Australia's economy

Australia: Government revenue at risk as commodity prices plummet

THE nation’s commodity wealth is coming under growing pressure as the outlook for iron ore and oil-linked LNG prices worsens, threatening shareholder returns, state and federal government revenues and prospects for new investment.

the Australian,

1 December, 2014

Iron ore prices continue to slide, with Fortescue Metals on Friday forced to pull back on spending plans and a prominent Chinese fund manager forecasting a decade of low prices.

And oil prices slumped over the weekend after OPEC nations led by Saudi Arabia made a landmark decision to keep oil flowing and drive prices down to hurt the new wave of US onshore shale producers.

Shanghai Jianfeng vice-­president Liang Ruian told The Australian that iron ore prices of $US50 per tonne were not out of the question and that prices could slide below $US60 next year, while on the oil front, AMP chief economist Shane Oliver warned that prices, which fell below $US70 a barrel over the weekend, could plummet to as low as $US40.

The sliding iron ore price will slash the government intake from the biggest corporate taxpayers of recent years, BHP Billiton and Rio Tinto, which both made the lion’s share of Australian profits from their West Australian iron ore mines.

In WA, a budgeted $US123 iron ore price forecast has state royalty expectations for this year in tatters, with prices now trading around $US70 a tonne, down nearly 50 per cent, as BHP, Rio and Fortescue have flooded the market with expanded supply approved during the boom.

While sliding oil prices would have been an unambiguous positive for the nation 10 years ago, it is now less clear cut.

The continued weakness was noted in an aftermarket release from Fortescue on Friday that said the Perth miner would defer $US650 million ($763.5m) of spending this year and that “it is prudent to defer investing additional capital that increases supply into the market”.

Rio and BHP are still making substantial money at current ­prices, with Rio last week saying it would make a 55 per cent earnings margin, the biggest of the four majors, at iron ore prices of $US76 a tonne.

But BHP, whose two biggest cash centres are iron ore and oil and gas, has tempered its language on shareholder returns as its future cashflows look less bountiful and just maintaining its progressive dividend starts to look challenging.

Rio last week shut down talk of a big one-off capital return, saying it would focus on sustainable returns but stressed that these would be material.

Rio iron ore chief Andrew Harding told The Australian there had been little change in the supply and demand expectation scenario for iron ore, but that it was impossible to predict what prices would do.

Mr Harding said he thought it would be the higher-cost miners that needed to shut down production in China and other non-traditional iron ore producers as BHP brought low-cost expansions on, rather than majors such as Vale or Fortescue.

The costs of the four majors are in the lowest 60 per cent of the industry, with Rio the lowest, followed by BHP, then Vale and Fortescue.

Yesterday, BHP iron ore boss Jimmy Wilson told the Nine Network that prices could fall further.

“If more low-cost supply continues to come on, prices will continue to go down,” he said, adding that $US50 a tonne sounded “a little low”.

About $180 billion of ongoing LNG investment in the country means oil-linked LNG is forecast to become Australia’s second-biggest export earner after iron ore, and export revenues and corporate taxes will be increasingly linked to oil prices.

The US crude benchmark, West Texas Intermediate, fell 10 per cent to $US66.15 a barrel on Friday night in response to the OPEC news, after resuming trade after Thanksgiving.

European benchmark Brent oil prices, which had lost 7 per cent on Thursday, lost another 3 per cent on Friday, settling at $US70.15 a barrel.

UBS analyst Nic Burns said Santos had a break-even oil price of $US72 a barrel, meaning an equity raising or asset sales could be needed if low prices continued. He said Woodside was unlikely to be able to push ahead with the Browse floating LNG project in WA if prices remained low.