DBRS Confirms Vale Ratings at BBB (high) with Stable Trend

DBRS has today confirmed the ratings of Vale S.A. (Vale or the Company) and its subsidiaries at BBB (high). The trend on the ratings is Stable. Vale is one of the largest mining companies in the world, with a solid business base in the production of iron ore-related products, nickel, aluminum and copper. The Company has a sound financial profile and good liquidity, although because of the world economic slowdown, it does face significantly lower earnings and cash flow generation in 2009 and 2010 than the record-high levels achieved in 2008. Vale also continues to aggressively add to its productive capacity through an ambitious capital investment program and acquisitions. DBRS expects the Company to be a prime beneficiary of the economic recovery, currently underway in Asian markets, as well as of the favourable long-term growth trend in worldwide demand for the commodities it produces. Concrete confirmation of the sustainability of recovery for Vale’s key markets, combined with prudence in the financing of any acquisitions this growth-oriented Company might make, could lead to positive rating action.

Vale had a record year in 2008, with net income of $13.2 billion and EBITDA of $18.5 billion accompanied by high capital expenditures ($9.0 billion) and dividend payments ($3.0 billion). Despite the high level of expenditures, the Company generated $5.6 billion in net free cash flow, which was used in part to finance some investments ($2.4 billion). Vale completed a $12.2 billion equity offering in August 2008, providing excellent liquidity through what has proven to be a dramatic downturn in commodity markets in the fourth quarter of 2008 and into 2009.

Vale’s strong financial performance in 2008 and the large equity raising helped support good credit metrics, with cash flow-to-total debt of 0.98 times (x) and EBITDA interest coverage of 13x for the year. Gross debt in the Company’s capital structure, which had reached 50% at the end of 2006 following the acquisition of Inco Limited, was a comfortable 29% at the end of 2008. Net debt in the capital structure at the end of the year was only 11%, reflecting the $12.6 billion in cash and short-term investments on hand. DBRS views these credit metrics as strong for the Company’s current rating.

Vale is well positioned to benefit from a sustained strong demand for commodities driven by growth in developing countries. Over the next few years, market conditions are expected to be favourable for most of the Company’s key commodities, with iron ore as the primary growth driver of increased profit and cash flow. Vale’s heavy investment in capacity additions in iron ore, nickel, aluminum and other areas have expanded and will continue to expand the earnings capacity of the Company. In addition, DBRS expects the Company to remain acquisitive in order to further expand and diversify its production base.

The impact of the worldwide economic downturn was fully felt in Vale’s non-ferrous business in the first quarter of 2009 and in the ferrous business in the second quarter of 2009 when lower 2009-2010 contract prices for iron ore products kicked in. Base metal (non-ferrous) prices recovered from the low levels in the first quarter, improving profitability in the second quarter. The trends can be illustrated by Vale’s EBITDA in the second quarter of 2009 ($1.6 billion), which was below first quarter 2009 EBITDA ($2.3 billion) due to a $0.9 billion drop in contribution from the ferrous business, partially offset by improved performance from other business units. The overall weakness of both quarters can be seen in the 60% drop in EBITDA for the first half of 2009 from the $9.7 billion generated in the first half of 2008.

On an annual basis, DBRS expects Vale’s earnings and operating cash flow to be down significantly in 2009 and for coverage metrics to slide, but to remain within the bounds of the current ratings on the basis of lower average prices for ferrous and non-ferrous metals. Vale has indicated that it expects to spend $9.0 billion in capital in 2009, excluding acquisitions, and the Company has established a minimum dividend level of $2.5 billion. We estimate that Vale’s 2009 operating cash flow will not fully cover its expenditure requirements during the year. Vale has already begun to finance the shortfall by issuing $0.9 billion in mandatorily convertible notes in July 2009.

DBRS expects that over the next nine months, the path of the economic recovery will become clearer and, more importantly, the recovery of iron ore product shipment levels and the trend for iron ore product prices will be more evident. Although our belief is that a recovery of ferrous and non-ferrous commodity markets has begun, confirmation of its sustainability and the expected positive impact on Vale’s earnings and cash flow has yet to be achieved. Vale, with its strong business base, can be expected to do well in an environment of growing mineral demand. Hence, if the Company remains judicious in financing its growth, including acquisitions, the confirmation of a sustainable economic recovery can be expected to lead to positive rating actions.

Notes:
The Senior Unsecured Debt of Vale Overseas Limited and the Guaranteed Mandatory Convertible Notes of Vale Capital Limited and Vale Capital II are irrevocably and unconditionally guaranteed by Vale.

All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Mining, which can be found on our website under Methodologies.

This is a Corporate rating.