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Tough talking for Rio on China iron ore

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CHINA-IRONORE/No great surprise that Rio Tinto has acknowledged it has given up trying to fix an annual iron ore price with Chinese steel mills.

What strains credibility is the miner’s insistence that this has nothing to do with the detention of its negotiating team in China.

It looks as though Rio’s iron ore head Sam Walsh may have broken ranks and told it as it is. Walsh was quoted by AAP as saying:

At this point in time we’re not negotiating….Remember we have our negotiators detained.

Goodness, now Rio finds it can afford a dividend

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Can it really be a mere six months since Rio Tinto agreed to sell its birthright to Chinalco, losing its chairman-designate in the process? Indeed it can, and it shows how fast things change in the whacky world of commodities. In February, the directors panicked that the business might run out of cash; now they are signalling that they should be able to find $1.75 billion, or around $1.15 a share, for a dividend next year.

In hindsight, it looks frightfully clever of them to use the balance sheet of China Inc. (for a mere $195 million break fee) to buy time to find a better way out of the financial hole they dug. After all, the Chinalco deal could not be consummated without shareholder approval, which could not be sought until various regulators round the world had agreed it, a process bound to take many months.

Rio crisis rooted in marketing strategy

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– John Kemp is a Reuters columnist. The opinions expressed are his own –
  
   By John Kemp
   LONDON, July 10 (Reuters) – China’s detention of four Rio Tinto <RIO.AX><RIO.L> staff marks the final phase in the long downward spiral of relations with Rio and BHP Billiton,  <BHP.AX><BLT.L> Australia’s two major exporters of iron ore. While the arrests were unanticipated, the seeds of this crisis were planted long ago with changes in the miners’ strategy.  The end result will be to accelerate a shift towards using the spot market — rather than raw negotiating muscle — to set prices.
   Perhaps the most important transformation in the mining industry over the last ten years has been a generational shift at the top of the major companies. The mining engineers who traditionally dominated the top ranks have been replaced by MBA-trained financiers. The engineers’ traditional focus on output maximisation, process optimisation and cost reduction has been supplemented by a new emphasis on prices, profits and marketing.
   Mining firms have made major investments in market research and demand forecasting, as well as building up powerful marketing and negotiating teams. The overall objective is to plan and sequence new investment in capacity, as well as adjusting production from existing mines, to match supply with demand more or less continuously over the business cycle — avoiding the destabilising build up and run down of inventories that previously led to massive price swings.
   The miners’ ultimate goal is to reduce volatility and hold prices at a higher average level over the business cycle — maximising shareholder returns in an industry that was notorious for destroying value.
   MARKETING AND COMMERCIAL INFORMATION
   The best way to think of Rio Tinto, BHP and some of the other majors is not as mining companies but as trading and marketing firms that have mining assets attached. The transformation has had two consequences:
   (1) As traders rather than miners, the firms have counterparties rather than customers. The producer-consumer relationship based on mutual advantage and creating shared value has been replaced by a trading mentality that sees deals as one-off transactions and conflicts over the allocation of value. All is fair in love, war and trading. Both the major Australian companies are perceived in the market as increasingly aggressive negotiators — breeding considerable resentment among customers, not least China’s steelmakers.
   (2) Both firms have invested heavily in market research and commercial information gathering to understand their customers’ requirements — and maximise the amount of value they can extract from negotiations.
   But the development of extensive market research and commercial information teams, allied to a tough negotiating approach, appears to have led to the current problems. There is a fine line between legitimate information gathering and more controversial activities — and the division varies between countries and over time. Disputes that are a matter of civil law in one jurisdiction may be treated as a criminal matter in another.
   China has a particularly expansive notion of what constitutes a state secret and a broadly defined espionage law. But it is not the only one. Switzerland and other OECD countries also have statutes criminalising economic espionage or breaches of confidence.
   At the same time as detaining the Rio staff, China has arrested Tan Yixin, the head of iron ore imports for state-owned steelmaker Shougang for “revealing China’s negotiating strategy” — in effect “China’s bottom line”. <For related news click [ID:nPEK191335]>.
   It is easy to see how the situation in China has become so tense — especially as relations between China’s steelmakers and parts of the Chinese government, on one side, and Australia and the major mining companies on the other, have become so strained. With so much ill-will around, even a misunderstanding can escalate rapidly.
  
   DOWNWARD SPIRAL IN RELATIONS
   The detentions are simply the final phase in the downward spiral of relations. Conflict has been rising for five years as China’s expanding steel industry and booming demand for imported iron ore has handed all the negotiating leverage to Australia’s two major ore exporters and sent prices soaring.
   China responded to what it saw as the oligopolistic pricing power of the Big Three iron ore companies (BHP, Rio and Brazil’s Vale <VALE5.SA>) by organising its own coordinated buyers’ cartel under the auspices of the China Iron and Steel Association (CISA). The objective was to present a united front in the annual benchmark negotiations.
   But these efforts have been undermined by the activities of small speculative ore importers. As each year’s negotiations have dragged on, speculative imports have surged, driving up spot ore prices and strengthening the hand of Australia’s miners.
   Tensions first broke into the open in 2006, when China’s Ministry of Commerce sent a secret letter to the country’s customs inspectors asking them to scrutinise ore shipments for conformity with the bills of lading and import declarations — paying particular attention to shipments originating from Rio and BHP. In effect, the ministry was trying to restrict speculative imports in a bid to strengthen the steelmakers’ hands.
   When the letter leaked, it triggered a diplomatic incident. The Australian government issued a strong protest and threatened to make a formal complaint to the World Trade Organisation (WTO), accusing China of discriminating against Australian exporters. The issue was subsequently smoothed over as a misunderstanding.
   But simmering tensions burst out again when Chinalco’s [ALUMI.UL] recent attempt to increase its holding in Rio provoked a nationalist backlash in Australia in favour of an “all-Australian” tie up with BHP designed more or less explicitly to preserve the companies’ “pricing power”. While both sides have subsequently tried to downplay nationalist aspects of the deal’s collapse, it has added to the legacy of distrust and bitterness.
  
