Discussion with sell-side analysts Rio de Janeiro, July 11 th 2014 J - - PowerPoint PPT Presentation

Discussion with sell-side analysts

Ri d J i J l 11th 2014 Rio de Janeiro, July 11th 2014 Luciano Siani, Vale CFO

1

OBJECTIVE OF THE DISCUSSION

The objective of this discussion is to clarify topics that have created confusion in previous releases that have created confusion in previous releases and address outstanding questions from sell-side analysts

2

DOCUMENT CONTENT

• Iron ore prices and margins
• Capex
• Cash Flow

3

DOCUMENT CONTENT

• Iron ore prices and margins
• Capex
• Cash Flow

4

TOPICS COVERED – IRON ORE PRICES AND MARGINS

• The transition of the

Pricing systems Price realization EBITDA margins

• The evolution of
• Vale's sales mix -

benchmark to alternative pricing systems Vale's price realization vs. the IODEX goals and implications

• Sales products
• Vale's provisional

pricing mechanism and its impact on

• Overview of Vale's

iron ore price realization

• Sales products

impacting Vale's EBITDA per ton p prices

• Evolution of Vale's

pricing mix

• The main drivers

impacting Vale's price realization

• Projections of

Vale’s future margins pricing mix price realization

5

TOPICS COVERED – IRON ORE PRICES AND MARGINS

• The transition of the

Pricing systems Price realization EBITDA margins

• The evolution of
• Vale's sales mix -

benchmark to alternative pricing systems Vale's price realization vs. the IODEX goals and implications

• Sales products
• Vale's provisional

pricing mechanism and its impact on

• Overview of Vale's

iron ore price realization

• Sales products

impacting Vale's EBITDA per ton p prices

• Evolution of Vale's

pricing mix

• The main drivers

impacting Vale's price realization

• Projections of

Vale’s future margins pricing mix price realization

6

HISTORIC EVOLUTION OF PRICING SYSTEMS

Mining companies abandoned the benchmark pricing system, prevalent during periods of low price volatility, and gradually adopted alternative pricing mechanisms better suitable to customer needs

240

US$/t

MB 63% Fe FOB Brazil¹ Vale SF FOB Brazil to Asia² 200 Sharp spot price decreases reduced the importance of the lagged-based pricing system Sharp spot price increases lead to the collapse of benchmark pricing system 120 160 80 120 40 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14

¹ Market index based on MB 63.5% CFR China ² Vale prices based on standard Sinter Feed Fines with Fe(%) adjusted to 63.5% for comparison with index

Benchmark Lagged New Pricing Mechanisms

7

CURRENTLY PREVAILING PRICING SYSTEMS

With the fall of the benchmark system, alternative pricing systems were developed to better adapt to customer needs, particularly the needs of Chinese steel mills Trade-offs Description Lagged

• Sales based on past prices
• Prices calculated based on the average price of

the past three-months ending one month before the current quarter, i.e., based on three month i d t ti 4 th b f th l t

• Provides price stability and

predictability

• Creates disconnection with the

short-term prices, specially in l til i i i t Customers invoiced based on provisional prices period starting 4 months before the relevant quarter volatile pricing environments Reflects market prices on Provisional

• Customers invoiced based on provisional prices
• Accounting provision in the end of the quarter

based on “best estimate” of prices on delivery

• Final prices settled and adjustments made in the

b t t d li

• Reflects market prices on

delivery, i.e., closer to iron ore usage

• Requires end of quarter pricing

adjustments between initial

• Sales completed and prices settled in the current

quarter subsequent quarter, upon delivery adjustments between initial invoice and delivery

• Reflects average market prices of

the quarter of delivery quarter

• Prices based on methodologies such as:

– Monthly averages – Daily prices Current the quarter of delivery

• Maintains price volatility

a y p ces – Provisional prices liquidated within the quarter

8

PRICE AT DELIVERY CONCEPT

Volumes subject to provisional pricing, as reported on Vale's results release, are the ones whose delivery and thus final price settlement occur after the end of the current quarter Q1 Q2

15 30 45 60 75 90 105 120 135 150 165 180

Conceptual

15 30 45 60 75 90 105 120 135 150 165 180 Adjustment of provisional price to reflect Vale’s best estimates on prices at delivery Final price settled still in Q1 ~ 45 days Shipments before 45 days to the end of the quarter Delivery within the quarter p y Classified as current Provisional pricing in current quarter (Q1) Final prices settled and provision reversals i ti th t t (Q2) i ~ 45 days Shipments in the later 45 days of the quarter Delivery after end of quarter impacting the next quarter (Q2) prices Provisional pricing in current quarter (Q1) Classified as provisional

