Good morning, ladies and gentlemen. Welcome to Vale's conference call to discuss the Q1 2018 results. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session, and instructions will be given at that time. If you should require assistance during the call, please press the star 0. As a reminder, this conference is being recorded, and the recording will be available on the company's website at vale.com at the investors link. This conference call and the slide presentation are being transmitted via internet as well, also through the company's website. Before proceeding, let me mention that forward-looking statements are being made under the safe harbor of the Securities Litigation Reform Act of 1996. Actual performance could differ materially from that anticipated in any forward-looking comments as a result of macroeconomic conditions, market risks and other factors.
With us today are Mr. Fabio Schvartsman, President and CEO. Mr. Luciano Siani Pires, CFO. Mr. Peter Poppinga, Executive Director, Ferrous Minerals and Coal. Mr. Eduardo Bartolomeo, Executive Director, Base Metals. Mr. Luiz Eduardo Osorio, Executive Director, Sustainability, and Institutional Relations. Mr. Alexandre Pereira, Executive Director, Business Support. Mr. Juarez Saliba, Director of Strategy, Exploration, New Business, and Technology. Ms. Marina Quental, Director of People. First, Mr. Fabio Schvartsman will proceed to the presentation, and after that, we will open for questions and answers. It's now my pleasure to turn the call over to Mr. Fabio Schvartsman. Sir, you may now begin.
Good morning to everybody. It is a pleasure to have all of you connected in this call. I would start making a brief remark on the performance of Vale in the last quarter, and then I will pass to Luciano, and afterwards we are going to take your questions. First, I would like to mention that this quarter was a special one for the company. We had to work hard as a team in order to face the difficulties of this quarter. We had to face lower production in iron ore in comparison to last quarter. We had to face an unexpected shutdown of our Coleman Mine in Sudbury, Canada. We have to face a tremendous rainy season in all of the country in Brazil, with consequences for everything that we do. Consequently, we had to use our flexibility in order to overcome these difficulties.
As for example, we use the inventories that we built outside Brazil in order to be able to increase sales even with lower production. We are improving quality of our products and therefore, we are getting a very meaningful premium. This quarter, the premium was $5.2 per ton. That's obviously a very important premium in comparison to plans. On this quarter, we evolved meaningfully regarding deleveraging. We reduced our net debt below $15 billion. That was one of the targets that we had, and we are moving forward in the direction of getting to the $10 billion that we are aiming till the end of this year. We have announced a new dividend policy, which is very important for you to understand how this dividend policy works.
We already have, regarding first quarter of 2018, $1 billion of dividend that will be paid in the second half of the year. In other words, it means that, for instance, if we had the same kind of EBITDA and investments that we had in the first quarter, in the next quarters, we would have $1 billion every quarter of dividends, and therefore, regarding the year of 2018, it would represent a payment of $4 billion in dividends. $4 billion in dividends, in other words, represents a 5.5% yield regarding the stock price as of yesterday. Consequently, we think that the company is really moving forward to a very aggressive dividend policy. Let's remember that 5.5% is so important, that if you compare with where the interest levels are worldwide, you see that 5.5 is something that is not usual, not in this business, not in any business.
For conclusion, I would like to give you a quick idea of what's going to happen in next quarter. The markets remain sound. It's true that with the iron ore price went down just today. The iron ore price is more or less $8 below the price that we had in the first quarter. That means that we have to use all of our capacity in order to overcome that. Even in this situation, and now having the benefit that in base metals we are going to have, we already had the return of the Coleman Mine into operation in the end of April. Therefore, the impact will be much lower than it was in the first quarter. If you put all together, we are expecting to deliver more or less the same kind of EBITDA that we made in the first quarter of this year.
It seems that in this we are moving forward with the idea of keeping the company as predictable as possible and delivering a very constant results flow, even in a very negative scenario. It is important to compare that with the EBITDA that we had in the second quarter of last year. You are going to see that we are meaning a very important improvement if we can deliver this kind of results. This was my first comments, and now I will pass to Luciano, that he will give more details on the results of the first quarter.
Okay. Good morning, ladies and gentlemen. Just a few very specific remarks on the results, starting by costs. You saw the iron ore C1 cash cost at $14.80 per tonne. It was a small uptick compared to the fourth quarter. That's good news given that usually the uptick is greater given the lower production volumes. That encourages us that we will be running at below $14 per tonne on the second half. We affirming the guidance we gave you last quarter. On base metals costs, the Coleman stoppage impacted EBITDA in the first quarter by around $100 million. Important for you to note that. About half of this impact was costs themselves, repair costs, higher feed costs to keep our plants running. The other half was lost margin on the volumes that we missed.
