What happened? Fortescue Metals Group Limited (ASX: FMG) shares plunged 4.9% yesterday following another fall in the iron ore price and poor sentiment following a massive write-down by Arrium Ltd (ASX: ARI).
The number one question on the mind of investors in Australia's largest iron ore companies is what impact will the lower iron ore price have on asset values? Or more succinctly, are we going to see more write-downs?
What does it mean? Investors may see troubling similarities between Fortescue and Arrium based on their large, US dollar denominated debt piles and relatively high cost of production. Iron ore closed 0.8% lower overnight at US$64.50, well above the low of US$45 reached earlier this year, and above the cost of production of most of Australia's remaining iron ore companies.
At last count, analysts estimated that Arrium's cost of production was close to $51 per tonne and forecast net debt of between $1.75 billion and $1.85 billion at June 30. Arrium's market capitalisation today stands at $454 million.
Fortescue meanwhile, has a rapidly falling cost of production above $55 a tonne and net debt approaching $8 billion compared to its market cap of $7.28 billion.
What Now? For investors in Australia's iron ore companies it's a case of just another violent trading day. Investors are being cautious of what might come out from Fortescue leading into the reporting season following Arrium's $320 million write-down yesterday in addition to $1.34 billion in write-downs announced earlier this year.
Most importantly though, investors will need to keep an eye on both the Australian dollar and iron ore price, as both of these factors could impact asset values. A lower Australian dollar makes the price they receive for their ore higher in Australian dollars, but also makes their US-dollar denominated debt repayments increase in Australian dollars. This delicate balancing act makes every day a gamble for investors, as a fall in the iron ore price and a rise in the Australian dollar is the worst-case for miners, while the opposite is the best.
