力拓 (RIO) 2017 Q2 法說會逐字稿

Good morning all.

Thanks for joining us.

I mean, really good to see so many familiar faces.

Rio is doing really well.

Today, we are returning $3 billion to our shareholders.

We continue our drive for superior performance.

Last year, we set out a clear approach to deliver value for all shareholders over the short, the medium and long term.

I know that many of you have seen this slide before, but let me restate the key points of our value proposition.

It's about the long-term strategy built on world-class assets.

It's about maximizing cash through value over volume approach.

It's about developing the high-performance culture across the group.

It's about allocating capital discipline.

That is what drives our business day-in and day-out.

Let me start with safety.

Safety comes first at Rio Tinto.

Our ambition is very clear.

All of our employees and contractors must return home safely at the end of each and every day.

In the first 6 months, all safety performance has improved.

Our Critical Risk Management program is gaining momentum, but we cannot and we will not become complacent.

A safe operation is a well-run operation.

Now let me turn to the financials.

We generated cash flow of $6.3 billion in the first half, which we used to meet our sustaining capital requirement, invest in growth, further strengthen the balance sheet and make shareholder returns of $2.5 billion during the first half.

We have delivered on our promises.

Today, we announced further returns of $3 billion, $2 billion of dividend and $1 billion of buyback.

We generated an EBITDA of $9 billion and margin of 45%, benefiting from higher prices compared to 33% in the same period last year.

We have delivered our $2 billion cash cost-saving program 6 months early and momentum is building on our productivity drive.

We already had the strongest balance sheet in the sector.

At the end of June, our net debt was $7.6 billion.

We continue to strengthen our portfolio of assets.

As you know, we announced the sale of our thermal coal business in Australia for $2.7 billion, which is expected to complete this quarter.

Last, but not least, all our growth projects: Oyu Tolgoi, Mongolia; Amrun and Silvergrass in Australia are on track.

This is the strong set of results.

But let me be clear, we can do much more, and we have no intention of slowing down.

Chris will now take you through the numbers.

Chris?

Okay.

Thanks, J-S.

Let's have a look at the numbers in a bit more detail.

Let's start with commodity prices.

Chinese economic growth has been resilient during 2017, and global conditions have also improved, which has seen higher pricing in most of our products.

We realized the strong first half iron ore price of $67.80 a tonne, 40% higher than the same period last year, reflecting the world-class product portfolio.

Copper prices increased 23% compared to the first half of last year reflecting strong demand from China and there were some supply disruptions during the period.

However, this was partially offset by continuous supply additions from Peru and increased scrap volumes.

Aluminum prices improved compared to the first half of 2016 with an increase of 22%, reflecting strong demand.

We believe this also had been driven by news flow around China supply side reforms that they have announced earlier in the year.

Yet to take effect because they're winter, actually, wintertime measures.

The coking coal price spiked as a result for weather disruptions in Australia, and has now dropped back to prices seen in the first quarter.

This chart shows the striking recovery in prices from the first half of last year.

As you can see, inflation, energy cost and rates have remained relatively stable.

Volumes were generally lower compared to the first half of 2016.

In the Pilbara, shipments were impacted by wet weather in the first quarter and accelerated rail upgrade in the second.

Hard coking coal also has suffered from adverse weather in the first half following Cyclone Debbie in late March, which impacted both rail and pit access at Hail Creek.

These lower volumes were partially offset by record production in bauxite and increased production of TiO2.

The 48.9 million tonnes of third-party sales of bauxite were a first half record.

On costs, we also had delivered a further $300 million of cash cost savings or $0.5 billion pretax.

So strong recovery on price and continued action on costs combined with relatively benign conditions elsewhere has led to underlying earnings of $3.9 billion, an increase of 152% on last year.

The underlying earnings of $3.9 billion includes some items that are worth identifying.

$144 million of deferred tax assets at Grasberg have been written off.

And this increases our effective tax rate to 31% for the first half, with a likely rate of around 30% for the full year.

Restructuring costs of around $300 million -- or sorry, around $30 million have previously been traded below the line.

This year, they have taken above line and clearly, within the underlying earnings.

Additional costs relating to take-or-pay port and rail contracts at Abbott Point have also impacted underlying earnings by $25 million.

In addition, we have included in earnings a $176 million charge for the strike at Escondida, partly offsetting this within the Copper division, is $100 million insurance claim at Kennecott, arising from business interruption from Manefay slide.

As you can see here, a further $45 million of the claim relating to assets damaged in the slide has been credited below the line.

During the year, we booked a $166 million of impairments, largely the Roughrider uranium project in Canada.

Noncash exchange losses on U.S. dollar-denominated debt in our non-U.

S. dollar companies have negatively impacted earnings by $502 million.

Importantly, these are mostly offset by currency translation gains book-to-equity, therefore, there's minimal impact in real terms on net debt.

So overall, we've delivered net earnings of $3.3 billion.

In February 2016, we set a $2 billion cash cost-reduction target for 2016 and 2017 combined.

As I mentioned, we've achieved $500 million in the first half, which together with last year's $1.6 billion, means we've now achieved our targets some 6 months ahead of schedule.

This takes our total reductions against the 2012 cost base to $8.2 billion.

This excludes the impact of exchange rates, inflation and changes in oil price and energy costs on the way through that.

This is an ongoing journey, and we don't intend to stop.

As you know, we're now broadening our approach to raise the efficiency of the business through our productivity program, which aims to release $5 billion of cumulative free cash flow over the next 5 years.

We continue to refine our portfolio to ensure we make the most efficient use of our capital.

In June, the shareholders approved the disposal of our Australian thermal coal business to Yancoal for consideration of $2.7 billion.

This is a much improved offer compared to the one made in January, including $500 million more cash on completion.

The transaction is expected to close this quarter.

Including Coal & Allied, we've now announced divestments of almost $8 billion in the last 4 years, but we still retain flexibility in that portfolio.

Some of our assets are smaller, but they're valuable and highly cash-generative.

We'll continue to exit in the assets or projects that don't fit our requirements and where we can realize attractive value for shareholders.