On the expenses, first remark is that SG&A, R&D, and other operating expenses, they're back to first quarter of 2017 levels. This is very important because there was a trend upwards during the year of 2017. Now we're back into first quarter levels. Pre-operating and stoppage expenses are much lower. If you look at the first quarter of 2017, they were at $125 million. They are now down to $78 million. An annualized reduction of over $150 million. Why is that? That's because of the ramp-up of S11D, which reduces pre-operating expenses. That's because of the return of the three pelletizing plants, which reduce idle expenditures. We've been saying that the long-term trend for this line is towards zero, and this is going to happen. Another line below the operating line that is improving is interest payments.
You can see that gross interest payments in the first quarter of 2018 were $336 million. That compares to $452 million one year ago. Again, an annualized gain towards $500 million per year. That's a natural consequence of the reduction of indebtedness, and that does not capture the repurchase of debt that happened in the late March and early April. As time progresses, you should see more and more reductions in gross interest payments. Capital expenditures, they have been running below $900 million. The lowest for a first quarter since 2005. Not only that, the quality of the expenditure is improving. We're spending less in environmental compliance, for example, the emissions reduction program in Canada, and in tailings dams, for example, with the dry processing in the south. We're spending more in upgrading and optimizing our operations.
For example, we approved in the first quarter a very comprehensive automation and digital transformation program in iron ore. The money we're spending will generate more and more results into the future. On free cash flow, we may discuss this in more detail. There were some seasonal effects that brought down the cash flows when compared to EBITDA, but there was at least one one-off event, which is positive, which is the increase in prices of pellets. Volumes of pellets maintained somehow constant first quarter compared to fourth quarter, but the prices increased a lot, which means that the accounts receivable was impacted from a working capital perspective negatively. We recorded more EBITDA than cash collections, but the cash should be coming on the second quarter. These were the specific remarks for the quarter. Now let's move to Q&A.
Excuse me. Ladies and gentlemen, we will now begin the question and answer session. If you have a question, please press the star key followed by the one key on your touchtone phone now. If at any time you would like to remove yourself from the questioning queue, please press star two. Please restrict your questions to two at a time. Our first question comes from Alexander Hacking with Citi.
Hi. Good afternoon, everyone, and thank you for taking my question. I have two questions if it's okay. First, for Peter, can you give us a sense about how your iron ore production profile is going to play out for the rest of the year? Obviously, you maintain the 390 million guidance. I assume the production is going to be a bit more backloaded as usual. Could you clarify or quantify on that? Second question for Luciano, if it's okay. Is there any way you can quantify the working capital needs for the rest of the year? I guess if we assume that prices are flat. Thank you very much.
Hi, Alex. Thanks for the question. Yes, we are keeping our guidance of 390 million tons production. It is, as you said, backloaded as usual, and this time maybe even more because of the progressing ramp-up of S11D, but also because of the intense rains we were experiencing in the first quarter of this year. Higher rains than normal. What we are aiming at and managing is that the first half of 2018 will have roughly the same production of the first half of 2017, of last year, right? There is a balance between ramping up the S11D and also the reduction of some low grade from the southern system. In the third and fourth quarter this year, we will be distinctly over 100 million tons per quarter. That means ramping up the S11D will prevail and will be bigger.
The effect will be higher than the reduction of high silica in the southern system. I just want to take the opportunity. I think there was some misunderstandings about the ramp-up of S11D, which is going very well. We are at a pace today, at a pace of 45. We are forecasting to come to an average in the year between 50 and 55 million tons in the S11D. Thank you.
Alex, when I talk about seasonality, just reminding some on working capital, just reminding some effects typical of the first quarter. The first one is payment for our employees of the profit sharing. Usually you make the provision along the year, and you pay it in the first quarter. You can see that there's a line, which is payroll, which consumed working capital in the quarter. That has no implication for the following quarters. It will happen again in the first quarter of 2019. The second reason why you sometimes worsen your working capital position is when prices go up. As I mentioned, pellet prices went up. This had a negative impact in working capital. Accounts receivable increased. Absent variations in price, this shouldn't happen anymore.
A third factor is that usually spending also in the company accelerates towards the end of the year, which means that there are some bills to be paid in the first quarter. That also happens in the first quarter. Won't repeat itself in the second, third, and fourth quarter. There's only one aspect that we are evaluating, and also decreased a little bit of working capital position, which is accounts payable. We are shortening payment terms in exchange for discounts and better commercial terms. It's the opposite that we did during the crisis. Sometimes, in order to preserve cash, we accepted worse commercial conditions in order to extend payment terms. This will tend to happen over the next perhaps one or two years as contracts are being renewed, but shouldn't be meaningful in terms of impact on cash flows.