9

HYPOTHETICAL IMPACT OF PROVISIONAL PRICING

Price adjustments can be estimated based on the hypothetical realized prices in the first 45 days following the quarter ended compared to the prices provisioned by the end of the quarter Pro isional sales Hypothetical 2Q14 Provisional sales 1Q (%) 41% Volumes under i i l l Quarter Impact US$t

4Q13 +3.1 1Q14 (6.4)

Sales volumes 1Q, ex-pellets provisional sales (Mt) 23.7

X

2Q14 (2.0)

(Mt) 57.8 Hypothetical Adjustment (US$Mi) (142)

X

H th ti l Realized less provisioned price Hypothetical 2Q price impact (US$/t) (2 0)

÷

Hypothetical IODEX realized prices¹ 111 Hypothetical provisioned² prices (US$/t) 117 (US$/t) (6) Hypothetical 2Q sales volume, ex-pellets (US$/t) (2.0)

_

(US$/t) 117 (Mt) 70

¹ Average of first 45 days of 2Q14 ² Hypothetical price provisioned at the end of the quarter (1Q) estimated based on IODEX of last day of the quarter (1Q)

10

EVOLUTION OF VALE’S PRICING MIX

Vale’s sales mix is mostly concentrated in current and provisional pricing mechanisms

Lagged

• Provisional pricing

has increased gradually

Current Provisional Benchmark

• Provisional sales are

concentrated in the Chinese market and

8% 15% 31%

close to its sales distribution limit

• Mix may vary with

92% 73% 64% 53% 93%

Mix may vary with changes in the geographical distribution of sales and the ramp-up of

27% 53%

p p the distribution center in Malaysia

27% 21% 16% 7%

2009 2010 2011 2012 2013

11

COMPARISON PLATTS 62% AND THE 45-DAY FOWARD INDEX

Despite short term differences, over the medium term, the Platts 62% and its forward index net-off

US$/dmt Pl 62 150,00 160,00 Platts 62 Média Platts 62 em todo o período Platts 62 defasado em 45 dias Média Platts 62 defasado em todo o período Platts 62 Average Platts 62 Platts 62, 45 days forward Average Platts 62, 45 days forward

Avg = 130.6 A 129 0

130,00 140,00

Avg = 129.0

120,00 , 100,00 110,00

4Q12 1Q13 2Q13 3Q13 4Q13 1Q14

Quarter adjustments will net off over the long term despite short term volatility

12

TOPICS COVERED – IRON ORE PRICES AND MARGINS

• The transition of the

Pricing systems Price realization EBITDA margins

• The evolution of
• Vale's sales mix -

benchmark to alternative pricing systems Vale's price realization vs. the IODEX goals and implications

• Sales products
• Vale's provisional

pricing mechanism and its impact on

• Overview of Vale's

iron ore price realization

• Sales products

impacting Vale's EBITDA per ton p prices

• Evolution of Vale's

pricing mix

• The main drivers

impacting Vale's price realization

• Projections of

Vale's future margins pricing mix price realization

13

IODEX VS VALE REALIZED PRICES

There has been fluctuations in the difference between the IODEX and Vale's realized prices, primarily because of price volatility and the existing price mechanisms that do not correlate directly with the IODEX average Difference between the average IODEX¹ and Vale's realized price Vale realized prices vs. IODEX US$/t

180 Iron Ore Price (IODEX) US$/dmt Realized Price US$/wmt 54

US$/t

Average

120 140 160 38 37 80 100 120 32 26 20 25 29 22 27 27 22 30 27.8 40 60 8 20 19 22 20 3Q10 1Q11 3Q11 1Q12 3Q12 1Q13 3Q13 1Q14 8 3Q10 1Q11 3Q11 1Q12 3Q12 1Q13 3Q13 1Q14 ¹ Platts assessmet of daily transaction value for the seaborne iron ore imported and sold into China on a 62% Fe Content

14

PRICE REALIZATION – IRON ORE

Vale’s iron ore price realization is impacted not only by key drivers such as freight, quality and pricing systems but also by the sale of ROM - an intermediate product US$/t, 1Q14 29.9

