Iron ore investors in general were given a reason to smile on Thursday after the commodity experienced its strongest single-day rise in more than two years, but shareholders of Fortescue Metals Group Limited (ASX: FMG) were given another reason to be ecstatic.
The miner announced that it had successfully raised US$2.3 billion from a bond issue. While it had initially only planned to raise US$1.5 billion, the issue was heavily oversubscribed, allowing it to use the debt to pay off its 2017 and 2018 Senior Unsecured Notes and to strengthen its balance sheet.
Source: Fortescue Metals Group
The shares skyrocketed nearly 10% for the day as a result, with investors clearly happy that Fortescue had managed to buy itself some time. However, the bond issue has certainly come at a price.
In March, Fortescue was forced to scrap a similar sized bond offering because the interest rate being demanded by investors (believed to be around 9%) was higher than what Fortescue was willing to offer. Now, Fortescue will stomach an interest rate of 9.75% on its seven-year bonds which have a non-call period of three years.
Fortescue's latest annual report shows that its previous bond issues were offering a coupon rate of between 6% and 8.25%. This reflects how much more difficult it has become for Fortescue to attain funding with iron ore prices having more than halved since January 2014, while it also shows how much less confidence investors have in the miner's future prospects.
To extend on that point, Fortescue maintains far higher operating costs than its larger rivals BHP Billiton Limited (ASX: BHP) and Rio Tinto Limited (ASX: RIO), while it also doesn't share the luxury or benefits of diversification. A 9.75% interest rate offering will lead to a rise in interest costs at a time where margins are likely already wafer thin.
Although the iron ore price has recovered by roughly 17% since hitting a decade-low earlier this month, prices are still expected to fall in the coming months (and to remain low over the coming years), which could put Fortescue in an even worse position than it is today. Rather than buying into Fortescue now, shareholders may actually want to consider using yesterday's share price rally to trim their exposure, while others may choose to sell-out altogether.
