OREANDA-NEWS. Fitch Ratings says that Australia-based iron ore miner Fortescue Metals Group Limited's continued drive to cut its production costs and deleverage supports its 'BB+' Long-Term Issuer Default Rating.

Fortescue reduced its cash production costs (C1 costs) by 47% yoy to USD16.9/tonne in the first quarter of fiscal year ending 30 June 2016 (1QFY16), or by about USD2.4bn a year. This reflects not only the company's deliberate cost reduction programmes, but also the improved processing and upgrades of the ore.

The company expects its C1 costs, which include mining, processing, port and rail costs, to average USD15/tonne or less in FY16, assuming the AUD/USD exchange rate remains at 0.72. Fortescue's all-in breakeven cost per ton, which includes discounts for product grade and moisture content, as well as interest and sustaining capex, improved to less than USD39/tonne in 1QFY16. This provides Fortescue with some headroom against a further drop in the iron ore price. Iron ore prices based on 62% Fe-content insured and delivered to Tianjin port in China hovered near a multi-year low of USD46.07/tonne on 25 November 2015. Fitch expects the average iron ore price to remain at USD50/tonne in 2015 and 2016.

The main driver of Fortescue's lower costs is its improved product blend, stemming from the inclusion of iron ore from its new mines at Solomon starting in early 2014. These mines have lower strip-ratios, which make them cheaper to mine. Lower costs are also due to increased ore processing and beneficiation, which has allowed Fortescue to mine ore with higher impurities and lower iron content and still maintain the quality of its output. Better operating efficiencies, and to a lesser extent a weaker exchange rate, have also helped to trim costs.

We expect Fortescue's FFO-adjusted net leverage to remain around 3.0x at FYE16 - the threshold beyond which negative rating action may be considered, and to reduce thereafter. FFO adjusted net leverage stood at 2.9x at FYE15, and is better than we previously expected because the company achieved a higher average iron ore price for FY15 than we forecast. On 25 November 2015, Fortescue announced that it repurchased USD750m of its senior unsecured notes (that were trading at a discount) through a tender offer. This will reduce its debt maturities in 2019 and 2022 by USD311m and USD439m respectively. Fortescue also bought back bonds with face value of USD384m via on-market purchases in 1HFY16. Together, this will reduce its annual interest cost by USD88m.

The Negative Outlook on Fortescue's Long-Term IDR continues to reflect the medium-term uncertainty in the market price for iron ore, driven by ongoing demand-supply imbalances. For example, more than 145 million tonnes of new supply is set to come on stream in aggregate, in 2015 and 2016, which is more than 10% of the estimated seaborne iron ore market of around 1.3bn tonnes. In addition, the closure of high-cost iron ore mines has been slower than we previously anticipated, despite the sharp fall in iron ore prices since 2014. Global demand, led by China, has also been weaker than we previously anticipated, and is likely to remain muted through 2016.