Thank you very much.
Our next question comes from Carlos de Alba with Morgan Stanley.
It's on mute.
Mr. de Alba, your line is opened. Our next question comes from Jonathan Brandt with HSBC.
Hi, good afternoon. A couple questions for me. First, I guess, on Vale, New Caledonia. We've seen cash costs coming down pretty significantly over the past couple of quarters. I'm wondering how much more there is to go and, I guess if there's any update on the tailings dam that you need to spend money on and/or a partner. Secondly, I'm wondering if with the completion of the Mosaic deal, if this sort of ends your asset sales. I know there's still some vessels to be sold, but I guess I'm thinking specifically on the Mozambique coal, if that's something that you're interested in keeping or if you are having negotiations to possibly sell that asset. Thank you.
A quick answer regarding VNC. VNC, we are operating at a level of 40,000 tons per year. This is below capacity. The capacity is 55,000. We have an upside of capacity utilization that can go up to 25%. Therefore, you can expect costs to go down. Fixed costs will be diluted because of this future increase in production. This is what my colleague, Eduardo Bartolomeo, is focused on doing in the next few quarters, in stabilizing and improving the production of the operation. Regarding Mozambique. Sorry? Sorry, I had missed your comment on Mosaic. The Mosaic is done, finalized. Now we have a lock-up of three years, so nothing will happen during this period of time regarding our relationship with Mosaic. Certainly there are no further meaningful assets that can be sold by Vale in the next several quarters.
You can say that the divestment program is all but finalized. Regarding Mozambique, the goal of this group of directors of the company is to realize the potential of that operation. That means that now we have a strong basis of operation there that can and will be improved during the next few years. We are certainly not going to make any decisions regarding Mozambique because we have the opportunity of creating a lot of value by just using the potential that we have, given the quality and the size of the investment that was made.
Great. Thank you, Fabio. If I could just follow up on the VNC. My understanding is there needs to be a tailings dam built in order to keep that asset running, and you are also looking for a partner in that asset. Is there any update on either of those two issues?
The process of looking for an investor continues. We have a goal of having a decision on this by the end of the year, either having an investor or not. Regarding the tail dam, I think that we have good news because this delay that we had in this process give us the opportunity to look more deeply into how to build it. Now, the good news, instead of a dam of $500 million, that was the idea a while ago. Today, we are considering an investment that will be lower than $400 million in this dam. We are using the time in our benefit in order to optimize the project. If we decide to move forward, the total expense will be significantly lower than we were expecting before.
Great. Thank you very much.
Our next question comes from Carlos De Alba with Morgan Stanley.
Yes, good afternoon. Sorry about that. My line dropped for the second time this morning. I wanted to explore the situation in Samarco. Fabio, could you give us an update as to maybe to the extent you can, as to how the conversations with the prosecutors in particular are going? Are they considering a more reasonable level of potential payments for the companies, given that the example that they had used before was a little bit extreme? How do you see the evolution of getting the licenses and getting the production up and running?
The second question, if I may, is related to could you comment on the different commercial strategies that Vale is putting in place or will put in place in the future to be able to capture a higher premium for the nickel products that are more related to higher quality material and premium sectors?
Sure. Thank you for your questions, Carlos. First, regarding Samarco. Samarco, the conversations with the prosecutors are ongoing right now. Actually, we are having conversations today with them. We certainly are in a constructive mood, and we hope that they are too. Unfortunately, it's impossible to disclose the terms of this conversation because we are in the middle of them. As soon as we have a decision or a clarification, we certainly are going to transmit it to the market. Regarding the restart of Samarco, there are no further news here. The best scenario is to expect Samarco to restart by the beginning of 2019 today. We are giving all the information. We are fulfilling all the necessities that are raised regarding the licenses, but we don't control the timing issue here.
We depend on licenses and authorization, and given the huge accident that we have there, people are very cautious on providing this license. BHP and ourselves, we are doing everything that we can in order to make it happen as soon as possible. Luciano will make a comment on this point.
Carlos, without disclosing the details, it's not that we're negotiating a number with the prosecutors. We have the agreement with the federal government for R$11 billion. The initial claim of the prosecutors was R$155 billion. Maybe you were thinking that we were trying to negotiate a number in between. That's absolutely not the case. What is being negotiated, from a principle standpoint, is a process to manage the remediation program going forward. What is going to be the governance, how the communities are going to be involved, and so on. From this point of view, this is positive because it will be whatever will be. It's not a preset number that will be negotiated.