Capital spend for the first half of the year was $1.8 billion, of which $700 million related to sustaining our current operations and $1.1 billion for our compelling growth options.

Autohaul's progressing well with around 20% of all train kilometers now completed in autonomous mode.

And we're on track to have this fully operational by the end of next year.

Separately to AutoHaul, we've brought forward upgrades to the Pilbara railway network.

This had another (inaudible) impact on iron ore shipments in the second quarter.

The CapEX for this work is already included within our CapEX guidance.

The upgrade work will continue during the year and ultimately along with Autohaul create a far more flexible system.

Our 3 major projects are all progressing well.

The spend on our growth capital have [started] to increased, but we're not changing our guidance for the next 3 years.

It's $5 billion for this year, and then $5.5 billion for each of the next 2 years.

The advantage of a strong balance sheet and a world-class portfolio is that we're able to continue to invest in value-adding growth options through the cycle and drive future returns.

When we make capital allocation decisions we'll ensure that we only fund the best projects.

During the first half of 2017, we reduced our net debt to $7.6 billion, a reduction of $2 billion from the end of last year.

Maintaining the strength of the balance sheet is a major competitive advantage and appropriate given the volatile pricing environments.

A stronger financial position allows us to ensure the balanced allocation of capital and supports greater cash returns to shareholders.

In the half, we carried out a $2.5 billion bond repurchase program.

This is our fourth since start of last year, and including matured bonds has led to a tighter reduction in gross debt of $11.5 billion.

We've further improved our debt maturity profile and our next bond maturity is not until 2020.

The $2.5 billion program brought interest forward to this half, and therefore, meant that interest paid during the period is $260 million higher than what otherwise have been the case, with $180 million earnings impact.

It's value neutral and will, of course, reduce interest in future periods.

Our cash position remains strong with a $7.8 billion of cash on the balance sheet at the end of June.

We have today declared cash returns to shareholders of $3 billion.

This is through an interim dividend of $1.10 per share and an increase in the share buyback in plc shares of a further $1 billion.

We've already repurchased $300 million from our previous $500 million program.

Today's $1 billion will be in addition to the $200 million remaining on that program.

So our total ongoing buyback of $1.2 billion in plc shares in the remainder of the second half, a fourfold increase on our current run rate of buying.

Our dividend policy states that we'll return 40% to 60% of underlying earnings through the cycle, and that the dividend in any one year would be weighted towards the final.

In this period, given the strength of the balance sheet and the levels of cash generation, we're paying 50% of earnings, year-to-date earnings as dividends, that's 75% when you include the additional $1 billion increase to the share buyback.

The $3 billion of returns is 46% of the total cash flow generated.

Now our $1.10 U.S. per share is the largest interim dividend that the company has ever paid.

A new payout policy combined with a strong balance sheet gives us confidence to make larger shareholder returns and allow shareholders to participate more fully in the upside.

And with that, let me hand back to J-S.

Thank you, Chris.

Now let me share our views on the macro outlook.

Six months ago, I said I was confident about China.

Having been there 4x this year, that remains true.

The Chinese economy has performed well in 2017, and the early sign for 2018 are positive.

Beyond China, global economic conditions have improved in both Europe and the USA.

So now let me focus on the steel industry in China.

It is today both healthy and profitable.

Order books are full.

As a result, the demand for high-grade iron ore has been strong and due to productivity should continue into the foreseeable future.

This creates opportunities for us, Rio Tinto.

So the outlook is stable, but price volatility will remain the future of the market.

For us, it's about controlling the controllables.

Our strategy is to create value, superior value for shareholders by meeting our customers' needs, maximizing cash from our world-class assets and allocating capital discipline.

To remind you, we will deliver this by focusing on our 4 Ps: portfolio, performance, people and partners.

Portfolio is about world-class assets.

Performance is about operating and commercial excellence or value-over-volume approach.

People, it's about developing industry-leading capabilities.

And partners, it's about long-term relationships with our customers, investors, governments and communities.

As I said at the start, our value-creation model will deliver superior cash, which will be used to maintain our balance sheet strength, provide compelling growth and deliver superior shareholder returns.

From the results today, you can see how our strategy is delivering value, and we believe this is set to continue.

Let me tell you more about 2 of those Ps: performance and portfolio.

At Rio Tinto, performance is about safety and productivity.

There are 2 ways to add value through productivity.

Sell more with the same cost structure or produce the same with a lower cost structure.

The decision will be made on an asset-by-asset and commodity-by-commodity basis.

As I keep repeating, we always place value over volume.

Increasing the productivity of our $50 billion asset base is the best return available to us.

We have more than 800 trucks which we can use more effectively.

We have around 50 processing plants, which today are not fully loaded.

We are investing to upgrade our railway infrastructure in the Pilbara.

This will give us greater flexibility to extract value from our iron ore asset base in the WA, Western Australia.

We will be generating an additional $5 billion of free cash flow over the next 5 years, and a run rate of $1.5 billion of free cash flow per year by 2021.

Turning to the portfolio.

Our highly value-accretive projects are some of the very few that are being undertaken in the industry today, and all of them have an IR greater than 20%.

The Silvergrass project in the Pilbara will deliver high-grade low (inaudible) commodity problem and give us operating benefits as we convert from the trucking operation to the conveyor.

We will hold the grand opening at the end of this month, where the Guest of Honor will be the WA, Western Australia (inaudible).

Two weeks ago, Chris and I were at a $1.9 billion Amrun bauxite project in Queensland.

Key construction activities and fabrication of the process plant have started, and we are on schedule for first production in the first half of 2019.

At Oyu Tolgoi, we have more than 2,500 people on site and remain on track for our first drawbell mid-2020.

Underground development is advancing well.

We are also progressing the conveyor to surface decline and their shaft's sinking.

We are developing a portfolio of world-class asset, an opportunity that others don't have.

And importantly, we are continuing to invest through the cycle.

So let me sum up.

Our strategy shows how every decision we make at Rio Tinto prioritize value over volume.

