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Why Is Rio Tinto Opting for a Debt Buyback?

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Debt buyback

On June 7, 2016, Rio Tinto (RIO) announced a new cash tender offer to repurchase debt notes worth up to $3 billion due in 2018, 2020, 2021, and 2022. This is the company’s second debt buyback offer in about two months. In April, Rio Tinto bought back ~$1.5 billion of notes due in 2017 and 2018. The company announced its successful completion on May 5, 2016. The company said the buyback is part of its ongoing capital management initiatives.

Rio Tinto is using excess cash to reduce its high gross debt levels. Its high debt in the volatile commodity price environment was the major reason credit rating agency Moody’s downgraded its credit rating from A3 to Baa1 in February.

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Caution regarding iron ore prices

The rebound in commodity prices (COMT), especially iron ore prices, has given miners enough liquidity to repair their balance sheets by buying back debt. While prices have remained firm in 2016, not many miners think that they could stay at this level. Sam Walsh, Rio Tinto’s CEO, stated in April 2016 that iron ore prices could fall in the second half of 2016 as a result of an imbalance between supply and demand. Bloomberg quoted Walsh as saying, “I’ve said all along that we expect the iron ore prices will be volatile. That’s what we’re seeing.”

BHP Billiton’s (BHP) CEO also shared his pessimism over the longevity of the iron ore price rally. He said, “We are relatively bearish about the iron ore price, probably more bearish about the iron ore price than the price of any other commodity that is currently part of the BHP Billiton portfolio.”

Peers’ actions

This move by Rio Tinto is not something unique to the company. Its peers are also taking advantage of buoyant commodity prices to reduce their debt and prune their balance sheets.

Anglo American (AAUKY) spent $1.7 billion to repurchase its debt earlier this year, and ArcelorMittal (MT) has also bought back its bonds in 2016. Further, Fortescue Metals Group (FSUGY) and South32 (SOUHY) have also been paying down debt in recent months.

Cliffs Natural Resources (CLF) has reduced its debt by buying back its bonds, which were trading at a steep discount to face value.

In the next article in this series, we’ll look at Rio Tinto’s financial leverage.

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