CliffsConsolidated Thompson Deal – A Shake Up for the Global Iron Ore Market?

The Cliffs Natural Resource Inc announcement that Chinese regulators approved its purchase of Consolidated Thompson Iron Mines Ltd may appear innocuous to some at first blush, but if we lift the skirt a little we see some enormous implications for the global iron ore market. To begin, did anyone doubt whether China would approve this deal? Of course not China’s Wuhan Iron and Steel (a state-owned entity) owns nearly 19 percent of Consolidated Thompson, according to this story. And we all know how aggressive China has become to secure long-term supplies of key raw materials, particularly for those in which it relies upon essentially, an oligopoly. We find the deal intriguing for a number of reasons.

First, it puts Cliffs on the Asia map (not that they weren’t there already), a place dominated by the ‘Big Three’ of Vale, BHP Billiton and Rio Tinto. But that represents only one part of the story. Wuhan Iron & Steel received a “support agreement” from Cliffs as part of its equity stake in Consolidated Thompson. We can only speculate that this “support agreement involves some sort of long-term supply arrangement with a price mechanism pre-negotiated. Wuhan potentially gains a competitive source of supply, taking a bite (though small) out of the negotiating clout of the Big Three.

China laid out its strategy to become less dependent on the Big Three as part of its latest five-year plan. A recent Business Spectator article described China’s raw material sourcing strategy for iron ore as follows: “China’s plan involves a massive increase in domestic production, gaining control over offshore iron ore deposits and a substantial consolidation of its steel-making sector to try to gain improved negotiating leverage. Though the Business Spectator piece noted a tone of doubt as to China’s ability to “reduce its reliance on the Big 3, we’d argue the Cliffs-Consolidated Thompson deal represents a win. With the addition of Consolidated Thompson’s 580 million metric tons of proven iron ore reserves, and Cliffs’ announcement that it seeks to sell half its production to Asian export markets, the deal remains noteworthy, at a minimum.

And though many, including the author of the Business Spectator piece, believe China’s SOEs (state-owned enterprises) will struggle “to acquire high quality resources in developed resource economies, Wuhan has proved that assumption might not hold true.

The deal also has ramifications for North American steel producers. As we earlier hypothesized, iron ore still trades at a steep discount in the US vs. China. If Cliffs succeeds in selling iron ore at a higher price in Asia than it does in its home market (with a potential 25 percent-per-ton price delta, the theory appears at least plausible) that could force steel producers based in the US to pay more for iron ore.

Yet another reason why we need to track the steel market in China¦

–Lisa Reisman

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