US$/t 120.4 9.8 Lower prices

• n

intermediate products 12.1 2 6 1.9 1.6 6 4 p 2.6 6.4 4.3 0 2 90 5 0.2 90.5 Average Platts 1Q14 Humidity Freight Quality Lagged prices Current Impact prior quarter¹ ROM Other Vale price 1Q14 Pricing system ¹ Adjustment as a result of provisional prices booked in the previous quarter

15

DRIVERS IMPACTING PRICE REALIZATION

All drivers impacting price realization have improvement trends or will have no negative impact on future price realization

• Fe content decreased as mines

got deeper Comments Drivers Impact Trends and ongoing actions

• Conclusion of the Itabiritos and the

S11D project will increase quality got deeper

• Quality premiums declined as a

result of lower coking coal prices and lower productivity requirements Quality S11D project will increase quality

• Closure of inefficient steel capacity

in China, fight against pollution and gradual increase in coking coal prices will increase quality premium q prices will increase quality premium

• Creation of the IOCJ 65% Index will

help capture the VIU of high quality

• res
• Freight Brazil-China varied based
• n supply-demand, having

reached very high levels prior to 2009 Freight

• Increase in the Valemax fleet and

long term shipping contracts will further reduce and provide stability to freight costs 2009

• Pricing systems affected price

realization, particularly in times of high volatility Pricing system to freight costs

• Evolution of sales mix reflecting

customer needs and Vale’s logistic strategies high volatility g y strategies

• Sales of ROM (Run of Mine)

products brought average

• Maintenance of current sales

volumes of ROM as a result of its

Fonte: Vale

products brought average realized price down ROM sales volumes of ROM as a result of its positive contribution

16

EVOLUTION OF PRODUCT QUALITY

The expected increase in Vale's product quality will bring additional value which will vary depending of the price premium associated with the Fe content Hypothetical EBITDA impact of increased Fe content¹ Production and quality evolution Delta Fe (2014-2018) % 1 0 2014 2018 % Hypothetical Value, % Fe $/t 1.0 2-5

Production (Mt) 321 453 Fe 63.9 64.9

Hypothetical Fe VIU Range $ / %Fe.t 2-5 EBITDA Impact US$ Bi 1-2

SiO2 + Al2O3 5.8 4.1 P 0.055 0.050

Production volume 2018 US$ Bi Mt 450

¹ Based on 2018 production volumes

17

THE NEW IOCJ PRICING INDEX

Vale expects to capture the real value of its high quality ores through the introduction of a transparent and liquid index to price its 65% Fe ore from Carajás The value of Vale's high quality ores has not been fully captured by the formula with the decrease in value of the 1% Fe differential As result, Vale decided to introduce the IOCJ 65% index and develop a better reference to price its high quality ores

150

65% Fe Index 65% Fe price (62% Index + US$/t of Fe spread)

5 6

1% Fe Value

126 138 $/dmt 4 5 /dmt 114 126 2 3 $/ 102 Jun-13 Aug-13 Oct-13 Dec-13 Feb-14 Apr-14 1 Oct-10 Aug-11 Jun-12 Apr-13 Feb-14

• 1% Fe value decreased with coal oversupply

and steel overcapacity

• Increasing supply of low grade ore (58%) and

environmental pressures will drive premiums

• 1% Fe value decreased with coal oversupply

and steel overcapacity

• Increasing supply of low grade ore (58%) and

environmental pressures will drive premiums

• The IOCJ Index will allow for value to be captured

beyond the 1% Fe formula

• Vale expects to provide liquidity to the IOCJ 65%

index to generate credible and transparent price

• The IOCJ Index will allow for value to be captured

beyond the 1% Fe formula

• Vale expects to provide liquidity to the IOCJ 65%

index to generate credible and transparent price environmental pressures will drive premiums for higher grade ore environmental pressures will drive premiums for higher grade ore index to generate credible and transparent price references index to generate credible and transparent price references

18

FREIGHT RATES AND IRON ORE PRICES

US$/dmt Vale's freight strategy brought stability and predictability to freight costs, reducing volatility to Vale's realized prices 240

IODEX 62% Freight

US$/dmt 200

Freight

120 160 80 120 40 2008 2009 2010 2011 2012 2013 2014 New Freight Strategy

19

IMPACT OF RUN OF MINE (ROM) SALES ON REALIZED PRICES

In 2013, the sales of run of mine (ROM) reduced Vale's realized price by about US$6/t Fines sales (ex-ROM¹) 2013 Mt Iron ore Revenues Total Volume (Iron Ore+ROM)