Regarding the commercial strategy for nickel, let me just give you a broad idea what we're looking for. Then Eduardo will complement that. Look, we have a very simple model. We do have more Class I sold to the wrong market. We are selling Class I nickel to steel, part of our production to the steel makers. That's an impossible deal. The cost is just too high. The quality is too much for the need. That's the wrong thing to do. We are facing this in a very clear way by reducing our production. We are preventing ourselves from producing something that will destroy value when it's sold to the steel makers. This is our very simple strategy in this case.
That means that we keep the optionality, we keep the capacity, and we can use it, if and when the market reacts regarding the EV market. The EV market will be perfectly compatible with this excess nickel capacity that we have. This is basically what we are doing.
Again. Carlos, just to add on what Fabio mentioned, just put some clarity that if you look at our numbers and you do a proxy of the size of the Class I market that we serve, last quarter, we put 12,000 tons more. This quarter, 5,000. Our focus basically on the short term, again, going to the point that we have an opportunity and an optionality in the future, is to regulate supply-demand, not to overflow or sell high-quality product what it doesn't need. It doesn't mean that we won't sell Class II, because of course, we're selling Class II. That's another optionality that if you read our primer, we are able to transform New Caledonia and PTVI in operations that can serve Class I. It's a double, I would say double sword, but a double way.
We're going to, in the short term, commercially explore the supply-demand and balance production to leave production, by the way, because it's extremely expensive to dig underground this high-quality material and to operate New Caledonia to serve market when it's there. I think it's a well-structured way to wait, but generate cash on a very reasonable way. If you look our margins comparison to first quarter, it's doubled. I think it's working. The price is coming back as well as the market is facing that. I think as a leader in the market, we have the responsibility to do that.
Just to finalize, with these movements, we've been able to produce cash positive operations in all of our sites. That make our lives sustainable while we wait for the success of the EV demand. As Eduardo just explained, we are preparing ourselves for this surge in the market. That will put Vale in the front end of the suppliers for the EV market.
Thank you very much.
Our next question comes from Andreas Bokkenheuser with UBS.
Thank you very much. Just one question from me on freight. We've obviously seen a lot of freight volatility in the last few quarters. We saw freight rates hitting $21 a ton in Q4, I think, down to $13 in Q1. Now we're back to $18 a ton from Brazil to China. Obviously, your Valemax construction cycle has kind of come to an end, and you're waiting for delivery on the last vessels. Is there anything you can do from here to kind of mitigate or hedge your freight exposure? Do you just want to expose your Vale to whatever fuel pass-through there is in the Valemaxes? How are you thinking about that volatility? Thank you.
Thanks for the question. You are right. There is lots of freight volatility. Maybe you have seen also that our freight cost came down from one quarter to the other. We are managing it more actively. In the past, it was not the case. We had the freight department still detached from our business, and now we are more integrated in the supply chain. What we are doing is exactly against this volatility. It's a long-term strategy, which started some years ago. The vessels have not yet arrived. You have the first generation Valemax, they are all there, 35 vessels. Now, the second generation is arriving. More efficient energy-wise, and less emissions than the first generation, but it's just the second or third vessel arriving now. It'll take another year for all to be delivered.
Yes, we are thinking and we are discussing some more vessels as a third generation. It's not decided yet, and it's in the studies. If you compare those generations, one after the other, they are dropping progressively in to take a bunker of 300. It's coming down from $13, $12, $11 a ton. This is a net advantage vis-à-vis the recent spot markets and will reduce exactly the freight volatility you're referring to. It will take some time because those ships are not delivered yet. Thank you.
I just want to complement on Peter's remarks regarding this new generation of vessels. We are studying, as Peter mentioned, and I expect that in the next quarter, we will have a better scenario in order that we eventually will be able to announce a new generation of ships coming in.
That's very clear. Thank you very much.
The next question comes from Novid Rassouli with Cowen and Company.
Hi, this is Han doubling in for Novit. Thank you for taking my questions. I just have a couple. First, could you please discuss if the commodity price movements were taken into consideration of your new dividend policy and the net debt target in the near term? Also, iron ore prices have come down from the March high. I was just wondering if you could give us a sense of your view on commodity price outlook and if it would affect the new dividend policy in any way. Secondly, on pellets, I think you guys talked about the 2018 average of $60 per ton, which is very sizable. We're just wondering, how sustainable do you think the premium will be in 2019? What would happen next in order for us to see the pellet premium improving next year? Thank you.
