Vale's $6 Billion Profit Fueling Bond Rally That Tops Peers: Brazil Credit

Vale SA, the world’s biggest iron-ore producer, is beating BHP Billiton Ltd. and Rio Tinto Group in the bond market on speculation record earnings will give the company enough cash to avoid borrowing.

Vale’s dollar bonds due in 2019 returned 2.2 percent since the company reported that a doubling in iron-ore prices buoyed its third-quarter earnings of $6 billion on Oct. 27, pushing their gain to 17.4 percent this year, according to data compiled by Bloomberg. BHP bonds gained 1.5 percent since Oct. 27 while Rio Tinto debt advanced 1.3 percent.

Vale has enough cash to carry out its $24 billion investment plan, which Chief Executive Officer Roger Agnelli said will be a record for the mining industry, without boosting debt levels, according to Christopher Buck, a corporate debt analyst with Barclays Plc. The Rio de Janeiro-based company had net debt of $15.5 billion at the end of September, up from $8.1 billion a year earlier.

“It appears that the company wants to operate on a little less leverage than they have now,” Buck said in a telephone interview from New York. That “should be a positive for bonds,” he said.

The rally in Vale’s 5.625 percent bonds since Oct. 27 compares with corporate bond returns of 1.2 percent for Brazil and 0.9 percent for emerging markets, according to JPMorgan Chase & Co.’s CEMBI indexes.

Vale plans to finance its investment plan with cash generation and will only tap the bond market if it sees an opportunity to cut interest payments or extend the maturity of debt, Chief Financial Officer Guilherme Cavalcanti said in an interview Oct. 20.

‘Bullish’

“Not issuing new bonds is bullish for Vale’s debt,” according to Eduardo Suarez, an emerging-markets strategist at RBC Capital Markets in Toronto. “There is a scarcity premium for companies that have less debt while supply risk puts pressure on spreads.”

Vale sold $2.78 billion of bonds in overseas markets this year, the most by a Brazilian company, according to data compiled by Bloomberg.

The company will also use credit lines from the Export- Import Bank of China, the Bank of China Ltd., Export Development Canada and Brazil’s state development bank, known as BNDES, to finance part of the investment program, Vale’s Cavalcanti said.

“Vale could reduce its debt burden by tendering short term maturities and extending its maturity profile with newer and cheaper bonds,” said Gonzalo Borja, who manages about 500 million euros （$710 million） in fixed income assets, including Vale bonds, at Clariden Leu in Zurich. “They would follow the recent trend seen in the corporate bond market where companies are taking advantage of historic low yield levels to replace short-term maturities.”

Debt Issuance

Brazilian companies sold a record $33.6 billion of bonds abroad this year as they sought to take advantage of record-low borrowing costs, according to data compiled by Bloomberg.

The extra yield investors demand to own Brazilian government dollar bonds instead of U.S. Treasuries widened four basis points, or 0.04 percentage point, yesterday to 176, according to JPMorgan’s EMBI+ index.

The cost of protecting Brazilian bonds against default for five years dropped four basis points to 91, according to CMA. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

Ratings

The yield on the overnight interest-rate futures contract due in January 2012 climbed seven basis points to 11.40 percent.

The real rose 1.1 percent to 1.6708.

Vale shares are up 16.9 percent this year, compared with a 4.9 percent advance for BHP and a 15 percent gain for Rio Tinto.

Vale is rated BBB+ by Standard & Poor’s and Fitch, the third-lowest investment grade, and one step below by Moody’s Investor Service at Baa2. London-based Rio Tinto is rated BBB+ by S&P and A- by Fitch. BHP, in Melbourne, has an A+ rating from S&P and an A1 ranking from Moody’s.

Ruban Yogarajah, a spokesman for BHP in London, declined to comment. Rio Tinto spokesman Tony Shaffer, also based in London, declined to comment. A Vale official who declined to be named citing corporate policy said the company had no comment.

Vale will almost double its investments next year as it expands production of the steelmaking ingredient and boosts its nickel, copper and fertilizer businesses, the company said on Oct. 28.

Acquisition

“The capital expenditure is large but our rating already contemplates pretty substantive capex,” said Moody’s analyst Carol Cowan in an telephone interview from New York. “It does not impact the rating in either direction.”

The investment plan is a positive for Vale’s bonds as it reduces the risk of an acquisition, Barclays’s Buck said. BHP earlier this year made a $40 billion hostile bid for Potash Corp. of Saskatchewan Inc., the world’s largest fertilizer producer. Canada blocked the bid on Nov. 3.

Vale’s third-quarter profit surged from $1.68 billion a year earlier after iron-ore prices soared to $128.21 per ton from $57.23 amid growing demand from China.

“The company just had tremendous earnings,” Buck said. “It became a reality that the company was going to be able to handle this capex program without much trouble. The capex plan signals that the company is not looking to make any major acquisition but rather develop their organic pipeline.”