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Rio Tinto Doing Fine on Its Own

August 27, 2008

Mining giant Rio Tinto (RTP) must wonder what it has to do to impress shareholders. On Aug. 26, the Anglo-Australian company announced a 55% annual jump in first-half underlying earnings, to $5.47 billion, on revenues of $27.1 billion, more than double the level a year earlier. With numbers like that, you would expect investors to rejoice. But that’s not what happened: Rio’s shares dropped slightly by the close of London trading and are now down 2.6% since the start of the year.

Why are Rio shareholders so anxious when growth is sizzling? They’re worried that the record runup in global commodity prices may finally have peaked. They also fret that the booming Chinese economy — the major driver of soaring costs for resources like iron ore and copper — could slow or even slump now that the 2008 Beijing Olympics are over [BusinessWeek, 8/14/08].

On both counts, Rio Tinto Chief Executive Tom Albanese went out of his way to calm fears. At a press conference on Aug. 26, he said China’s domestic growth will continue to underpin strong commodity prices in the short- to mid-term. “We don’t see any countrywide drivers [in China] indicating a slowdown,” Albanese added.

Commodities Still Hot Indeed, Rio’s first-half results show there’s still plenty of demand for commodities from developing economies. Pretax profit from the company’s iron ore division rose 150%, to $4.86 billion, while earnings from the aluminum unit jumped 241%, to $2.52 billion. Some of that jump can be attributed to Rio’s $38.1 billion acquisition [BusinessWeek.com, 7/12/07] of Canadian aluminum outfit Alcan last year. But the company also negotiated a new deal [BusinessWeek.com, 6/23/08] with Chinese industrial giant Baosteel, which will pay up to 96.5% more for iron ore.

“China is set to continue growing,” says Simon Toyne, an analyst at stock brokerage Numis Securities in London. “I don’t see there being a post-Olympic slump.”

Iron ore and aluminum weren’t the only big gainers, as Rio also posted record half-year production for other commodities such as thermal coal and bauxite. That reflects a shift by mining companies away from sluggish markets, particularly the U.S. and Western Europe, toward fast-growing emerging economies. While Albanese said countries like China and India hadn’t completely decoupled from the Western economies, he stressed that internal growth — not exports to slumping Western countries — would be key to their future prospects.

Beating BHP Billiton To illustrate his point, Albanese highlighted the 18% annual increase in Chinese aluminum demand and 16% yearly jump in the country’s steel consumption, despite the current global financial tightness. Rio Tinto is the world’s second-largest producer of aluminum and iron ore [the main component of steel]. “The [economic] drivers remain intact both in Asia and across other developing markets,” says the company’s chief economist, Vivek Tulpule.

Rio’s outsize performance also helped answer strong results reported Aug. 18 [BusinessWeek.com, 8/18/08] by rival miner BHP Billiton (BHP), which launched an unsolicited $150 billion takeover for the company last year. BHP Chief Executive Marius Kloppers revealed a 30% jump in second-half profit, compared with Rio’s 55% gain over the same period. The difference reflects BHP’s weak performance in commodities such as nickel and coking coal and Rio’s strong iron ore and aluminum divisions.

Numis Securities’ Toyne says shareholders shouldn’t read too much into the disparity. “Both are performing well, with Rio possibly looking a little better for this half,” he says. According to analysts, the real test for the proposed acquisition will come when European Union and Australian regulators rule later this year whether the merged company would have to divest assets. If, as expected, that were to include lucrative iron mines in Australia, it could undermine the cost savings BHP has cited as the main reason for the deal. That could lead investors to reject the merger.

Rio Chairman Paul Skinner once again reiterated his opposition to the deal, saying the offer was “short on what we consider is fair value for Rio and its prospects.” On the back of the Aug. 26 results, he could have a point. With demand for emerging economies expected to remain strong in the mid-term, Rio just might have the financial muscle to see off its unwelcome suitor.




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