X

249.4 FOB fines price (ex-ROM) US$ US$ bi Mt Total Revenues (Iron Ore+ROM) Reported price 2013 US$/t 107.4

÷

264.6 28.2 113.5 ROM¹ Volume (Iron Ore+ROM) US$ Bi

+

ROM

28.4 Mt ROM Revenues US$ Mi

X

243 5 15.2 Product Price US$/t ROM Price US$/t US$ Mi 243.5 16.0

Fines (ex-ROM) 113.5 Fines (with ROM) 107.4 Delta (ROM impact) Delta (ROM impact) 6.1

¹ ROM sales includes volumes of tailing dams fines processed externally

20

TOPICS COVERED – IRON ORE PRICES AND MARGINS

• The transition of the

Pricing systems Price realization EBITDA margins

• The evolution of
• Vale's sales mix -

benchmark to alternative pricing systems Vale's price realization vs. the IODEX goals and implications

• Sales products
• Vale's provisional

pricing mechanism and its impact on

• Overview of Vale's

iron ore price realization

• Sales products

impacting Vale's EBITDA per ton p prices

• Evolution of Vale's

pricing mix

• The main drivers

impacting Vale's price realization

• Projections of

Vale's future margins pricing mix price realization

21

VALE'S SALES MIX – GOALS AND IMPLICATIONS

The additional production increases total cash generation by leveraging non-utilized installed capacity despite negatively impacting unit margins

Vale currently has Goal Implications

• Increase total

Current Situation Vale currently has some opportunistic sales of lower i d t Optimize total EBITDA

• Deliver lower unit

i (EBITDA/t) margin products, leveraging its non- utilized logistics in cash generation by leveraging installed capacity margins (EBITDA/t)

• Blur margins of

standard operations the Southern and Southeastern Systems p y standard operations, making it difficult to forecast future y results

22

VALE'S EBITDA AND EBITDA MARGINS

Vale has some opportunistic operations which have a positive EBITDA contribution but bring unit margins (EBITDA/t) down US$ bi, 1Q14

EBITDA US$/t

• Third party ore
• ROM

1.3 4.1 Third party ore

• Corumbá operation
• Miniminas operation

ROM

• High Silica
• Tailing dam fines

2.5 0.3 2.8 Iron ore adjusted EBITDA (ex-lower Lower margin

• perations

Iron ore EBITDA¹ Other Vale businesses² EBITDA EBITDA (ex lower margin operations)

• perations

EBITDA businesses 55.7 48.8

¹ Considers 57.8 Mt of iron ore Volume ² Includes Ferroalloys, Coal, Base Metals, Fertilizer and Pellets

23

CONSIDERATIONS FOR PROJECTING FUTURE MARGINS

Vale's price realization will increase with some ongoing initiatives Not Exhaustive

• Low margin operations are in most cases opportunistic and will not be expanded
• Future expansions will be low cost

– S11D expansion at US$15/t

• Production increase will be of higher quality products improving price realization

Production increase will be of higher quality products, improving price realization – S11D, Itabiritos and other potential new mines will increase product quality Additi l i t l li ill t lit i – Additional environmental licenses will support quality increases – Pollution trends may increase Fe content premiums

• Malaysia distribution center will allow for additional optionality in price realization

24

DOCUMENT CONTENT

• Iron ore prices and margins
• Capex
• Cash Flow

25

CAPEX PROFILE

Vale's CAPEX will reduce with the conclusion of ongoing projects US$ bi

Project execution Sustaining capex

16.3 16.2 14.2 13 8 Approved projects only 4.6 4.6 4.6 4.5 14.2 13.8 12.5 4.5 4.5 9.5 8.1 11.7 11.6 9.6 9.3 8.0 4.9 5.1 5.8 5.0 3.2 0.7 5.1 2011 2012 2013 2014 2015 2016 2017 2018 2011 2012 2013 2014 2015 2016 2017 2018

26

CAPEX PROFILE – SUSTAINING CAPEX

Sustaining capex has been rationalized and will only increase marginally driven by the completion of new projects

Iron ore Base metals Coal

US$ bi

Coal Fertilizers

4.5 4.5 4.5 4.9 5.1 2014 2015 2016 2017 2018

27

CAPEX PROFILE – PROJECT EXECUTION

S11D investments will peak in 2015, reducing sharply by 2018 US$ bi

Carajas expansion ex S11D S11D

9.3 8 0

Moatize II/ Nacala Itabiritos Salobo II Others

8.0 5.0 3 2 3.2 0 7 0.7 2014 2015 2016 2017 2018

28

PERSPECTIVE ON VALE'S FUTURE CAPEX (POST-2018)

