to sell, we are prepared to buy. If it fits…

Excuse me. Our next question comes from Mr. Rodrigo Barros from Deutsche Bank. Rodrigo Barros – Deutsche Bank: Good morning, everyone. Congratulations on the very good results, in particular when we consider the non-recurring effect of the delayed shipments. I have some questions, the first one on the VALE news. We note that although iron ore prices came down from almost $190 per ton to $120 per ton, at the same time the value was increased from $4.5 to $6 per ton now. I would like to know if you have any explanation why the value was increasing despite the falling iron ore prices. This is the first question. José Carlos Martins: First of all, you needed to understand that the new price formula was built exactly to get this because in the former price system, it's only in the iron ore content. If you have iron ore that reached $58 or $66, the price – the percent of iron ore would be the same. So that was observed for a while. And so, because that situation would allow us to correct the price from – to correct the iron ore from August without getting the value used for it. So exactly what's going on is the price goes down. And you have more quality ore available, the more you'll need the high quality ore. So in order that the customers to get advantage of the low quality ore, they had opportunity to buy more good quality ore. And they have to pay for it. So I think it's – and that's the beauty of the new system for VALE because now, we really have value for our quality. And the market is recognizing it. And that's more beautiful because the market is recognizing and paying it. So if the…

This is our second coal reserve.

Excuse me. Our next question comes from Mr. Leonardo Correa from Barclays Bank. Leonardo Correa – Barclays Bank: Yes. Good morning. Thank you very much for the call. My first question is regarding the iron ore quarter pricing mechanism. The question is for Martins, please. We have been recently hearing of high resistance levels out of the industry on the quarterly pricing mechanism and this is basically given the time the disclosures are made generous. Just to hear from Martins, if I was contemplating to change the system to a monthly pricing system going forward, just to get your views on that. And the second question is regarding – also for Martins, is regarding the outlook on iron ore demand for Europe, given that the restocking is now close to complete. What type of demand levels are you seeing for Europe during your coming quarters? Those are the questions, please. José Carlos Martins: Well, as far as the price system is concerned, we have just come from a price that was established for a period of one year to a system that the price is established for quarters. So it was a big improvement from one system to the other. I think the answer for your question is you'll be dealing by the market because as long as volatility stays too high and probably there would be a need for some adjustment. But I believe that after this overshooting this year in these two quarters, and you see now that the iron ore price is stabilizing in the – in the spot market in China, I believe that this activity will be reduced going forward. And maybe we don't need to change it. But the answer will be given by the market. So as we told you before, we need…

Excuse me. Our next question comes from Mr. Rodolfo De Angele from J.P. Morgan. Rodolfo De Angele – J.P. Morgan: Hi. Good morning. My first question is about the Chinese iron ore industry. I wondered perhaps if you could comment on there specifically, if you have a view on what's the marginal cost of production, and if there're any changes on going on, such as consolidation, anything on those lines. José Carlos Martins: The performance of Chinese iron ore production was very good in the last three months. I think they operate near their full capacity. That's one of the reasons that brought some stability for the spot market also because after the winter, they come and produce almost at full capacity. And this has a brought a lot the ore at the market. And it brought some stability for the iron ore price, which is not bad. But looking forward, they don't have too much space to grow. And when you look at Estreito, the largest mines in China can produce 10 million tons per year. So the majority of their mines are below 2 million tons per year. So their cost structure is very high. Another issue is that 30% of their production is underground, and you can imagine how expensive it can be to bring iron ore from–

The ratio. José Carlos Martins: The (inaudible) ratio is that big. So then, their cost structure is very, very different. For some mines, it can be as low as $50, open pit and dig mines. But for some mines, it can be near $140, $150. And those mines, when the spot price will go down like it did, the tenants, they get out. On average, their cost is around $80 to $90 per ton. And that's the reason, I believe, the long term for iron ore will be not below this level because that was the cost structure. As long as China continues to grow their economy and their steel industry, they will need iron ore. And their cost structure for their local mines can be a flaw for the iron ore price. So I don't – also, quality is another point we talk to. Today, to look at $66 iron ore from China, and a 58% iron ore from India, you have almost a $30 difference between both. So it's a huge difference for quality – for iron ore quality. So long term, I believe that this price will not go below $100. We had that problem in 2008. But in 2008, you had a slowdown all over the world, Europe have mostly disappeared. And everybody dumped the Chinese market with iron ore. And their market at that time was not so good also. So there were so many factors put together. And then, the price went down as low as $60. But I don't believe that will happen again. And I believe that the iron ore price will be sustainable in the range of $90, $100 per ton long term. Rodolfo De Angele – J.P. Morgan: Thank you very much.

Excuse me. Our next question comes from Mr. Tony Rizzuto from Dahlman Rose. Tony Rizzuto – Dahlman Rose: Thank you very much. I wanted to confirm something I thought I heard, and then also ask a question about pricing for iron ore. And I think I heard earlier that, Martins, when you were mentioning about the carryover tonnage in the second quarter, I think I heard a figure of 10 million tons, if you could confirm that for me. And if you could give us– José Carlos Martins: Yes, 10 million tons. Tony Rizzuto – Dahlman Rose: All right. Thank you. And did I hear you say that that would be behind you or a little bit further in 3Q as well. José Carlos Martins: We have some carryover for this quarter, and more than that, for sure. And I think we can finish all carryover by the end of this quarter, so I want to enter the fourth quarter without any carryover. Tony Rizzuto – Dahlman Rose: All right. Thank you for that. And then the second question is, when I think about the realization, obviously, there have been a lot of discussion about that so far. But would it be unreasonable – I mean when we think about the pricing mechanism now and as this – the carryover tonnage dissipates somewhat, you're operating at better levels that the Board issues, et cetera. Are we likely to see a pricing increase that could be closer to 40% or 50% sequentially? José Carlos Martins: We have a problem. We cannot hear your question. And there was an interruption in your line. Tony Rizzuto – Dahlman Rose: Can you hear me now? José Carlos Martins: Okay. Let me repeat that. And I apologize. I don't know what's going on. If we think about the pricing mechanism with your operational issues behind you at the port, a little bit dissipation in terms of the carryover further behind you. Is it unreasonable to think about a sequential price increase for iron ore that could be 40% to 50% in the third quarter? José Carlos Martins: Sorry. But it continues to interrupt, so I cannot understand your full question. I know you talked about the carryover, about the price realization. But I was not able to get what your question was. Tony Rizzuto – Dahlman Rose: All right. Let me maybe take– José Carlos Martins: What is interrupting?