We continue to focus on cash flow growth.

We have an additional $5 billion to be delivered by 2021 through our productivity program.

We are strengthening our portfolio, focusing on world-class assets and investing in compelling growth.

We believe having a strong balance sheet is a significant competitive advantage.

And last but not least, the $3 billion of cash return announced today shows our strategy is working.

On this note, I will open the Q&A session.

So I know that (inaudible) . We'll cover the questions from the room and then we take to the people on the call.

Come on.

Grab the mic first and then...

Menno at Morgan Stanley.

You gave an outstanding first half.

If I look at Slide 11, on here where you showed the bridge, very helpful, if I combine volume, inflation and energy on one hand, and I combine the cost savings on the other hand, you basically stand still as a company.

And that's clearly not a bad outcome given where we are in the cycle.

Is that going to be the Rio Tinto or the industry way to look at for the next 3 or 4, 5 years until more projects comes to fruition?

Or can you actually do more?

Now that's a very good question.

As we said, we will do more.

The productivity, the mine-to-market productivity will give us some benefits.

It will take some time to ramp up, but where we are today is those funds are fully embedded at the site of the project levels.

And people are working on the (inaudible).

What is absolutely clear and you saw it because you've done your homework already.

You saw that there is some cost inflation coming back.

And I think a good example is aluminum, where you see caustic soda cost picking up and so -- and you see it in the margins, and so on and so forth, right?

But as you said, I mean, all in all, our commitment to the shareholders is to deliver superior cash returns.

And I think $3 billion of cash return, 75% of the earnings is a good illustration of what we're winning there.

And Chris, you want to add anything?

No, it's fine.

You're fine?

Okay.

It's Liam Fitzpatrick from Deutsche Bank.

Just one question, perhaps an obvious one, just from the dividend and the balance sheet policy.

You're clearly paying above the 40% to 60% range, you could be very close to a net cash position by the end of this year.

So what sort of room is there for the policy to evolve from here?

And do you think at some stage, there's a possibility that we could see it progressive be reintroduced as part of the overall dividend policy?

Go first, I'll sit this one on.

(inaudible) So the second part...

(inaudible) now to the second part?

(inaudible) What you're seeing in these results is the benefit of the variable policy.

And part of that on -- in lower performance periods its obviously, it protects the balance sheet, in high performance periods it gives the shareholders a chance to participate more fully in the upside.

So -- and at it allows for a balance between allocations to growth and to returns.

So I think the key is really around where -- we do have -- if you read the policy wording closely, you can see there's scope for extras in any given period depending on the board's view of the performance of the business, the cash generated in the business, the outlook for the future, the state of the balance sheet.

So there's scope for further returns.

But I think if you -- that $3 billion is really the key number.

The dividend is 50% of underlying earnings, adding a $1 billion to the buyback makes it $1.5 billion for this year.

So but you're right, 75% of the year-to-date earnings is a great outcome.

But there's capacity for that within in the policy, but no returns of our progressive policy.

This dividend actually, this interim is higher than any interim previously paid.

The previous record for the interim is $1.08, that just happened to be that.

So if we have the progressive policy today, the cash return would be lower, by definition.

So the policy is working as designed, which is, on the top of the cycle, where we have more cash than we were returning to the shareholder, which is I think the best thing we can do.

And then we move to the people on the conf call.

(inaudible) from UBS.

I mean, one of the questions we keep on getting asked, which was already asked a lot on the roadshows, around what you're going to do with this $2.5 billion of cash you received in sort of a month's time or so?

Could you give us some sense, I mean, obviously, you have enough cash in the bank yet, so we're not seeing it in a today's results.

That's absolutely correct.

So let's -- the priority is to get the cash on the balance sheet.

We are pretty confident about it, but until it's there, until I can look in the eyes of Chris and I can see the cash -- don't take it the wrong way, Chris.

(inaudible) a lot of thinking why...

(inaudible)

(inaudible) So -- no, it's a very good question.

We are very clear.

When we've got the cash on the balance sheet, we will process it through the capital allocation framework.

We'll a conversation with the board, and the promises are very clear in terms of we did reconfirm our capital guidance for this year and the coming years.

Shareholders should expect good returns, but we will declare anything until we've got the cash on balance sheet and we go through the process.

Will you consider out-of-cycle return?

So once the cash arrives in September, could you then at the next Board Meeting decide to sort of step-up the buyback at that point?

Or would you stick with the usual interims and final?

The only thing I can say is, clearly, we will have a chat with the board when we got the cash on balance sheet, but I can't give you an indication about the timetable on this one.

But I can tell you for a fact that by February, when we have the Board Meeting to review the final results, we will have an answer to your question.

I'm going to go to the people on the call and then I'll come back to the room.

So...

Our first question comes from Lyndon Fagan from JP Morgan.

Couple of questions from me.

The first one is just on aluminum costs, particularly for the primary metals segment.

I noticed they've gone up about $0.10 a pound to around that $0.74-type level, half-on-half.

I'm just wondering if you could sort of talk a bit more about that and whether that's the new base going forward or whether there are some one-offs there?

And then the next question is just on the lithium project.

Could you talk a bit more about where the -- what the scope is, what the likely CapEX is?

Is there anything more you can sort of shed some light on that given you put an announcement out but there really wasn't a whole lot in there?

Do you want to speak of the aluminum piece?

Do the second one first.

Okay.

I'll do the lithium -- okay.

so we made the announcement, we signed an MoU with the government of Serbia 10 days ago now.

The assessment is underway.

There are a couple of parts, which are pretty obvious.

One is a marketing study about lithium, about the attractiveness of the lithium industry, clearly on the back of electrical vehicles, batteries and so on and so forth.

The second part is really, could we have a world-class asset in Jeddah, in Serbia?

The work is underway.

We still have a couple of years to go, but we made the announcement because it's important that we bring our partners with us on this project, and we had reached an important milestone with the government of Serbia.

And it was important to recognize it at this point.

But the only thing I can say today is the work is underway, no decision has been made yet, and we'll inform the market as and when we're ready.

