The Fortescue Metals Group Limited (ASX: FMG) share price fell by 2.7% yesterday. In fact, since its year high on 27 August it has come down by 6.74%. Consequently, the share is currently selling at a price to earnings ratio (P/E) of 8.55, with a trailing 12 month (TTM) dividend yield of 9.78%.
That is far cheaper than comparable ASX shares in the iron ore sector. For example, Rio Tinto Limited (ASX: RIO) currently has a P/E of 16.37, while BHP Group Ltd (ASX: BHP) has a P/E of 17.06. That's not all though. If you compare Fortescue shares with other similar mining companies, there is still no comparison. For instance, Newcrest Mining Limited (ASX: NCM) is about half the market cap of Fortescue, yet has a P/E of 27.36.
Price to earnings is a crude indicator of value, but it serves to make the point that Fortescue shares are selling at a lower price, relative to earnings, than similar companies, and paying a high dividend yield. However, there are two other very strong reasons why Fortescue shares will make you richer.
Volume and quality
Economist are almost speaking in unison when they tell you that China needs our iron ore. Moreover, they need it now more than ever due to stimulus spending. In fact, China in June became a net importer of steel for the first time in 11 years. The country imported just over a million tonnes more than it exported in June.
In the current economic climate, a mine known as "the Pilbara Killer", or Simandou, has re-entered the conversation. This is a 60/40 partnership between Rio Tinto and China giant Chinalco respectively. When it first appeared, it was feared Simandou, located in Guinea, would make ghost towns out of the north west. Thus rendering Fortescue shares almost worthless, along with everyone else in the iron ore game.
It is an orebody reserve of 2.4 billion tonnes of 65% iron. However, over the years it has become obvious that this is highly unlikely to occur. The costs of construction, regular outbreaks of the ebola virus and political uncertainty stopped the original project. Nonetheless, it is currently under review again as China seeks more steel independence.
Most estimates place the timeline to production at between 5 and 7 years. In addition, even if the most optimistic schedules were achieved, Guinea would produce only about 7% of global demand, while Australian market share would remain constant.
Fortescue has already spent the capital, developed the mines, and optimised operations. The volumes and quality required to meet any increase in global steel demand as part of stimulus spending, will be best served by the Australian miners at scale.
Fortescue shares best days are ahead
Fortescue CEO, Elizabeth Gaines, recently commented "…people have been talking about Simandou for a very long time and it certainly has its challenges around infrastructure. So we're not ignoring that, but we're staying focused on our strategy of delivering our Iron Bridge project, which is a high-grade magnetite concentrate that will be in high demand in the market."
This underlines the company's immediate expansion goals. For instance, Eliwana mine will be a 30 mtpa operation. Moreover, December will see its first iron ore train. This has 60.1% iron. Moreover, the Iron Bridge project has a grade of 67% iron, and is a 22 million tonne per year mine, scheduled for first shipment in mid CY22.
Lastly, it is a pure play iron ore company. Therefore, under performing assets in copper, nickel or aluminium do not weigh down the Fortescue share price.
Foolish takeaway
Fortescue shares are a fantastic value opportunity over 3–10 years in my view. Its low direct costs show it to be a well-managed company. Moreover, the only competitor on the horizon is 5–7 years away, and even then will only be able to manage around 7% of the global market. Lastly, the company already has the scale and quality to compete rapidly, which is only going to continue to grow.
Right now the company's shares are selling very cheaply and it pays a solid dividend. I own Fortescue shares, I intend to keep them for many years to come, and they have already added significantly to my net worth.