Thanks for your question. It give us the opportunity of making a very important clarification on how this dividend policy was structured. It was structured to work in any price scenario. That means that this policy is here to stay. It is a minimal policy. It means that we can go further than that, but we cannot go below that. It means that, as I mentioned in my opening remarks, we already have $1 billion that is guaranteed for the next quarter. If conditions continue more or less the same, we are going to accumulate $1 billion every quarter until the end of this year, at least.
You mentioned about the iron ore price dynamics. I can only say we haven't changed our mind from the last call. It means we think it's a balanced market from a supply and demand perspective. Why it's balanced? Because we see around the 40 million coming in from the seaborne, out of which 20 million is from Vale, 10 from Australia, and 10 from others. There are some people exiting. We think there is a symbolic 20 million ton surplus, which easily gets absorbed by the higher steel demand worldwide. For me, this is balanced. Steel margin influencing that as well. We have sustained synchronized growth in the world economy, and we have the supply side reform in China. We don't see the steel margins collapsing.
The cost curve, which is the other dimension of this analysis, as we have said before, several times, the cost curve is getting steeper. Why is it getting steeper? Because of deflation. The inflation is returning to some of our competitors, not in Brazil actually, because industrial inflation in Brazil because of the low inflation is quite low and because we have no depletion. Why is the cost curve also getting steeper? Because of low-grade penalties which are very substantial. If the cost curve gets steeper, price gets the higher support. I don't see any reason why we should have prices on average of the year lower than last year, which means something around $70. That's the rough analysis, right? On the pellets we have a $60 premium average for the whole year.
Some of our customers have annual contracts and others they have to negotiate now, and we are negotiating already. We see the pellet market very strong. We are completely sold out. We are doing whatever we can to anticipate our new pellet plant in Tubarão in the northern system, in São Luís, to anticipate the ramp up. In those countries which count for the pellet demand is, for instance, Europe. The pig iron production went up by 2%. In the Middle East and other countries producing DRI, it was a 16% growth year-on-year. The demand is very strong and the supply is lagging behind also because of some suppliers which are out of the market and others which are on strike and so on. It's a very tense situation. For the annual contracts, it's far away to start negotiation.
For the second half of this year contract, there is probably going to be a very stressful and intense negotiation for this pellet supply.
Again, just a quick complement. There is a very interesting phenomenon that I think is important to look into it, that now that the market has been segmented among different qualities of ore, with a meaningful premium for Carajás, for instance, and with a meaningful discount for the lower quality. The consequence is that prices are actually less volatile in the iron ore as they were in the past. If you look for a longer period of time, you are going to see that now the variation is typically contained between $60 and $80 for the flats. Why? Because this segmentation is absorbing part of the volatility.
Got it. Thank you, guys.
The next question comes from Grant Sporre with Macquarie.
Good afternoon, gentlemen. I have two questions, if I may. The first one is really on the nickel market, and your outlook. I guess my question is, what do you need to see in the nickel market for you to start investing in the business again? For example, going underground at Voisey's Bay. That's my first question. The second one is perhaps one for Luciano, can you give us a sense of, in your copper business, in your nickel business, what percentage of your costs are fixed costs, and what are variable costs, please?
Regarding nickel, and specifically regarding Voisey's Bay. Voisey's Bay is a very important investment decision for Vale. It will be taken if we can have a scenario where this investment will become profitable in no matter what nickel price levels. That's what we are working in. The good news here, that we are highly confident that we are getting to this equation. If we get there, the investment will be made because as I'm saying, it will be basically independent of the nickel price.
As regards to cost breakdown, typically in Brazil, and that works for the copper mines in the north as well, proportion is two-thirds fixed costs, a third variable costs. In fixed costs, you have labor, you have some services, maintenance, and there it goes. However, for nickel, the tendency is to have more fixed costs, like 75, 25 would be more of the proportion. That's because, for example, in Canada, the wages are higher. In surface plants, typically as well, the cost of material inputs and reagents, it's more marginal in relation to the fixed cost. An interesting example, if you take New Caledonia, the total cost base of New Caledonia currently is about $520 million per annum. That doesn't increase much if you increase production, let's say, from $40,000 to $55,000 per ton.
Curiously, if you take cobalt, once New Caledonia reaches full ramp-up, it will be producing approximately 4,000 tons of cobalt per year. At a price of $90,000 per ton, you get $360 million of annual revenues in cobalt. You see that cobalt alone will be able to pay for a significant portion of the fixed costs in New Caledonia once it's fully ramped up.
I wanted to clarify that what I said before regarding Voisey's Bay, is the same thing. The cobalt content that we expect to have in Voisey's Bay will make the magic of guaranteeing the feasibility of the investment.