That's where we are.

You want to pick up the aluminum piece and the increasing costs, Chris?

Yes.

So on that Jeddah, we had order, our order of magnitude is really where we're at.

So it's very, very early in the process.

On the [ali] costs we're -- the input costs into aluminum this half versus the same half last year are about $320 million higher.

So that's a significant headwind that's all market related, but it goes to caustic soda, the coke and pitch inputs into the smelting system and also the energy costs, particularly in the Australian smelters.

So basically, caustic is about $150 million, coke and pitch about 115 and energy is the bulk of the remainder.

So it actually accentuates the point about the power of those Quebec smelters in the hydro power, where we're in the first (inaudible) and that difference, also I get a bit of benefit for green aspect of aluminum in Quebec with the hydro as well.

So we haven't seen too much cost inflection coming back into our cost structure today.

We've won major exception, which is the aluminum and that's what we have covered.

So if we go back to another question from the conf call and then I'll come back to the room.

Our next question now comes from Paul Young from Deutsche Bank.

Paul, are you there?

Seems we've lost Paul.

We can move to the next question, one moment.

So David Pleming from HSBC.

Just 2 questions.

Just with respect to the Coal & Allied sale, I wonder if you could give us some insights in terms of if there's any tax payable on that sale and what is the actual book value, so one can ascertain the impact on the earnings.

And then secondly, in terms of the share buybacks, I do recall you saying it's going to be all plc.

What will it do -- what will need to happen for you 2 guys to do buybacks on the ASX.

I can take the second one and you pick the first one, Chris.

All plc for one reason is we buy the cheapest stock of the two.

And then we look very carefully about the premium or the delta of discount that was spread whatever you want to call it between Limited and plc.

And today, it's cheaper to buy the plc stock.

That's one aspect.

The second aspect is, on the $1 billion, if you do it on a proportional basis, if we were to do an off-market in Australia, we'd be so, so small it would not work from that perspective.

So today, $1 billion of buyback in the next 6 months makes more sense to do it in the U.K. leg of the DLC.

Take the other one now, Chris?

Yes.

With regard to the Coal & Allied proceeds there, we do have carryforward losses in the Australian jurisdiction.

So anticipate very, very low, if any, it may will be 0 tax payable on that so it's a -- it'll be a pretty clean transaction, we'll utilize pre-existing tax losses -- capital losses.

Okay.

Thank you.

So we'll go back to the room.

Okay.

Bank of America, what is your question today?

It's Jason Fairclough of Bank of America Merrill Lynch.

Just -- I think you've been quoted today in the press talking about how not all of your assets are world-class, and one of your P's here is world-class portfolio.

Without sort of asking you to single out the naughty children, could you sort of just remind us, which ones you really think are world-class?

Let me give you an example of what the world-class asset could look like.

And I hope you will agree with me.

Pilbara?

I think that's a world class asset.

Do you agree?

Yes, yes.

Yes, thank you.

Amrun, bauxite, Queensland, that would be another one.

Oyu Tolgoi, copper, Mongolia, that would be another one.

The one we just mentioned about smelter in Canada, where -- the aluminum smelter, are not in the first quartile of the cost curve, but the first D side of the cost curve are world-class.

I think I gave you already a pretty good sense of which assets we regard as world-class.

Now to build on this one because the question is very good, so I'm not going to tell you which ones are for sale and which not -- are not for sale, you know that.

But a couple of points is, we're not going to do a fire sale, okay?

We've sold $8 billion of assets in the last 4 years.

And if you look at the evaluation, where you extract Northparkes or even Coal & Allied, we did extract more than full value for those assets.

So for sure, I want to clean up the portfolio as quickly as I can, but at the same time, that will not be the fire sell, so that's where we are.

When we make progress, and I think you got -- your friend Peter talked at the back end of the room, when he makes progress with his team, we'll disclose it to the market.

So the direction of trouble is very clear, we want to build over time a portfolio of world-class asset by exiting some of our noncore assets, but at the same time building new world-class assets.

And I think the 3 project that we're pursuing today: Oyu Tolgoi, Mongolia, Amrun and Silvergrass that we will open in a few weeks now.

That's why in the few weeks are good examples of what we want to do in that space.

Thanks for asking the question.

James Gurry from Credit Suisse.

Maybe one for Chris again about the form of shareholder returns.

You're going to step up the buyback it seems in the second half of the year spending 4x what you spent so far.

Implicitly, you're taking a bet on the share price and the share price is probably a little bit higher because of commodity prices.

So how has this progressed in terms of your thinking, in terms of potentially paying some special dividends in the future?

And that way, you're not really taking such a bet on commodity prices and particularly, the share price level at the time?

Okay.

Well, it's always an issue of debate around (inaudible) . If there's 3 people in the room, you've probably got 4 opinions about buybacks generally.

But the issue really is around -- in terms of a special -- that's part of the -- it's one of the arrows in the quiver.

It's an option I opened to the board should they decide to go that path.

So it's not something that we'd exclude consideration of at all.

But -- so I think the key really is around we still believe we're buying value-accretive purchase, if you think about it that way.

But the return of cash to shareholders is really the key.

And it's a -- an extra $1 billion this announcement, so there's $1.2 billion to go within this year.

But the specials are an option, but it'll be considered.

Any question from the conf call?

So if you go back to the conf call (inaudible) and just come back to the room.

Our next question is from Paul Young from Deutsche Bank.

First question, Chris, is on CapEX.

Just looking at your 2017 CapEX guidance, the P is pretty conservative considering you only spent $1.5 billion in the half.

I know that the sustaining CapEX will roughly double in the second half based on your revised guidance of $2 billion to $2.5 billion.

And there was the normal timing variances and seasonality in Mongolia and [Weipa] , et cetera.

But I'm struggling to see how you actually spent $3.5 billion of cash CapEX in the second half?

And also considering you've come in under guidance, CapEX guidance the past 3 years, so obviously you're performing well.

So wondering if you can add some color on just how you'll spend $5 billion in 2017?

