Iron Ore Business
The Group’s iron ore trading business has sourced, marketed and delivered iron ore to customers in the PRC since 1992. Management has developed strong relationships with the steel manufacturers that purchase most of its products.
The Group intends to develop an integrated chain of iron ore supplies and is investigating opportunities to acquire and develop iron ore resources to enable Prosperity to increase its market share and complement the iron ore supply that it has under its long-term contracts.
Performance
In the financial year ended 31 March 2009 the Group’s iron ore trading business supplied 4.4 million tonnes of iron ore to customers in the PRC and generated segment results of $15.5 million.
Prosperity sources its iron ore from the traditional long distance suppliers in Brazil, Australia and South Africa as well as shorter distance suppliers in Thailand, Malaysia and Indonesia.
Sales and Distribution Process
The PRC government limits the number of companies that are allowed to import iron ore into the PRC by restricting the ability of companies to enter this market; currently only around 100 companies are allowed to import iron ore into the PRC. These import companies primarily comprise large iron ore import companies that have consistently imported significant amounts of iron ore into the PRC in recent years and large steel manufacturers. Prosperity supplies all of its iron ore direct to such importers in the PRC. The majority of Prosperity’s iron ore sales are to large steel manufacturers in the PRC which purchase iron ore in the form of fines or lumps and, when available to Prosperity, in the form of pellets.
A few weeks before one of Prosperity’s iron ore suppliers has a shipment of iron ore ready for Prosperity, the supplier will contact Prosperity and advise them of the quantity and quality of iron ore that will be available and the shipping window for this. Prosperity then has a short period to confirm whether it is interested in the shipment. After being given the details of the available supply, Prosperity checks the availability and rates for shipping with its shipping brokers. Prosperity will then call its iron ore customers to assess the demand for the proposed shipment. If requested to arrange shipping of the ordered iron ore, Prosperity will then review the availability of cargo vessels and the freight costs of a number of shipping brokers to ensure that the necessary shipping arrangements can be made to deliver the order to the customer’s designated port in the PRC. When it has confirmed the availability of the customer’s requested iron ore product and identified a shipping provider, as appropriate, Prosperity’s trading department negotiates a delivery price with the customer for its order, including freight and insurance costs. The iron ore trading transactions are back-to-back in nature and works on a pre-sold basis to eliminate any inventory risk.
Prosperity’s margin
Prosperity uses financing facilities provided by its commercial banks, enabling it to complete transactions that it would not otherwise be able to finance using purely internal funds. The largest asset and liability balances of its iron ore trading business relate to its near back-to-back letters of credit with customers and suppliers. All iron ore trades for both suppliers and customers are priced in US Dollars so Prosperity has no exchange rate risk.
Sales and Marketing
Prosperity is focused on developing and maintaining long-standing customer relationships that Prosperity’s Chairman, David Wong, and the iron ore trading team have established over the last 17 years. Members of Prosperity’s iron ore trading team pay regular site visits to both existing and prospective customers enabling them to improve their understanding of those companies’ production capacity, production plans and iron ore requirements. This ongoing dialogue and the iron ore trading team’s first-hand knowledge of demand trends and supply conditions means that Prosperity is proactive in meeting customer needs and developing new business opportunities.
Shipping and Logistics
David Wong and the iron ore trading team have developed strong relationships not only with customers and suppliers but also with the ports and shipping freight companies that Prosperity uses to transport iron ore to customers in the PRC.
These relationships are very important to Prosperity’s iron ore trading business as it manages the shipping and logistical arrangements for the delivery of iron ore to the majority of its customers. By monitoring shipping availability and anticipating the volatility in the shipping freight market, Prosperity aims to procure the appropriate vessel at competitive rates on charter to meet its customers’ requirements. The Directors believe that this logistical planning enables Prosperity to leverage its competitive advantage and enhance its margins.
Prosperity also provides value-added services such as co-ordinating the unloading of the cargo at the ports when requested by its customers. By co-ordinating the critical cost elements in the chartering business such as tugboat services, harbour services and unloading equipment, Prosperity seeks to minimise losses resulting from demurrage delays.
Quality Assurance
Prosperity actively seeks to increase its secured supply of iron ore from both existing and potential suppliers. When it is offered a new supply of iron ore, Prosperity has samples tested in CIQ laboratories or at its customers’ laboratories, to ensure that it meets Prosperity’s quality standards. Prosperity’s quality control measures form an integral part of its operations, enabling it to deliver appropriate iron ore products that meet its customers’ requirements.
Quality assurance procedures enable Prosperity to supply its customers with products of a consistent quality, helping it to maintain good customer relationships. Prosperity’s understanding of the qualities of its iron ore supply also gives it additional flexibility in meeting customer needs and helps it to provide specific iron ore grades at customer request.
Some of Prosperity’s major iron ore suppliers include a price adjustment mechanism in their purchase contracts relating to the minimum Fe content of the iron ore that they supply but are also contractually bound to deliver a consistent quality of iron ore specification that meets Prosperity’s customers’ requirements.
Trade Finance Facilities
Prosperity currently has trade facilities with seven international banks that have provided sufficient facilities for Prosperity’s iron ore trading activities.
Key trends of iron ore supply and demand
Iron ore is mined in approximately 50 countries, with the eight largest producing countries accounting for approximately 88 per cent of total supply. China’s inability to produce sufficient quantities of iron ore to meet its domestic requirements means that it has become the largest importer of iron ore, accounting for more than a third of global demand. Iron ore is usually treated in a blast furnace to produce pig iron, which can be further treated to produce steel.
Stimulated by rapid industrialisation in the PRC, global steel production increased from 777 million tonnes in 1998 to 1.3 billion tonnes in 2008. The PRC’s iron ore imports rose from 70 million tonnes in 2000 to more than 443 million tonnes in 2008, surpassing Japan as the largest customer nation of seaborne iron ore, and it is forecast to import 510 million tonnes per annum by 2014.
Although steel production in the PRC has seen explosive growth in recent years it still has considerable growth potential as per capita steel consumption remains significantly below that in more economically developed countries. Further demand growth is also anticipated from Brazil, Russia and India which, together with the PRC, are expected to dominate global steel consumption and account for almost two-thirds of consumption growth until 2015, boosting global iron ore demand.
The strong demand and high spot prices for iron ore in the PRC in recent years have stimulated a significant increase in domestic production of iron ore, with annual output estimated to have increased by 21 per cent to 824 million tonnes in 2008. However, this domestic ore is generally of an inferior grade with low iron content and high levels of impurities, so this rise in production represents only a fraction of the growth in Chinese demand. The shortage of high-grade domestically-sourced iron ore leaves the PRC reliant on seaborne traded iron ore to meet the needs of its steel industry. PRC imports of iron ore has increased by 16 per cent in 2008 year-on-year.
Iron ore pricing structures
Iron ore prices are set annually at the start of the Japanese financial year in April following negotiations between the leading iron ore producers, Rio Tinto plc, BHP Billiton plc and CVRD, and major consumers such as Shanghai Baosteel Group Corporation and Nippon Steel Corporation.
Prosperity’s customers are amongst the top 20 largest steel mills in the PRC and are in the best position to deal with any increase in production costs.