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Case Study : Business Assessment And Valuation For Fortescue Metals Group Limited

Case Study: Fortescue Metals Group Limited (FMG) is a leading iron ore production and exploration company which operates in the Pilbara region of northern Western Australia. The company is the fourth-largest listed resources company in Australia, behind BHP Billiton Limited, Rio Tinto Limited and Woodside Petroleum Limited, and the largest pure-play iron ore mining company listed in Australia. The company currently has two primary production sites in operation, namely the Chichester Hub located in the Chichester Ranges in the Pilbara region comprising the Cloudbreak and Christmas Creek mining projects, and the Solomon Hub, which is located 120 kilometers west of the Chichester Hub and comprises the Firetail and Kings Valley mines. The company’s current operational objective is to achieve iron ore production of at least 155 million tones per annum (Mtpa), and it has undertaken an aggressive expansion program in the last decade in pursuit of this objective. The iron ore produced by the company’s mining operations is transported to their port facilities at Port Hedland and is shipped for spot market or futures contract trading in a number of overseas locations, but predominantly China. Fortescue Metals Group Limited’s largest shareholder is Mr. Andrew Forrest with a 33.32% ownership interest in the company’s ordinary share capital. Andrew Forrest was also the founder and former Chief Executive Officer (CEO) of the company, and is currently the Executive Chairperson of the Board of Directors. There are also a number of other key cornerstone shareholders, including international mining interests and consumers of iron ore resources. The company’s Board of Directors are seeking input from its Finance Division regarding the future strategic direction of the company. In March 2016, the company announced the signing of a Memorandum of Understanding (MoU) with the Brazil-listed Vale S.A, the world’s largest iron-ore mining company, to blend FMG’s lower grade iron ore with the Vale’s higher grade iron ore at Chinese ports to produce a premium iron ore blend designed to meet the long- term steel requirements of Chinese customers. One part of the MoU involved Vale S.A purchasing up to a 15% ownership interest in FMG on the share market. However, updates in December 2016 suggested that this joint venture is unlikely to be operationalized any time in the near future. FMG is also in early stage discussions with Hancock Prospecting Pty. Ltd, in relation to taking an ownership interest in the newly-operationalized Roy Hill 1 iron ore project located in the Chichester Ranges area of the Pilbara near one of its current operations. This would potentially involve the purchase of up to a 25% share in the project, and the provision of access to its refining and railway infrastructure. Based on current financing arrangements and indicative valuations for the Roy Hill 1 project, the cost of purchasing this project share would be approximately $2.6 billion. The follow table provides a summary of financial and structural information for Fortescue Metals Group Limited for their recent June 30th year ends (All figures, except for per share, issued capital and percentage statistics, are expressed in A Million): Further detailed overall summary, structure, financing and performance information can be obtained from the 2016 Annual Report document for Fortescue Metals Group Limited, which is available from the subject LMS site. Prior year annual report documents and other filings and announcement information relating to the company can be obtained from the Fortescue Metals Group Limited web-site (www.fmgl.com.au) or from the Data Analysis Premium database available through the Databases link on the University Library web-site. Other relevant information relating to Fortescue Metals Group Limited or the wider corporate sector is as follows: Assume this analysis is being undertaken as at Monday 10th July 2017. Fortescue Metals Group Limited’s share price on Monday 10th July 2017 is $5.09 per share, and there are 3,113.798 million issued ordinary shares on this date. Fortescue Metals Group Limited is part of the Materials Sector based on the Global Industry Classification Standards (GICS), and its GICS Industry is Metals and Mining. Fortescue Metals Group Limited’s beta coefficient on July 10th 2017 is 0.89, compared to the beta coefficient for the overall industry of 1.04. The 5-year and 10-year Australian Government Bond yields are 2.258% and 2.784%, respectively, on July 10th 2017. The 1-year London Interbank Offered Rates (LIBOR) on June 30th 2016 and July 10th 2017 were 1.2302% and 1.465%, respectively. The S&P/ASX 200 Accumulation Index, including dividend and franking credit components, has provided an average annual return of 8.668% over the most-recent five- year calendar period to July 10th 2017. The Australian dollar to US dollar (AUD/USD) exchange rates on June 30th 2016 and July 10th 2017 were 0.7782 and 0.7602, respectively. Fortescue Metals Group Limited is subject to a corporate tax rate of 30%. The following table provides financial and operational information for a number of leading international mining and resources companies based on current market capitalization levels and 2016 annual report information (figures in $Million, except for iron ore production, which is in Million metric tones): Note that Vale S.A and Cliffs Natural Resources Inc. are pure-play iron ore mining firms, whereas BHP Billiton Limited and Rio Tinto Limited are diversified mining companies and iron ore mining is only a part of their overall mining activities. The Director of the Business Development Division of Fortescue Metals Group Limited, Mr. Peter Lynch, has requested you to prepare an analysis and options report regarding the company, which will be used as an important input into the Board’s future strategic decision-making. The report is required to include the following components: An analysis of the performance of Fortescue Metals Group Limited and the wider iron ore industry over the last five-year period at a minimum, and a risk assessment associated with an expansion of investment and activities in the iron ore sector in Australia. The determination of the current weighted average cost of capital (WACC) of Fortescue Metals Group Limited. The determination of the current weighted average cost of capital (WACC) of Fortescue Metals Group Limited. A recommendation for how an investment in the Roy Hill 1 Project should be funded, taking account of the company’s current capital structure, recent financing actions, and the wider economic and financial environment. The due date for submission of this Case Study task is provided in the subject learning guide and on the subject LMS site. This Case Study will represent 30% of the final assessment for this subject and is to be submitted using the upload facility provided on the subject LMS site. This Case Study is an individual assessment task, and should be a maximum of 1,500 words, excluding any calculations, tables or other exhibits. The Case Study should be prepared in a professional manner and include informative and logical information to justify any decision-making and recommendation conclusions drawn. Relevant calculations employed should be fully explained and be understandable and interpretable by the reader, and any important assumptions made should be clearly stated. Any resources used, besides the Fortescue Metals Group Limited 2016, and prior year, annual report documents, should be appropriately identified and referenced.


Subject Name: Finance

Level: Postgraduate


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