And the second question is on the Pilbara and probably to you, J-S, I'm sure you will agree that the June half performance in the Pilbara wasn't one of your better halves, and part of that was due to the rail maintenance program.

So can you just provide some more information on that program?

And what is actually going wrong there?

And secondly, I know your strategy is to maximize margin, but can you provide some guidance as to where you think you can take your Pilbara unit cost over the medium term?

Well, I think the CapEX year-to-date spend is relatively low versus the full year target.

So I think there's a SKU for variance from where we are, is probably at or below the 5. I don't think there's much chance of it going beyond the 5. So I think the risk really is to an underspend rather than sort of overspend.

But it's not clear enough to give you different guidance than the 5. So -- and part of that will shift into -- some of it could slide into 2017 -- 2018.

So I wouldn't get too excited about exactly where it will be.

It will be at or around 5. I don't think it'll be -- I don't think there's much chance that it could go over 5.

But I think just to build on this one before I pick up the second question, Paul, is and you know better than anybody else that the weather was pretty bad this year.

And in Queensland, where we are building Amrun during the wet seasons, you can't do anything at all.

That's pretty simple.

The mud is pretty significant.

So we were there a couple of weeks ago now -- 3 weeks ago?

Two weeks ago with Chris, now you can see clearly, physically a pickup in thermal activity.

So I'm very confident that the ramp up of activities in Amrun will translate into additional CapEX in the second half.

And the second element as an example, it's clearly Oyu Tolgoi is still ramping up, and therefore, commitment -- capital commitment will translate into cash expenditure so and so on and so forth.

So we won't get to the 5 maybe, but I think there will be a clear step-up of CapEX between H1 and H2.

Moving on to the question on the Pilbara.

It's absolutely clear.

We are totally transparent on the fact that there were operational issues in the first half in the Pilbara.

A big chunk of it is weather-related, and you will see it with some of our peers as well.

But we took the decision to accelerate the upgrade program on the railway in order to make sure that we can enable further productivity improvement in the coming year.

So the results are what they are in the first half.

Now what the team is doing is really focusing on the second half.

And what we did a few weeks ago is really to revise the guidance in the sense of, initially the guidance was between 330 and 340 million tonne for the full year.

And what we said is we will reach the bottom of the guidance.

And I think -- thought it was important to inform the market.

Now the work is underway to develop the plan in second half and that's where we are.

In terms of costs, that's an interesting point here.

Because costs are absolutely essential.

I'm not going to discuss for this one.

But my view is that margins are much, much more important.

And in the context of iron ore, when you look at the spread, the delta, the discount point whatever you want, between high-grade and low-grade iron ore, if today you don't deliver the right grade to your customers, you may be under pressure from a margin standpoint.

And at the end of the day, what matters is the margins, which translate into cash.

So I've done this actually broaden the question here.

I have the opportunity to meet with, for example, Chairman Xiao, who's the Chairman of SASAC who controls all the non-central SOEs 3x the last 12 months.

I've got no doubt in my mind that the government of China is serious about restructuring the steel industry.

But restructuring the industry doesn't mean a drop in output.

So they're taking out the old producing capacity and they are concentrating on the newest.

And for them to be able to produce the same output, and you have seen from the stat that the output this year or to this year has been very, very strong in China.

They need to have better raw materials, starting with iron ore.

So we see this whole question about margin, about grade as a fundamental shift, still early days, I accept that, but we could have a structural shift in the demand of China, and that creates some opportunities for us.

So Paul, you're right, I will not drop the ball in relation to cost, but the priority for us is to optimize the revenue of every tonne we sell from the Pilbara.

And therefore, our primary driver is about EBITDA margin today.

If I go back to the room.

Fraser?

Fraser Jamieson from JPMorgan.

Two questions.

Firstly, quick one on Simandou back in October, I think you talked about trying to get or a hoping to get a finalized deal done within 6 months.

We're obviously a bit beyond that.

Could you talk through what the stumbling blocks are there?

And what the updated time line is?

And then, secondly, return on capital employed has obviously been something that you guys had focused on a lot over the past year or so improving that base.

Looking at the numbers, it doesn't look like Rio has been improving its return on capital, really, any significantly any faster than the peer group.

So where do you feel Rio is ahead of the peers in terms of the focus around return on capital?

Obviously, everybody is trying very hard to improve that.

What are the competitive advantages that you have?

I think (inaudible) Chris?

Simandou is -- discussions are still underway.

It's a complex set of negotiation because we have 3 parties, good progress are being made.

And we will inform the market when the deal is signed and so and so forth.

That's where we are on Simandou.

But everybody is committed to make it happen, 2 governments, 1 companies, takes some time.

It's not easy peasy, as they say.

So we'll inform the markets but the momentum is still there.

(inaudible)

Well, that's an interesting conversation because we got the recency of all the Pilbara spend and all that type of thing.

But the key and as you rightly point out absolutely everybody, if they're not -- well they are.

Everyone's trying to do exactly the same thing.

So that's there.

It's not something you're going to change overnight other than via volatility in price, which isn't really the measure you're after.

But if you just think about some of the issues that we've gotten out with the -- we got out of the 40 trucks parked up in the Pilbara.

So they're -- the heavy haul trucks that were seen as requirements, no longer seen as required based on other improvement and other sort of shifts.

So you've got Silvergrass now coming through, which is going to be a conveyor rather than trucks.

So it takes the costs down, but there's a CapEX involvement (inaudible).

We'll probably expend more on retrofitting some of the trucks for AutoHaul or new AutoHaul trucks, notwithstanding we've got trucks parked up.

There is a few of those sort of complexions, but we'll get further down the path on that as we get further into the productivity program.

We're talking about the Capital Markets Day in November, December, yes.

So we'll go a bit broader on that in that time frame.

I mean, obviously, Fraser, I mean, that's -- we're clear that we need to improve our road sheet, okay?

No doubt about it.

And productivity is a key element of it.

And if you think about it in simple terms, our capital base of $50 billion and an initial $5 billion give you a sense of the direction of trouble.

But it is hard work.

It is not easy in that sense.

