Iron ore price: High Capacity, Low Demand Dim Prospects.

Since iron ore is a key ingredient in making steel, prices of both move in tandem. Given the weak demand for steel, iron ore price is likely to soften in the near term. This, along with a lower export potential, is likely to impact financials of the countries iron ore companies in the coming few quarters.

Iron ore imports by China, which is the world’s largest importer of the commodity, plunged 13% in August from a year ago. Steel prices in China fell as much as 17% between April and July, 2010, as the Chinese government curbed property speculation, slowing demand for steel in construction. About 40% of Chinese steel makers have idled plants or have put them on maintenance.

The slowdown in steel demand from China will impact Indian miners such as Sesa Goa, which exports around 70% of its production to China.

To make matters worse, globally, iron ore capacity has increased over the years in order to take advantage of the unprecedented jump in profitability of the mining business on account of steep prices.

Top three global iron ore miners are expected to witness 70% capacity addition in five years. The domestic companies like Sesa Goa also plans to raise its capacity to 50 million tonne in the near future. All these capacity additions can put iron ore prices under pressure if steel industry in China does not witness a turnaround.

India’s iron ore output and exports are expected to fall by a quarter this fiscal year, hit by a crackdown on illegal mining and ban on exports by Karnataka. Hence, it will be difficult for companies to maintain their current level of operating margins.

Sesa Goa is facing difficulties to consolidate its existing operation in Karnataka and Orissa. The company’s recent attempt of going for unrelated diversification by buying stake in Cairn India will not leave the company with enough cash if some valuable inorganic growth opportunity comes its way.

NMDC, on the other hand, looks better placed. The company has operating margins of above 70%, which is much higher compared to its global and Indian competitors. NMDC is purely a domestic player, so price fluctuations in the international market may not affect the company to a large extent. It also has a strong balance sheet with cash per share of around Rs 30. This can be leveraged to acquire more mining assets in India and abroad.

Source : economictimes.indiatimes.com