Thanks very much. I appreciate your answers.
The next question comes from Alfonso Salazar with Scotiabank.
Thank you. Again, I have two questions. The first one is regarding free cash flow generation and the minimum dividend. If we assume that the price of iron ore is going to stay at least similar to last year, I think Vale will be generating a lot of free cash flow above the minimum dividend. What is the plan once you reach the $10 billion net debt level? What is the plan if you don't have any massive or important investment opportunities? Are you going to be piling up cash or you prefer to be paying dividends? What's going to be the final decision regarding the size of the dividend? Another question regarding this iron ore price. Do you see any challenges in the long term regarding iron ore demand? There are many moving parts today. You see India is planning to increase steel capacity substantially.
On the other hand, you see China promoting more electric furnaces. I don't know if you can give us a long-term view on what do you expect for iron ore demand beyond this year. Thank you.
Thank you for your questions. I will start with the answer regarding the free cash flow and dividends. For the time being, any excess cash flow will be paid out as further dividends for the shareholders. As you did mention, we don't have any massive investment in front of us, so there is no reason for holding this cash back. We are trying to deliver a very clear message to the market here, where we want to build trust in the management of the company, in such a way that we are going to be able to use the market if and when we find investments that are worth doing it. Now I'm going to pass to Peter Poppinga to mention a little bit about the market of iron ore as he is our specialist in the area.
Right. Thanks for the question. The iron ore price in the long term, of course, depends on lots of issues, supply and demand. You mentioned the scrap price, the increase of scrap usage potentially in China, right? I think this is correct. This is one element which has to be considered. We have to also look at what's realistic. Today, the scrap price in China is higher than the pig iron price, right? Because it's not only about scrap, it's a good scrap for steel making. After the shutdown of the induction furnaces, we had lots of scrap available, but the distribution channels are not ready, and the good scrap is not available. Yes, I think they will build some new capacity on electrical arc furnaces. First of all, this will have a balance because energy is very expensive in China, right?
Energy is based, as you may know, in China, mostly on thermal coal, which goes against the pollution and the supply side reform of the government. It's not so easy to justify electrical arc furnaces when you look to the energy. I think there will be a long-term evolution. There will be some iron ore being substituted by scrap, but I don't believe in that in the next 5-10 years. That you will not feel it substantially hurting anybody in the next 5-10 years. On the domestic mines in China, they will come down further. That is very important.
We have a break-even today of roughly BRL 55, probably BRL 55 on the average. You may go to $60 when you look to the 4th tier producers getting complicated the situation, and less and less investment in the mines means that you will see, even in the SOEs, a reduction and production of concentrates in China. Again, if you go seaborne, there are some marginal suppliers. If you look at the situation today where you have this 30% discounts when it comes to penalties, you will need at least a $65 price for the break-even.
There is probably 100 to 150 million tons out of the market if the price falls lower than $65 because of the, you multiply it by 0.7, which is the penalties, and then you come to production cost of break-even cost at $40, $45, which lots of people will be having trouble with. That's why I see scrap not in the near term, concentrates in China coming down further, even in the SOEs and the seaborne, there's also this, it's not only cash costs, you must consider the huge penalties with marginal suppliers under $65, some of them will struggle very much. That is my view. Thank you.
Excellent. Thank you. Very helpful.
The next question comes from João Lorenzi with Bank of America Merrill Lynch.
Good afternoon, everyone, thank you for the questions. My first question is regarding the strategy on nickel as a follow-up question mainly made from Carlos previously. What would make Vale change its things regarding nickel production and increase it again closer to the total capacity? Should you look at premiums for Class I nickel, meaning that you would continue to save premium assets for higher demand of EVs, even if you see rebounding prices or should look only at absolute prices? How fast and costly would it be to increase the production closer to the 300,000 tons capacity? My second question is on iron ore. We can see that the current pricing increase this quarter likely as of a result of the sale of the unsold volumes from the fourth Q.
My question is there any strategy on iron ore pricing regarding the share of current and provisional pricing going on?
Okay. I will start with the comment on nickel. Look, the scenario that we are looking for in the nickel business is similar to the one that we were able to build in the iron ore business. The segmentation is the right answer in order to each market pay the right price for different products. This will allow the nickel market to grow and Vale to produce more because it is very important that the steel makers, they need lower cost and lower price in nickel, and this has to be the fact. This has to continue like that. On the other hand, the Class I is not for this purpose. The cost of using and having Class I is much higher. It is very important to separate one thing to the other.
That will enable companies in general, being them companies like Vale that have high-quality nickel or companies that are producing nickel pig iron to have the right pricing for their products.