But as I said earlier, the plans are there.

Lots of activities on the ground, and we could talk about fixed plans, utilization.

We just gave you an example about the trucks.

I've got no doubt that it's a key driver of profitability going forward, but it's similar to -- there is -- similar to your problem . There is no silver bullet.

If there was one, we would have found it, but there is none.

So it's about hard work, it's about consistency of practices across the group.

We've got 800 trucks across the group, and we don't run them the same way.

And people could say why is it the case?

Well, it is what it is.

But I see it as an opportunity.

And already by having a more standardized and more consistent in approaching the Pilbara, we've got 400 trucks in the Pilbara, 40 are parked today.

That's one aspect.

The second wave will be more about automation.

Currently, out of the 400 trucks in the Pilbara, we've got the 76, which are autonomous.

Over time we will bring it and the number high.

We do it step-by-step in the various phase of the project.

Because what is important is to lock in each time we make an improvement, we lock in, and we move to the next one.

It is slow, but it's about sustainable results.

And that additional $1.5 billion of free cash flow run rate by 2021, is a big step-up from where we are today.

But everybody's doing the same.

I believe we are certainly ahead of the curve in terms of automation, the trucks, we've got the largest autonomous fleet today.

In terms of drill rig, we are the only one who have drill rigs fully automated that can do real-time sampling and so on and so forth.

And we are progressing on the autonomous trend as well.

So we are ahead of the curve, but we're not becoming complacent.

We'll just keep pushing.

It will take some time, but the price is very clear.

So I'll take question from the conf call.

Our next question then is from Clarke Wilkins from Citi.

Just a couple of questions on the unloved children, so to speak.

Do you strain now in your (inaudible), but we're seeing a lot of pressure on electricity prices here in Australia.

Understand you have long-term contract with power supply, but we're already seeing curtailment of some capacity.

Have you looked at the sort of the longer-term implications of that and retesting the (inaudible) assets?

Or is that something that's typically done at the sort of full year results?

And also just in regards to the sort of on your titanium business, in terms of, I think, you're restarting one of the furnaces at QIT.

Given the low utilization rate of those assets, what's the strategy behind restarting a furnace?

Is it product-driven?

Or is it an indication that there is a further improvement in the bands seen on the horizon?

I'll pick up the energy one.

I mean, I'm on probably 3 calls saying that there is serious situation in relation to energy in Australia.

It's not really about Rio Tinto, it's across the patch, all right?

What we want as a company is the source which is, affordable and reliable of power in Australia, and today that is not the case.

And it's not because of the lack of capacity, it's about the regulatory framework and how it's working at the state level.

So the only thing I can say is, please fix the problem because otherwise, when I look at the plan either at the state level or at the federal level in Australia, where people wants to develop more manufacturing activities.

If the industry can't have access to reliable and affordable source of power, that will not work.

The model is broken today.

Everybody is in agreement with that.

It has to be fixed.

So -- I mean, 3 weeks ago, I was with the PM, and we made the Point again and again, and we'll continue to fight for this one.

Because we want Australia t to be competitive in that space and they need to fix their problem and the government needs to step in on this one.

You want to take the other one?

The other part of that first one was around the carrying values.

And I think the key there is that, in order to address the carrying value, you need a trigger or a catalyst.

And we haven't seen a catalyst that would challenge the valuations of those assets.

So that's one.

I sort of glazed over on the second part of the question because I was answering the first part.

So could you repeat the second part of the question?

Oh, it was just in regards to the QIT assets in terms of, I think now operating 8 of the 9 furnaces.

But with utilization, [they have] the capacity [something] like 2 million tonnes across those assets but producing 1.2 to 1.3 this year doesn't seem like a cost effective strategy to restart a furnace.

So is there a product strategy behind that?

Or is it an indication of a potential improvement in the demand?

No, I'll take care of this one.

That's okay, Chris.

So on TiO2, yes, there is plenty of spare capacity, and remember it was about value over volume.

We took the decision to restart the furnace, not only because of product but because of the conditions of the market were slightly better.

And we believe it was the right time in order to maximize cash flow to restart the furnace.

But each decision is taken very, very carefully.

And we believe it's the right decision.

So we're not going to flood the market.

That's not what we're doing at all, but we came to a point where an incremental volume was the right thing to do.

So if I go back to the room.

There is one question at the back.

Tom O'Hara from Exane BNP Paribas.

J-S, you talked in the media about an aspiration to see Rio trading on the premium, to peers.

The first question being, what was your preferred measure of that?

And the second would be, over what time frame do you think you can achieve that?

And what levers do you think will be most rewarded by the market in achieving that?

Thank you very much for the question.

Yes.

The aspiration is absolutely clear.

I'm not going to walk away from what I said in the press.

If you think before 2003, during that tool box regime, we were trading, if you look at multiple like EBITDA multiple at a premium against our peers.

And at some stage, we were at 20%, 25% premium.

I'm sure [John Smeltzer] would say, you have to look at the series of multiples, you can't look at only one.

But the aspiration is very clear.

We want to be the premium company in the mining business.

No doubt about it.

The way to get there, and I think today is a very good example of how to get there.

If we deliver in a consistent way superior cash returns like what we did today with $3 billion, I fully believe that this, combined with the recognition from the market that we have a superior more resilient business model on the back of portfolio of world-class assets, superior performance and the strength of our balance sheet, I believe that over time we will attract this premium.

And we are going to work very hard to get there.

The timetable, as always, I want everything for yesterday, but on this one I think we're going to be patient, because until we build a track record of delivery, then we're not going to attract the premium.

So it's not going to be weeks, it's not going to be months, it's going to be years, but the ambition and the direction of travel is very, very clear.

Okay.

I'm trying to give questions to everybody now.

It's Alon Olsha from Macquarie.

Just 2 questions.

You're obviously generating a lot of cash and returning quite a bit of that to shareholders.

M&A though still doesn't really feature as a priority in terms of your capital allocation framework.

But as you look to kind of reposition the portfolio and you are more in divestment mode, but would you consider kind of recycling that cash into an acquisition as you're thinking around that change at all?