   END OF THE BENCHMARK SYSTEM
   Each year annual benchmark pricing negotiations have become more protracted. This year both the soft deadline of April 1 and the hard deadline of June 30 have passed without agreement. Rio has threatened to shift pricing to the spot market.
   In effect, Australia’s mining companies have suffered a complete breakdown in constructive relations with their most important customer. China still needs the ore, and the mining companies still need to sell it. But the benchmark system may have broken down irretrievably; it is hard to see how negotiations can continue in their present format when some of the negotiators have been arrested.
   The current crisis will probably accelerate the shift to a spot market pricing system. Spot prices could be presented as the outcome of “market forces” rather than raw negotiating muscle, drawing some of the political heat out of the issue.
   The crisis could also create a greater role for merchants and independent traders to act as intermediaries. BHP and Rio have spent years trying to squeeze merchants out of many of the markets in which they operate to build stronger direct relationships with end users. But the escalating conflict may force an about-turn.
For previous columns, Reuters customers can click on [KEMP/] –
(Editing by Martin Langfield )

China Rio arrests pit country vs company

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    Country or company — where does your loyalty lie? For Beijing, there is simply no question. If you are Chinese — or a foreign passport holder of Chinese origin — you work for China first, second and third.
    The arrest of four Rio Tinto Ltd employees — three Chinese and an Australian — on charges of stealing state secrets is a stark reminder of the dilemma this poses for foreign companies in China, where it is impossible to operate without local staff.  The flip side is the pressure facing Chinese nationals who work for foreign companies. In their enthusiasm to please employers, these employees often risk overstepping the mark and falling foul of the law.
    China, like many countries, does not recognise dual passport holders. So woe betide anyone who was born in China or whose parents were Chinese, who are sure to feel the full force of Beijing’s powers if they are deemed to have broken the rules.
    And in this case, it is not just foreign company staff who have been arrested; the head of iron ore with the foreign trade and investment unit of state-owned Chinese steel company Shougang Group has also been detained.
    Foreign companies rely on their local staff for an understanding of local business mores as well as language, contacts and know-how. And there is often a blurring of the lines between what is acceptable business practice at home and in the country in which they are operating.
    Corporations are no angels when it comes to digging for information. Some mining companies have set up research teams in China, with an emphasis on building market intelligence.
    This is asking for trouble in China where the definition of what constitutes a state secret is particularly strict, especially when it comes to business or economic information.
    But as Anglo-Australian miner Rio and its employees may have found to their cost, the implementation of such laws can be patchy and  unpredictable.
    For while Beijing may not stick to the letter of the law as long as the spirit is adhered to, it can be a completely different story when the government wants to make a point.
    In this case, it’s impossible to ignore a long deterioration in China’s relations with Rio and BHP Billiton, Australia’s two main exporters of iron ore. It can be seen as the final phase in the downward spiral of relations as China’s expanding steel industry and booming demand for imported ore have given all the negotiating leverage to Rio and BHP and sent prices soaring.
    The detentions come just after a June 30 deadline passed for iron ore price talks between China and Rio. And don’t forget, Beijing is still smarting after Rio ditched a deal with Chinalco in favour of an iron ore joint venture with BHP.
    But while the move is bound to make Chinese employees of foreign firms more cautious, it won’t stop the whispered confidences which inevitably accompany business deals the world over.

from Alexander Smith:

Beijing’s Rio talks must avoid iron fist

Chinese anger at Rio Tinto for reneging on a deal with aluminium group Chinalco and opting instead for an iron ore joint venture with BHP Billiton last month was understandable. Indeed, China has good reason to question the Rio-BHP JV on competition grounds.

But the detention of four Rio Tinto employees -- on suspicion of espionage according to Australia's foreign minister -- bang in the middle of sensitive negotiations on iron ore exports to China is a
dangerous step in the wrong direction. Beijing must either justify the arrests publicly or release the Rio staff immediately.

from Neil Collins:

Rio: We rejoice at a sinner that repenteth

(Refiles on October 19, 2010 to add disclaimer for author's personal investment. Neil Collins is a Rio Tinto shareholder.)

“The directors of Rio Tinto believe that attracting, developing and retaining a skilled and engaged workforce is critical to business performance”. Thus Jan du Plessis in his long, rambling chairman’s statement to Rio shareholders today asking them for a spare $15 billion to dig them out of the hole their directors have dug for them.

from Neil Collins:

A chink in the Chinalco armour

Xiong Weipeng has been speaking to Caijing magazine. Perhaps he was speaking in Mandarin, which might explain why something seems to have been lost in translation.

 Xiong is president of Chinalco, the Chinese state-owned aluminium group which is trying to muscle in on Rio Tinto, doubling its holding to 18 per cent and taking big minority stakes in its best mines.

from Neil Collins:

One small step for Rio Tinto…

...and a giant leap for Chinalco, the Chinese state-owned aluminium company which wants to raise its stake in the miner to 19 per cent, as well as taking chunky minority stakes in Rio's best mines.

 Smoke signals from Australia suggest that the Chinese have noticed the real possibility that their sweetheart deal will be overturned by Rio's disgruntled shareholders, and they are suggesting new terms to limit the holding to 15 per cent.

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