Rio Tinto (ASX:RIO) may make a decision on developing its share of the massive Simandou iron ore deposit in Guinea as early as next year.

Analysts at UBS let that cat out of a bag in a note to clients today following a ’round table’ including Rio’s iron ore boss Simon Trott.

Simandou is a troubled asset which has sat in Rio’s portfolio since the mid-1990s.

But its development is of strategic interest to China, which sees the large ultra-high grade project, described by Rio executive Bold Baatar as the “Rolls Royce of iron ore”, as an opportunity to wean itself off its reliance on Australia’s iron ore industry.

Analysts’ perspectives differ on the significance of the Simandou development.

It could be as low as a 60-80Mtpa contributor, while others believe it could expand to a capacity of 200Mtpa by the end of the decade despite the legacy of failed iron ore projects in West Africa.

Rio has a ~45% share of Simandou and is in partnership with Chinese mining giant Chinalco on Simandou’s Blocks 3 & 4.

The other two blocks are owned by the SMB-Winning group, a consortium including Guinea’s state bauxite mining company, French, Singaporean and, crucially, Chinese interests, who want to begin exports by the middle of the decade.

They have already begun the construction of a railway line through 650km of harsh and mountainous Guinean jungle.


Why does Rio like Simandou?

Simandou has the potential to reduce demand for Rio’s own iron ore in the Pilbara, where it has medium term plans to expand from around 325Mtpa to 345-360Mtpa by 2025 by removing bottlenecks across its port, rail and mining operations.

It previously dumped plans to develop its share of Simandou after the iron ore price nosedived in 2015, but also because of rumoured cost estimates that put the price of developing the mine at as much as US$22 billion.

The project’s delays have been exacerbated by the delicate political tight walk companies like Rio have had to walk.

Guinea has consistently opposed proposals to leverage existing infrastructure in neighbouring Liberia to transport the product to market, insisting of the costlier option of building a new rail line through a Guinean countryside which also happens to host an estimated two-thirds of the wild population of the endangered Western Chimpanzee.

Blasting for rail infrastructure by SMB-Winning has already begun, though work was believed to have been delayed after a successful coup ousted the government of Guinean President Alpha Conde in September.

“Even talk about Simandou, I’ve seen some estimates from people who understand more about these things than me of what it takes to build production at grand scale,” Fastmarkets Index Manager Peter Hannah told Stockhead last month.

“And I think we have to expect or almost plan for the base case that it will take longer and cost more than the current projections for supply from around 2025 make it out to be.

“And beyond that I think we have to be prepared for supply to be less reliable over the longer term if it’s coming more from places like Guinea.”

Remember that Rolls Royce comment though? That’s an important point. Parts of Simandou are claimed to contain up to 67% iron content making it ultra-high grade.

Not only is that a full 5% points above the benchmark 62% fines price – Rio currently exports from the Pilbara at a far lower average grade – that is even higher than major 65% premium index offered to Brazilian exporter Vale for its Carajas ores and a grade normally only seen in processed concentrates and pellets.

Rio could do with the premium as the grade of its older Pilbara mines wanes. Higher grade iron ores are also needed for future ‘low carbon’ forms of steelmaking like direct reduced iron, which will be increasingly prioritised as Rio’s Chinese customers fall into line with emissions reduction measures.

A key step appears to be Rio negotiating with the SMB consortium to share its railway line. UBS analysts Myles Allsopp, Lachlan Shaw and Daniel Major suggested there will be other considerations as well.

“RIO progresses the Simandou studies & expects an investment decision in 2022; the project needs to stand up on own merits taking into account other benefits (eg blending with Pilbara/ IOC ore etc,” they said.


What about Rio’s Pilbara expansion plans?

UBS is bearish on iron ore and has a sell recommendation and $79 price target on Rio, despite iron ore’s recent bounce back above US$100/t, closing above US$103/t on Monday.

Rio’s unit costs have risen $4/t over the past two years to $18-18.50/t, at least half of that driven by changes in USD-AUD exchange rates.

Rio is less bearish, with UBS saying it expects underlying Chinese demand for steel and iron ore to remain strong in 2022 despite the 60% dive in prices from records of over US$230/t in May.

“RIO expects Pilbara unit costs & capex to remain elevated medium-term with volumes to lift gradually,” UBS said.

“In terms of the market, it sees potential for customers to restock in Mar-22 post the Winter Olympics & expects underlying demand to remain robust in 2022 with the Chinese govt to take action to avoid a property hard landing but equally not to walk back on its carbon targets.”

Rio has major expansion plans in the Pilbara as well, starting with its Gudai-Darri mine in early 2022, which will ramp up to its 43Mtpa nameplate capacity over 12 months.

Rio will invest billions in capex on mine replacements and introducing 1GW of wind and solar at its Pilbara mines, with UBS saying it needs to bring four 20-30Mtpa mines in Western Range, Bedded Hill Top, Hope Downs 2 and Brockman Syncline 1 online between 2024-2026 to hit its target 345-360Mtpa export goals.

Allsopp, Major and Shaw say Rio still claims to be prioritising value over volume, with plans to knock down the proportion of its exports derived from lower quality HIY and SP-10 ore from 27% to 19% by 2024.

“RIO reiterated its focus on “value over volume” but also flagged the current iron ore price of ~$100/t is attractive and the business makes good money,” they said.

Rio has flagged higher unit costs staying on the back of tightness in the WA labour market, higher wage bills, diesel costs and cost of materials.


What happened in the market today?

Rio Tinto shares were off 1.09% to $94.35 as of 4pm AEDT in a mixed day for the iron ore miners.

FMG (ASX:FMG) was also off while BHP (ASX:BHP) and MinRes (ASX:MIN), which signed an agreement to study sharing port and rail infrastructure in the Pilbara with Gina Rinehart’s Hancock Prospecting and Roy Hill empire yesterday, were green.

South African miner AngloGold Ashanti (ASX:AGG) was up 2% to lead the large caps, while lithium and rare earths dominated the gains in the mid-tier.

Brine and hard rock lithium producer Orocobre (ASX:ORE) soared to a record high of $10.265 after its AGM this morning.



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