And then just a second question around Grasberg in Indonesia.

You made a comment in the past that you would consider selling that option, what's your latest thinking on that?

Yes, no worries.

So the answer will not change from what I said in the past.

So I'm not going to disappoint you on this one.

So on M&A, we have a watching brief on M&A, but we will pursue M&A only if it creates value for our shareholders, all right.

And if I look at some of the recent transaction, and remember, we are pretty well placed because we sold $8 billion of assets in the last 4 years.

So today, when we look at different options, I couldn't see a way forward to create value for our shareholders because the valuation were fantastic for the sellers, I'm not quite sure for the buyers.

So we'll keep our watching brief.

No doubt about it.

But we're not going to rush on an M&A for the sake of it, okay?

Which brings back to the value over volume.

We will not pursue growth for the sake of it.

Now if there is something right value because of the synergies and so on and so forth, for sure we will look at it, no doubt about it.

And the fact that we have a strong balance sheet give us the opportunity to do so, but we're not in a rush.

Second question on Grasberg.

Grasberg is an option for us.

There is no doubt that Grasberg is a world-class resource when you look at the copper and the gold content, no doubt about it.

But there is a fundamental difference between the world-class resource and the world-class business for Rio Tinto.

And depending on the conditions that a government would impose in the context of the contract of work negotiation, then Rio Tinto will take a decision.

Are we in or out?

But it will be on the back of what is going to be the outcome of the current negotiation between Freeport and the government of Indonesia as we speak?

So no change from that perspective.

Now that the balance sheet restoration is pretty much complete, and you've achieved that largely, value over volume and still having a bigger growth profile.

I guess, my question would be just around the confidence you have in the Chinese economy, and especially, some of those structural changes you alluded to earlier.

Can I ask, do you think the industry as a whole is spending enough on growth CapEX at the moment?

And then, is you're thinking changing around that at all for Rio Tinto?

Secondly, I just asked on the Pilbara, in terms of those early-stage deal, but it looks like potentially structural changes in the Chinese economy and that chart you showed with the low levels of the high-grade inventories in China in what's still a very high level of output.

Do you have any way of increasing your higher value product coming out of the Pilbara at this point in terms of sort of more short to medium-term projects?

Lots of questions here.

I've said from the start that I can't make any comment about my peers or what they want to do.

For this reason it's a Rio Tinto result presentation today.

So are we comfortable with the growth that we have in the portfolio and the CapEX of $5 billion, $5.5 billion?

The answer is yes.

Absolutely yes.

Because -- as I've said in the past, if you want to pursue lots of project at the same time, but you don't your A team working on each of those project, that's not going to work.

So I would rather pursue fewer projects and deliver them very, very well than pursuing many of those and delivering them in a very average way.

Average being the definition as per Australia, on basically, so you understand what I'm saying here.

That's what it is.

It's best we focus and deliver them well on time, on budget, blah, blah, blah than pursuing lots of things and that being having massive issues on their truck.

What our peers are doing, you should ask the question to our peers.

I can't say anything else.

So that's one aspect.

The second aspect that we had talked to some growth, when we talk about the growth, we talk about the growth of free cash flow.

And that leads back to the question about productivity.

$5 billion of free cash flow in the next 5 years is the best return, the best investment we can do, all right?

So for us growth is about the productivity on one side and the additional volume growth coming from world-class assets.

The second part of your question was about the Chinese industry.

And I'll make 2 comments, if I may.

One is about steel and the other one is about aluminum.

I'll start with aluminum.

Once again, I believe they will restructure the aluminum business over time in the medium and long term.

And you can see already a sign that today, if you don't have your permits to build a new port lines, then you can be potentially in trouble.

And even if you build the port lines today and you don't have your permits, you can be in trouble as well, right.

So medium and long term, I can see them putting more and more restrictions, but the pace of growth in relation to aluminum smelter.

However, where -- and I hope I'm wrong, I really hope I'm wrong.

Where I'm very cautious is when people will say, that in winter they will switch on and switch off port lines.

Coming from the aluminum industry, I've got my doubts.

Because when you switch on switch off, you destroy your port lines, as simple as that, okay?

So that's the piece.

And as I say, I hope I'm wrong.

So in the short term, I'm very cautious, I know the market is saying something else, which is great because we enjoy those higher prices in aluminum.

I've got my concern in the short term.

Medium and long term, no doubt about it that they will do what they said they will do.

And in this context, having aluminum smelter in Canada hydro-based where they are not in the first quarter of the cost curve, but in first D side of the cost curve is this fantastic advantage.

So we have no issue on this one, in the medium and long term.

On the steel industry, they are restructuring.

They are restructuring as we speak.

No doubt about it.

The demand for high-grade ore is significant.

And interesting enough is, you know when we have lots of volatility in relation to iron ore prices this year.

Even when the iron ore prices drop in a significant way, the premium, the spread, the discount, credit, whatever you want, between high grade and low grade didn't change.

And that gives me more and more confidence that it's a structural change.

But I fully accept, I'll caveat it by saying, still early days, but the direction of travel is moving where I believe is a very good direction of travel for us.

Can we change -- then the last question about can we change our grade or -- we're going to have end of August 16 mines in the Pilbara, okay, with the opening of Silvergrass.

I can't change the mind of plan like that.

I wish I could, but no.

It's a complicated process.

We have the blending activities and so on and so forth.

So over time, we can shift the mix, but in the short term, I cannot switch on switch off.

That's not realistic.

Okay, 2 questions from the conf call.

Our next question is from Glyn Lawcock from UBS.

J-S, when Chris was out here 6 months ago for the last result, he said he wanted to pay down debt by another couple of billion, you've done that.

You also said he didn't see the need to become net cash.

I was just wondering if that's still your thoughts.

And if so, could we see returns approximate $100 [billion] of cash flow?

And then the second question, it's just on Oyu Tolgoi, you've done a lot of travel, I wondered if you've been there lately.

There's been a few political changes in, I guess, in commentary from the new political personnel that is a little bit, I guess, worrying, but just wondering if you got any comments, please.

