Renowned short-seller bets against Fortescue

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This was published 11 years ago

Renowned short-seller bets against Fortescue

By Michael Evans

PROMINENT hedge fund manager and short-seller Jim Chanos has singled out Fortescue Metals as a ''value trap'' stock, telling a New York conference that shares in billionaire Andrew Forrest's company will fall ''materially''.

In a presentation this month to Grant's Spring Conference, a private investment forum, Mr Chanos, the boss of Kynikos Associates, told investors he feared iron ore miner Fortescue has ''a somewhat promotional management team''.

Value trap ... Fortescue is ''a highly leveraged bet on continued fixed asset investment growth in China'', says Jim Chanos.

Value trap ... Fortescue is ''a highly leveraged bet on continued fixed asset investment growth in China'', says Jim Chanos.Credit: Bloomberg

He singled out the company as the global example of a ''value trap'' in the ''iron ore rush'', adding that he is betting against the company.

''In our hedge fund, we are long BHP vs Fortescue and others,'' Mr Chanos said, according to an account of his presentation in Grant's Interest Rate Observer, the publication of the conference organisers.

''BHP is a much more stable company. They see the cycle more than others do, they've been through it more than others have and it's been an interesting hedge for those that play it that way.''

Mr Chanos exposed Enron as a fraud and famously bet against Macquarie in 2007, saying the bank's model could not last.

''Fortescue, however, is full steam ahead. In our opinion, they have a somewhat promotional management team.

''It's got about $2.8 billion in EBITDA (earnings before interest, tax, depreciation and amortisation) but it's got a capex (capitalexpenditure) program last year of $1.5 billion, and it's going up.

''Increasingly, with any kind of reversion to the mean of iron ore prices to $US100 per tonne or less, we're going to see a dramatically lower ability to service the debt and to service the capital programs they have. And a stock price materially lower than it is today.''

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Short-sellers typically make money betting a company's share price will fall. Data compiled by the corporate regulator shows 105 million shares or more than 3 per cent of Fortescue's issued capital is registered as a short position. The shares have fallen more than 5.5 per cent in the past week.

A copy of Mr Chanos's presentation, obtained by BusinessDay, shows the hedge fund boss argued Fortescue had the characteristics of a "value story" with its high profit margins, low costs and plans to nearly triple production by 2013. But he warned Fortescue was ''a highly leveraged bet on continued fixed asset investment growth in China''.

He argued 98 per cent of Fortescue's sales come from China and that the company's high level of debt, more than $6 billion, exposed it to iron ore price declines. ''The four major iron ore producers are all pursuing significant expansions at a time when Chinese demand growth is flattening,'' Mr Chanos said. This ''increases risk to Fortescue debt-financed expansion''.

Grant's Interest Observer said ''top prize for the conference's most astounding graph'' detailed the real price of iron ore, showing a surge well above historical trends.

Mr Chanos described the iron ore rush as ''fuel for China's bubble'', saying China's credit-driven fixed-asset economy was not sustainable'.

The Fortescue chief executive officer, Nev Power, rejected the assertion that iron ore would return to $100 a tonne. ''The world has moved on. We see tremendous support at $140,'' he said.

''I understand the shorters would love to see that happen where they can create an environment of panic selling. That's how they do their business. We're building long-term reliable, sustainable infrastructure, which will position us well.

''One of our key strategies has been to get expansion in early and take advantage of high iron ore prices and get cash flows coming in … to help pay down that debt rapidly.''

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