Mining companies around the world are struggling to find alternative cheaper ways of energy as they witness huge increase in costs associated with energy. Further, they are also looking at ways to meet their energy demand as they continue to expand their operations across the world.
Last week, Vale (NYSE:VALE) announced plans to build two wind farms in Brazil, jointly with Australia company Pacific Hydro, having a total capacity of 140 MW. In addition, reports are doing the rounds that the miner is also planning to build the world’s largest single palm oil processing plant by 2015 in Brazil’s Amazon. The plant will process palm oil into biodiesel as the company has opened its first palm oil extraction plant in Brazilian state Para. Below we take a detailed look at how these events could impact the world’s largest iron ore producer’s value.
We have a $26 price estimate for Vale, which is around 35% ahead of the current market price.
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- Vale’s Q4 2016 Production Review: Rising Iron Ore Production Bodes Well Amid Favorable Pricing Environment
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- The Year 2016 In Review: Vale Well Placed To Benefit From Gradual Improvement In Business Conditions
- Vale’s Successful Cost Reduction And Capital Expenditure Rationalization Initiatives Prompt Revision In Our Price Estimate To $8
Sustainability: A key to Vale’s growth strategy
Vale is Brazil’s largest energy consumer and expects its energy demand to increase as much as 150% by 2020.  Therefore, the company is making all efforts to meet the expected demand while reducing its energy bill.
Earlier, Vale had entered into a partnership with MSP Group to open a palm oil extractions plant as the company requires biodiesel to meet its internal demand for B20 (20% bio-diesel and 80% regular diesel).  The plant has commenced production this week. As a next step, the company would be investing $500 million in a processing plant that will turn the palm oil into bio-diesel. While the plant entails significant capex in near term, the benefits of lower energy costs will outweigh the expenditure in short span of time while reducing greenhouse emission levels.
In addition, the company has also collaborated with Pacific Hydro to build two wind farms in Brazil with a total capacity of 140 MW. It will invest $315 million and will own 50% of the project. Vale will consume all electricity output once the project commences production in 2014.
What this could mean…
The bio-diesel may be as cheaper as 30% than the current price of regular diesel.  Total energy costs (consisting of fuel, electricity etc) make up for the nearly 13% of COGS . Fuel costs are close to 9% of COGS.  Therefore, the use of bio-diesel will certainly lead to a meaningful improvement in EBITDA margins across the divisions that have their major opeartion in Brazil.
Wind power plan will reduce its dependency on state power for electricity while reducing its electricity costs, which are nearly 4% of total cost of the goods sold (COGS) of the company. ((Form 20-F, SEC Edgar))
We currently estimate that the EBITDA margins across the divisions (expcept for Fertilizer nutrients) will contract mainly due to rising input costs such as energy, labor etc. In a scenario where these plans can be successfully implemented on a larger scale, then EBITDA margins may not contract as much as we expect or may even inch higher post 2015. This may result into a significant upside to our current $26 price estimate for the company’s stock.
You can understand the impact of an improvement in the EBITDA margins on the company’s stock by making changes to the chart above.Notes:
- Vale, Pacific Hydro partner for $314m wind project, NewNet, June 25 2012 [↩]
- Vale SA : Biopalma opens first palm oil production plant in Pará, 4-traders.com, June 27 2012 [↩]
- Brazil’s Vale plans Amazon biofuel plant – report, Reuters, June 25 2012 [↩]
- Form 20-F, SEC Edgar [↩]