João, just to add on Fab's comments, I think we're going to follow up closely, as we said before as well, to supply and demand in a sense, not to overflow Class II with Class I. Any reserve are reserves that are very expensive to the future. We have no rush. We need to balance that. I think it's sensible, it's reasonable, it makes sense. We capture, our numbers are proving in this quarter, we believe this is the right track, but again, it's a supply/demand issue that will come with time. We have to have patience and look a lot internally to our cost base, our cost structure, even our switching from batteries, because we can switch our production to batteries. It's a long-term game with a short-term pain. Let's put it this way.
João, all of the sales, especially to China, they are provisional. The final price is only known when the ship arrives at port. The difference between current and provisional is just because the current sales, they were completed within the quarter. The provisional ones were still open at the end of the quarter.
Usually, the fourth quarter is a very strong one where Vale used to empty the pipeline. Because of demand preceding the winter in China, strong production and so on. This year was different. Part of the sales, they moved into the first quarter. These sales that moved into the first quarter, they were settled within the quarter. That's the reason why the current portion went up. There's no whatsoever a deliberate strategy towards one or the other.
Stabilized it.
Yes. We had a more stable homogeneous profile time-wise of sales within the quarter than in past quarters. That's the reason why currents went up, provisional went down as a %.
Okay. Thank you very much.
The next question comes from John Tomasi with John Tomasi Very Independent Research.
Thank you very much for the dividend policy. I'm a shareholder. With regard to the 30% payout of EBITDA minus sustaining capital, should we interpret from this policy that Vale will never build a project again as large as S11D or Goro in New Caledonia? If Vale were to undertake a large project, would there be external financing, debt, equity, joint venture partners? If you had a large project, how would you undertake it given the dividend policy?
I have my specialist here, Mr. Luciano Siani, our CFO, delivering your question.
John, if you had delivered a dividend policy which said that you would distribute a portion of cash flows after growth investments, then we would be telling investors that, "Look, investments take precedence amongst everything." The idea was precisely the opposite, to establish a competition and give preference to dividends towards investment. In other words, the excess cash beyond the minimum dividend, there will be a competition amongst all the alternatives for them. If we had done it differently, we would be signaling that the dividend policy would be just something left over after management did with the cash whatever it pleased with it, which is absolutely not the case. We're giving priority to dividends. For the minimum dividend, whatever is left over, everything will have to compete for that.
Yeah. Finally, if I may, we are not in the business of distributing dividends or making big projects. We are in the business of creating value to the shareholders. Every moment in time, what is better for creating value to the shareholders is different. Now, we are convinced that given the recent investment that we have done, given the opportunity that we have in improving all of our operations, that we want to have a strict focus in delivering debt, therefore, there is no reason for keeping money back in the company. We have no decisions regarding projects as we have no decisions regarding dividends. What we are saying that today, and for the time being, it certainly will create more value for the shareholders to pay bigger dividends. That's what we are going to do.
Thank you.
The next question comes from Marcos Assumpção with Itaú BBA.
Hi, good morning, everyone. A question for Eduardo Bartolomeo. Still on the nickel strategy. I'd like to understand a bit more on how Vale's contract work on the nickel side and if so to understand how quickly can you stop supplying this Class II nickel, Class II market with the premium material that you have. Eventually, what will be the impact of you reducing your production by eventually another 20%-30% in terms on your cost or on labor issues? Is there any restriction to do that? Thank you.
Okay. Thanks, Marcos Assumpção. On the contract base, we thought we'd analyze our discussions with our suppliers, we have some contracts as well, we are able to capture, yes. I think I need a clarification here because we supply for the Class II for sure from PTVI and from New Caledonia and from Onça Puma. We'll keep this production, and if we reduce a little bit as well, if you see the premium for Class II, we captured already on the first quarter as well. It's double from the last quarter. Class I is the idea is to balance, as I said before, on the size of the market we can supply to, mainly plating and high alloys. For those contracts, we fixed our price and premium. There are some producer pricing that we do as well.
It's a myriad of strategies to capture that. It's been proven, again, as I said before, successfully because we did for Class I double of last year in absolute terms, and even in the $ term as well. I think we are able to capture that. Your second point, could you repeat, please?
If by any chance you stop supplying the steel market, for example, with your Class I material-
-would there be any restrictions on, or what would be the implications of reducing production on nickel even further, like another 20%, 30%? Yeah.
