Vale bends to new quarterly iron ore pricing model

Pressured by Asian and European steelmakers not wanting to be locked into expensive iron ore contracts, Vale SA (NYSE:VALE) has bent to a new system that would see lower quarterly prices.

The Big 3 iron ore producers — Vale, Rio Tinto and BHP Billiton — have been pressured by their steelmaking clients, mostly in China, the largest customer, but also in Europe, to adopt a pricing system that more accurately reflects the spot price for iron ore, a crucial ingredient in steelmaking along with coking coal.

That price has dropped around 18% this year, reaching its lowest level in two years on Oct. 28th according to Bloomberg, prompting steelmakers to seek discounts.

The Big 3 changed the pricing model in 2010 from a 40-year custom of setting prices annually, to one based on quarterly contracts. Prices were set from the period ending a month before the beginning of a new quarter, but steelmakers complained that that the price was higher than if the price had been set for the current quarter. The difference between the two pricing systems is currently about 20%.

Bloomberg reports that Jose Carlos Martins, head of iron ore and strategy for Vale, said the company recognized the problem and is in talks with some of its main customers including ArcelorMittal and China Steel Corp., to cut contract prices. He said about 80% of Vale's sales are now based on the current quarter's price versus the previous system.

Martins told reporters in London Wednesday that companies moving to the new system will not be allowed to return to the previous one.

Meanwhile, reported yesterday that Vale's strategy for shipping iron ore from Brazil to China may be keel-hauled after the largest bulk carrier ever built, the Vale Beijing, is dead in the water with a ruptured hull. The mishap follows what appears to be a wrongheaded approach by Vale to tighten its grip on the world’s annual 1 billion tonnes sea-borne iron-ore trade.

As reported last month, Vale’s fleet of super carriers has not made one voyage in six months of operation. Chinese shipowners say the carriers, worth $2.3 billion, will worsen overcapacity and depress freight rates. Steelmakers are also against the leviathan-size ships, because they will give Vale even more control over pricing and delivery.