(Inaudible, microphone inaccessible). Tony Rizzuto – Dahlman Rose: Maybe one final shot. Can you hear me now? José Carlos Martins: Yes. Tony Rizzuto – Dahlman Rose: All right. I'm just trying to get a better handle on the third quarter price realization for iron ore. With these issues moving behind you, is it likely that we could see an increase maybe on the order of magnitude of 40% to 50% in the third quarter on your realization? José Carlos Martins: Well, I think that this situation in the third quarter will be positively affected by – because the price went up, we have – if we look to the average, the spot went up. So that's the information you have. And also, you have some improvement in the point you raised about the carryover. But I asked you to be very, very conscious about it because I told you before that you are calculations on a wet basis, and the price system is on a dry basis. So then, you have $6 – $5, $6 difference on that. Another point is the sales that we have in the domestic market. VALE's sales are much more than our competitors in the domestic market. Brazilian domestic market is a big market for iron ore. So if all those sales are done, a price that is lower than FOB-based price because we have the logistics that cannot be considered. So the price will go up because of the – because of the average that increased in the spot in China, and also because the carryover will be lower. But you have the other factors that will be present anyway. Then you might – you have to be very careful when you make your assessment. And as you know, we cannot make any kind of forecast about what or where the price will be. The system is there. You know about the price. I told you what the points are that would influence this average price. But it'll be up to you to draw what the number will be. Sorry for that, but I cannot elaborate more about this.

Excuse me. Our next question comes from Mr. Marcos Assumpção from Itau Corretora. Marcos Assumpção – Itau Corretora: Hi. Good morning, everyone. Congratulations for the results. My first question is regarding iron ore volumes seen in the third quarter. I understand that shipping operations are – will be running at much more normalized levels in the quarter. But I'd like to understand if – from a market perspective, did VALE – is VALE suffering or facing a little bit shorter – short term demand on the back on the cool down on the Chinese property market during this period, and also the seasonally slowdown in Europe? José Carlos Martins: Eduardo told you before that production's running very well. So we are going to have – sure, a better performance this quarter for many reasons. And as far as market, we are delivering every ton that we are able to produce and ship. So I've told you before that July, the sales were completely normal, no problems, no problems to deliver. For the August, we have the ships already nominated. And for the time, maybe I do not see any problems arising from this slowdown in the property sector in China. And I think a good practice for analyzing this is the – the iron ore spot price, that's moving up in China in the last two or three weeks. Marcos Assumpção – Itau Corretora: Perfect. My second question is regarding the nickel business. When do you expect volumes to return to more normalized levels on this business, and given the end of the strike recently in Sudbury?

Hello. This is Tito speaking. Thank you for the question, by the way. I was sleeping here. We are already bringing back all the employees. Of course, we need some time to train them again. So we should be back on full capacity by September. It's good to remind you that we were already operating with the 50% capacity, so that's why we – the temp's going to be fast. If we were not operating before, it probably would take us much more time, probably three months, to come back to the full operation. It's important to address that we are still on strike in Voisey's Bay, Labrador. But it's starting to interfere with the operations because even if they are – we aren't operating in 100%, we managed to bring in – to work with the staff and replacement workers, so Canadian operations should be in full capacity by the end of September.

Excuse me. Our next question comes from Rene Kleyweg from UBS. Rene Kleyweg – UBS: Good morning, gentlemen. A couple of questions, one on Simandou, could you just give us an indication of when – or what hurdles need to be met for the payment to be made to BSMG? And what potential capital commitments would be made prior to that next installment? And secondly, Roger mentioned the challenges facing the industry in terms of water consumption, et cetera. There, earlier, has been mention for the possibility of a dry beneficiation process system for it. Hello? José Carlos Martins: Yes. Rene Kleyweg – UBS: José, it appears to be the mention of a possibility of a dry beneficiation process system for the 30 million ton expansion at Carajás. Is that still under review? I see you've got the – the da estratégia e implementação. But I was just wondering if you could update us on the potential dry process there. José Carlos Martins: Well, Martins speaking. As far as Simandou, we are committing our – near $200 million for the project – for developing the project, for the mine and for the logistics. And the next fragment – the next statement will be done after some benchmarks achieved as we get to the full license to bring ore to – to Liberia, and also after we have this feasibility study on place. So that what is what we are committing now is this $200 million for a feasibility study, basic engineering, and also the – the project – for the railways that we needed to revamp it, the railways for – for (inaudible) that we needed to revamp it. So with that (inaudible), for one-year-and-a-half, we are not going to have probably any other payment as far as Simandou is…

Excuse. Ladies and gentlemen, this concludes today's question-and-answer session. Mr. Cavalcanti, at this time, you may proceed with your closing statements, sir.

Thank you very much everybody for attending this call. And see you next quarter.