No, we don't need that. I think that's the point. I think I answered the first time. We don't need to do that because actually our production is going to be switched to Class II. For Class I, it's going to be New Caledonian and PTVI. It's a long-term thing. As we said before, the pain is for now, and the gain is for the future. We are still selling that there, and it's profitable as well, as we said before, but we won't have any 20% reduction. I don't think we need to do that. As I said, we just did 5,000 tons of nickel this quarter to Class I. Then, for Class II, sorry. That's normal. That's acceptable. It's a reasonable size. We could reduce 5,000, but that's nothing in a sense. I would do that, by the way.
We are managing supply demand. That's, I think, the most important takeaway from our strategy. We are very cautious on supplying the right segments. We are segmented segments and doing the right approach, and of course, as I mentioned before as well, reserving to the future because the price is wrong. Our price today doesn't pay to produce 99.9% nickel, so we cannot just give this away, and when the future comes, we don't have our reserves anymore. It's a strategy to follow up the market supply demand and capture the premiums.
Okay. Just a follow-up here as well on the potential agreement between Vale and Glencore in Canada. Do you see any opportunities there, anything in the short term that we could expect?
Marcos, we're still discussing with them. I think it's an opportunity of win-win for both parties. We believe that we can come to an agreement, still we're discussing with them. We have a good partnership, by the way, with them, operationally speaking, it's just a matter of finding a solution. We're advocating for a very simple one, I think we'll be successful. Still under negotiation.
All right. Perfect. Thank you very much.
The next question comes from Thiago Lofiego with Bradesco BBI.
Thank you. Gentlemen, I have one follow-up question back to the coal asset. Do you guys have any break-even targets you're willing to reach this year, in the coming years considering the ramp up of the operations in Mozambique? Would you consider divesting from coal eventually, especially considering M&A activity seems to be picking up in that space? I know you're now in ramp-up phase, but eventually, let's say three years from now or two years from now, would you consider divesting?
Thiago, I will start answering, Peter will give a more precise information on this. Regarding strategy, our view of Mozambique is that we have in place a very big infrastructure. We put an investment there that is ready to leverage other sides of operation there. It would be a mistake, in our opinion, to consider selling this operation without realizing its full potential, because the value will be in realizing this potential, and this will take time, several years. It means that there is no chance of analyzing, discussing, selling this business during the next few years.
Thiago, look, we are ramping up in Mozambique. It's not an easy operation, but we are making lots of progress. We are aiming to get to 20 million tons in the next two or three years, right? To do so, we must do some mine plan optimization. We have to increase the productivity of the mine equipment. We have to have an intermediate stockpile between the mine and the plant, which doesn't exist. We need to interconnect the two beneficiation plants. Lots of actions which they do not cost a lot of money, but we have to do that in order to improve and also get a better training to our workforce. All this is in place now. In some years, 20 million tons a year.
If you were to break even or something, the long-term OpEx should be around $60 with the real OpEx mine railway and the port. You have the Nacala tariff. On a net basis, you should add another $20 or something on a net basis, that would be the
The breakeven, so to say. We are confident that we, in the next couple of years, will get to the 20 million tons, consolidate the business, and then we go from there. Thank you.
Okay. Thank you, Peter.
This concludes today's question and answer session. Mr. Fabio Schvartsman, at this time, you may proceed with your closing statement, sir.
Well, I would start, say that we think that we made the right movement by putting our people in iron ore in charge of our coal business in Mozambique, given the expertise, the specialty that they have in this kind of operation. It is proven very helpful, and I'm pretty sure during the next few quarters, the results will start to show up. Well, to finalize, I would like to say that Vale is building its future. Our future now is clearly linked to the quality of our product. Quality demands investment. Therefore, we are restarting, reinaugurating, with meaningful effort, three new pelletizers in Brazil, two in Vitória and one in São Luís this year. We are ramping up S11D. That will represent more capacity available of high-quality iron ore. We are increasing a lot our blending outside Brazil.
What means that we are able to deliver a very standard level of quality to our customers, therefore focusing exactly in the demand and the needs that they have. Quality, it not comes as an accident. Quality comes as a continuous effort that the company is making. In base metals, we are in the process of restructuring the business. I think that we are doing the right thing, that we are generating cash. Consequently, we have the time to do the right thing, and we are doing a complete turnaround in all of our operations, and results will start to show. Obviously, there is this optionality of EV that is not there yet, but eventually it will become a major source of results for Vale in the future. Finally, paying dividends and reducing at the same time the leverage is not a small thing.
This will be delivered this year as well. We are pleased to say that we have, unfortunately, no big surprises to the market, and I hope that we can continue for a long period of time without surprises. Thank you very much, and let's be together in next quarter, hopefully without any surprises. Thank you.
That does conclude Vale's audio conference for today. Thank you very much for your participation.