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. The confirmation reflects Vale’s status as one of the largest mining companies in the world, with a solid business base as the world’s largest iron ore producer, as well as rising outputs of nickel, copper, fertilizers and other materials. The confirmation also reflects the weakening of the Company’s credit metrics in the face of lower prices for commodities important to Vale, especially iron ore products; higher debt levels due to high capital spending for growth projects; and the uncertain outlook for iron ore prices with growing production capacity in an industry already experiencing pricing pressures.

DBRS has today also discontinued its ratings on Vale Capital Ltd. and Vale Capital II’s Guaranteed Mandatory Convertible Notes, which have been repaid/converted.

Although the Company has a sound financial profile and good liquidity, its operating income and operating cash flow declined by more than 50% in 2012 from record levels generated in 2011, due to a decline in commodity prices, particularly average iron ore and pellet prices (down 27% and 24%, respectively). Despite soft commodity markets, Vale dispensed $21.8 billion for capex and dividend payments in 2012, resulting in a $4.8 billion increase in net debt and a weakening of its credit metrics. To date in 2013, average iron ore and pellet prices have improved modestly, while capital and dividend outflows are at about a 15% lower rate than in 2012. Combined with $2.0 billion in dispositions, net debt declined by $0.8 billion in the first half of 2013.

Vale has made good progress in 2012 and to date in 2013 in reining in cost inflation. A number of efficiency and cost savings initiatives are underway. Nonetheless, the Company has experienced a number of setbacks, including high costs and the slow ramp-up of its New Caledonian nickel project, furnace failure at the new Onça Puma nickel operation, suspension of the Rio Colorado potash mine build and development delays in its Moatize Basin coal development.

The strength of Vale’s iron ore business has tended to overshadow its efforts to diversify its operations by acquisition and organic growth. Following significant management changes over the last couple of years, DBRS expects a more conservative approach to setting growth targets, but we still expect investment activity to remain high in both its core businesses and, potentially, new businesses.

DBRS expects commodity prices to be on average lower in 2013 than in 2012, resulting in lower net income for the year despite a number of new coal, copper, nickel and logistics operations coming on stream or ramping up. Higher royalties and taxes can be expected to add to cost pressures. Accordingly, DBRS expects Vale’s credit metrics to continue to weaken modestly for the remainder of 2013 and into 2014, due to lower earnings and cash flow and a high level of capex, but to remain adequate for its ratings. In addition, Vale is involved in tax and royalty litigations, with a possible cost of $16.7 billion, but where no provision has been recorded. Unfavourable rulings in these cases may result in a material need for funds.

Over the medium term, the added productive capacity of $56 billion in project and research and development (R&D) expenditures since the end of 2007 will significantly increase the Company’s earnings power.

DBRS expects Vale’s investment activity to remain high. With continued uncertainty in the outlook for commodity prices and the potential for a large tax bill (currently under litigation), the Company will need to remain prudent in its growth initiatives if it wishes to maintain its balance sheet strength.

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

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

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

The Senior Unsecured Debt of Vale Overseas Limited is irrevocably and unconditionally guaranteed by Vale.