Fortescue Metals Group: Surprise dividend on cash flow windfall

About the author:

Adrian Prendergast
Author name:
By Adrian Prendergast
Job title:
Senior Analyst
Date posted:
15 May 2019, 9:01 AM
Sectors Covered:
Mining, Energy

Extra mid-period dividend

Fortescue Metals Group (FMG) surprised the market, announcing an extra A$0.60 per share mid-period dividend (fully franked). This comes in addition to the A$0.30 per share combined ordinary and special dividend already announced at its interim result in February, and puts FMG on track for a dividend yield of 20% for the year.

FMG is doing a good job operationally while also improving the marketability of its product mix, but the majority of the gain in cash flow for FMG can be attributed to a surge in iron ore prices, while FMG reporting a 47% increase in average realised price for its products since January 2019.

Strategy implications

The A$0.60 per share dividend will set FMG back A$1.8 billion. The size of the dividend undermines the view that FMG is considering diversifying more rapidly through acquisition, with the miner also preparing to fund development of its planned Eliwana and Iron Bridge projects.

Momentum dependent

Iron ore market fundamentals remain positive, supported by stimulus-fueled demand conditions in China and ongoing uncertainty over the time it will take for Brazilian iron ore major Vale SA to bring its 90mtpa of suspended capacity back online (or for a supply response elsewhere to emerge). Our issue is this now appears more than priced in. While momentum can carry prices higher, we see iron ore as trading 45% above its long-term sustaining levels. History has taught us to be fearful (not excited) when this is the case. We are concerned with the market focus on spot fundamentals and reliance on an upgrade cycle.

Upgrade to short-term prices

Post the early 2019 surge in iron ore price, we have lifted our June quarter forecast to US$82/t (62% Fe fines), with a December half estimate of US$77/t (was US$70/t), and calendar year 2020 forecast of US$70/t (was US$65/t). The c.50% increase to our FY20 Earnings Per Share forecast has increased our valuation-derived price target (Morgans clients can login to view).

FMG continues to trade at a premium to our revised price target. We retain our Reduce recommendation. The key risk to our call remains the iron ore price.

More information

Morgans clients can login to view our detailed report and share price target for Fortescue Metals Group (FMG). Alternatively, please contact your Morgans adviser or nearest Morgans office for access.

Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.

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