The capex post-2018 is expected to be in the range of US$ 8 to 10 billion US$ bi 1.5 - 3.0 8.0 - 10.0 5.0 1.5 - 2.0 Sustaining Replacement Projects Discretionary Total

29

OVERVIEW OF VALE'S ITABIRITOS PROJECTS UNDER STUDY

Other Itabiritos projects are under study Itabiritos projects under study

Projects Status Capacity Mtpy Fáb i FEL 2 26 Fábrica FEL 2 26 Jangada FEL 2 15 Mariana FEL 2 27 ITM S Pico FEL 3 27

30

DOCUMENT CONTENT

• Iron ore prices and margins
• Capex
• Cash Flow

31

ASSESSMENT OF VALE'S CASH FLOWS

There has been common mistakes, some conservative projections and other opportunities not considered in most analyst reports Topics Comments

• Divestitures
• Disregard of R$ 1.5 billion received in April 2014

– R$ 709 million from sales proceeds and R$ 803 million from the settlement of an intercompany loan with VLI

• Additional R$ 2 bi yet to be received

O S$ f Common mistakes

• Fiscal credits
• Outstanding tax credits close to US$ 1.5 billion from the

REFIS settlement by the end of 1Q14

• Capex
• No material decrease in capex in the years following the
• Capex
• No material decrease in capex in the years following the

completion of ongoing projects

• Costs
• Unit costs not trending significantly down with the

completion and start-up of S11D Conservative projections W ki it l P t ti l f d ti i ki it l t id d

• Volume
• Conservative projection of volumes for the coming years
• Working capital
• Potential for reductions in working capital not considered

Opportunities

• Trapped Inventory
• Ability to haul about 10Mt of iron ore stranded in the

Southeastern System with the conclusion of the Pico- Fabrica road

• Further Divestitures
• Potential cash generation with additional divestments

Fabrica road

32

33

IO PRICE INDEXES

62% Fe INDEXES 2014 $/dmt LAST YTD Q3 JUL Q2 JUN MAY APR Q1 MAR FEB JAN PLATTS 62% Fe IODEX 96,00 110,75 95,58 95,58 102,60 92,67 100,80 114,24 120,38 111,79 121,24 128,15 TSI 62% Fe 96,50 110,81 95,72 95,72 102,66 92,74 100,56 114,58 120,43 111,83 121,37 128,12 TSI 62% Fe LOW ALUMINA 97,20 111,83 96,62 96,62 103,71 93,78 101,64 115,60 121,42 112,73 122,42 129,14 METAL BULLETIN 96,51 111,04 95,55 95,55 103,02 92,98 101,09 114,90 120,55 111,55 121,41 128,73 ARGUS 62% ICX 95,25 109,31 77,44 77,44 101,36 91,46 99,45 113,08 118,72 110,00 119,71 126,50 65% FE INDEXES - ALL ORES 2014 $/dmt LAST YTD Q3 JUL Q2 JUN MAY APR Q1 MAR FEB JAN PLATTS 65% 105,25 119,75 104,79 104,79 110,04 100,73 107,53 121,74 130,91 119,61 132,38 140,81 TSI 65% 104,40 120,47 103,68 103,68 111,96 100,78 109,89 125,10 130,60 122,10 131,61 138,14 ARGUS 65% 103,80 119,46 102,73 102,73 109,22 99,39 107,19 120,99 131,32 118,15 134,35 141,60 65% FE INDEXES - IOCJ ONLY 2014 $/dmt LAST YTD Q3 JUL Q2 JUN MAY APR Q1 MAR FEB JAN M t l B ll ti 65% i d ¹ 105 51 120 72 104 39 104 39 111 02 101 08 107 89 123 94 131 57 120 46 133 63 141 69 Metal Bulletin 65% index¹ 105,51 120,72 104,39 104,39 111,02 101,08 107,89 123,94 131,57 120,46 133,63 141,69 FORMULA² 101,10 116,82 100,68 100,68 108,19 97,88 106,28 120,31 127,02 118,31 127,84 134,94 ¹ Metal Bulletin: 62% Fe MBIO Index + 65% Fe IOCJ premium ² 62% Fe INDEX + Fe spread (IOCJ Fe-62) x 1% Fe value for the indicated period Sources: From Platts: Steel Markets Daily and Metal Alerts From TSI: The Steel Index Daily Report From MB: MBIO daily index From MB: MBIO daily index Bloomberg