The world"s biggest iron ore miners are hoping recent massive capacity cuts are enough to provide a leg up in annual price negotiations with steel mills, but they may need to get out the knives again.
With a decline in global steel output far outpacing falls in supply of the main raw material, it"s likely iron ore prices will keep falling.
The most immediate casualties will be those who sell the bulk of their material at prevailing spot rates.
But the three biggest miners, Brazil"s Vale and Australia"s Rio Tinto and BHP Billiton, along with an army of smaller miners that also sell mostly on long-term contracts, will share the pain.
"Iron ore is not the Holy Grail it was six months ago," James Wilson, an analyst with DJ Carmichael & Co, said.
The spot price collapse to around $60 a tonne from $197 in March should set the tone for contract talks, and underscore how far the market has drifted since prices were last set.
Even following cuts already made, the three top miners in 2008 will sell well over a half-billion tonnes of ore at a hefty $100-$120 a tonne under terms negotiated mid-year and back-dated to April 1 when the steel sector was running hot.
Together Vale, Rio and BHP have removed more than 50 million tonnes of capacity this quarter, only around 10 percent of their annual targets but an average cut of around 35 percent in their quarterly output.
That"s enough ore to make 25 million tonnes of steel, though China alone is forecast to reduce its steel production by more than twice that amount next year.
The world"s biggest steel producer, which holds considerable sway over price benchmarking, will see crude steel production drop 15 percent or 60 million tonnes to 420 million tonnes in 2009, according to UBS analyst Hubert Tang.
Vale Chief Executive Roger Agnelli says steelmaking worldwide is already down 20 percent year-on-year in 2008, and with the International Iron and Steel Institute calculating global output of 1.2 billion tonnes in 2007, that would imply a further 300-350 million tonnes of iron ore needs to go to balance the market.
PRODUCTION CUTS The best the miners can do is revise production to keep pace with declining orders: not over produce and not under produce.
Vale, which has already cut its annual output target 10 percent or 30 million tonnes, says it remains flexible to the needs of customers to reduce ore deliveries, while No. 2 Rio Tinto, a big supplier to China, is also pledging to cut 10 percent, around 20 million tonnes, by the end of this year.
BHP says it will maintain production for now even as it faces requests to defer shipments on up to 6 million tonnes of ore, 5 percent of its total Australian production this year.
"The majors are looking to control supply onto the market in an entirely measured response to the reduction in demand from the steelmakers," David Tucker, an analyst for steel industry consultancy Hatch Beddows, said.
DJ Carmichael"s Wilson says mine production runs also need to factor in unofficial buffer stocks piled up in Chinese ports of 68 million tonnes and another 125 million tonnes inventoried in steel mills" yards if the goal is to balance supply and demand in a declining market next year.
All this has sent the spot market sharply lower, with prices falling 69 percent since peaking at $197 a tonne in March, discouraging spot sellers.
Rio Tinto Ltd/Plc quit the spot market last month after selling only about 12 million tonnes of a planned 15 million-plus once prices tanked.
Even BHP, which has said it wants the benchmark system replaced by spot indexing, is eschewing most spot sales.
LONG-TERM WOES Mostly, analysts are calling for a price drop of anywhere between 15 and 50 percent in contract prices -- and most forecasts are open to downward revisions. That"s a dramatic reversal for miners accustomed to uninterrupted year-on-year growth in the past five years.
Macquarie Bank is on the record forecasting a 20 percent drop in contract prices and Goldman Sachs JB Were predicts 30 percent, though Merrill Lynch and others say it is too early to call.
"In part, the cuts we"ve seen are more about limiting the next price decline, not eliminating it," said Wilson.
Rio Tinto Chief Executive Tom Albanese predicts a "short, sharp slowdown in China," dissipating over 2009.
Albanese"s optimism on the future was helped with the announcement of China"s $600 billion economic stimulus package, aimed at modernising roads and power grids, a potential mini-bonanza for steel and other industries.
He must hope he is right. Mining less ore comes at a cost: Merrill Lynch reduced Rio Tinto"s full year earnings estimate 4 percent to $12.811 billion after Rio said it was cutting production.
"The Rio"s and BHP"s are well aware that the tide has turned against them," said ANZ"s Pervan. "If not, they"re in for a real shock come the next settlement."