I think the answer to your first question, Glyn, is no change.

You agree, Chris?

Yes.

Okay, that's the answer for the first question.

No change.

We want to have a robust balance sheet, but having a 0 net debt is not what's on the agenda.

Now you can't rule out anything at all in the sense of if the outlook was to change in dramatic way, then we'll revisit the situation on a regular basis.

That's the only thing I can say.

Our capital allocation framework is very clear.

We gave you clear guidance.

We did reconfirm the guidance in relation to CapEX for the next 3 years.

The strength of our balance sheet is what it is.

And we are very clear, and I think today is a good example of it this $3 billion of cash return for our shareholders, 75% of the earnings.

We are doing what we said we are doing.

And you know we'll continue to do so.

That's the only answer I can say.

So if I move to the second point of your question Glyn about the presidential election in Mongolia.

Yes, we've been in Mongolia for 10 years.

We are -- Mongolia is Mongolia in a sense.

It's a challenging place and so on and so forth.

But we are working very closely with the government.

Oyu Tolgoi is progressing well.

Oyu Tolgoi will have a very significant impact on the economy of Mongolia for the next 50 to 100 years.

The recent statements by both the government, the Cabinet and the President is to attract further FDI.

So today, we are comfortable where we are in relation to Mongolia.

If I can take another question from the conf call, and I'll come back to the room after.

(Operator Instructions) So the next question now comes from Duncan Simmonds from Bank of America Merrill Lynch.

I've just got one question, getting back to our favorite subject of iron ore.

If you guys gave yourselves a scorecard (inaudible) in iron ore out of 10, where would you say versus your potential at the moment?

And then, I guess, the follow on from that is, where would you be once AutoHaul is finished in 2018?

And then just to go over importance of that program when you complete it?

Okay.

Thanks, Duncan.

What is the KPI you're looking at on the 1 to 10?

Because I think you have a very detailed question here.

It's a general statement?

Or is it very specific?

I guess I'm looking at the overall margin.

I'm thinking about where the margin is and where costs are and where volume is and where you think your ideal place is and how critical is AutoHaul for that.

Because I guess we've been hearing about margin improvement and portfolio, shrink to greatness and margin, and I guess, this is the critical part of your margin, when I think about the business.

Yes, okay.

I got the picture.

I'm a tough headmaster according to the team.

So I'm going to try to be fair on this one.

I would say, 7 out of 10.

I'm sure there are lots of people in Perth who are very upset with me as we speak.

But I still believe there is lots of room for improvement across the Pilbara.

And I think in the productivity roadmap, combination of consistency of practices plus automation and Big Data, I can see lots of upside.

So I think 7 out of 10, I think is a good mark.

I hope in 5 years down the road, we'd be closer to 9 out of 10.

And to be honest, if we can get beyond 10, I'd be even more happy.

But that's where the people in Perth must be fuming as I'm having this conversation.

Oyu Tolgo is progressing well.

We gave you the metrics, completed a project, we have achieved massive improvements in the last 12 months.

It's one of those plus projects, you need to do them in a very phased and structured way, and we are getting there.

Okay.

So I think the other one is the -- you referred to elsewhere is the bottlenecks currently the rail.

So that leads to a lot of inefficiency in terms of how the mine and port can operate, et cetera.

The ideal place for the bottleneck is the port.

So you want to have rail capacity available.

So that's part of the challenge is really getting the AutoHaul, getting the rail to its most efficient such as we're going to shift the bottleneck from the rail to the port.

At that point, you've got a whole lot more operating flexibility.

So what we ought to do -- the picture we have or the strategy is to have a funnel, where, as we said, the bottleneck is the port, which is not the case today, all right.

So I'll go back to the room for a couple of questions before we wrap up.

(inaudible) Just a couple of questions.

First of all, on iron ore market in the context of your earlier remarks and your reconnections from China.

The iron ore's stock piles are growing, which means technically that the market remains in ore supply.

An optimistic view is that some people support it is that, we shouldn't be too worried about it, because as the stock piles are growing, the quality must be deteriorating in terms of grade and in terms of impurities.

Now you're supposed to know about iron ore market more than anybody else.

Do you support this view?

Or do you think that we shouldn't be worried about iron ore stockpiles just because the quality is changing?

So I'll answer in 2 parts on this one.

One is 2/3 of the stockpile is currently low-grade iron ore.

That is correct, and it's not moving.

And you see the price volatility at the same time.

I think our answer to a larger extent in the previous question is to say, I know it's early days.

I know it's early days.

But I believe there is a funnel for restructuring -- structural change in the way this industry is operating in China.

And therefore, by having the right grade, then you'll be fine, okay?

Now at the same time, it's -- you could have, I believe, in the short-term, volatility, because I (inaudible), somebody must be sitting on massive losses here.

I don't know if it's paper loss or what, and that sometime, this volume would be clear, okay?

So if you step back and you say -- as we said earlier, there are 4 key drivers in the transformation of the iron ore.

One is the underlying (inaudible) change in the economy, and I would say it's a tick, additional capacity in Brazil or in Australia well documented.

So it's well priced in the marketplace.

The restructuring of this industry, my sense is moving in the right direction.

The key source of all this uncertainty is really about 2 things, it's the volume of domestic production in China.

Remember, a few years ago they produced around 400 million tonnes, they are up to 235 last year first half, we believe they are back to 275.

And as and when somebody is going to say, enough is enough, I've been sitting on the loss, I'm now going to clear the deck on the stockpile.

So one way to look at it from our perspective is, we believe the fundamentals are good, but there is volatility.

Now what can I do from the very practical standpoint as Rio Tinto is to make sure I've got the right cost structure, I've got the right grade, I've got the right relationship with the customers.

And that's what we're doing.

And second question and very small, on your sense, a transaction deal with a share growth, where do we -- where should we expect any kind of a news about progress on this diamond project?

Sorry, which transaction?

I don't know, the kind of the tie up with the share growth or regarding the diamond project?

(inaudible)

(inaudible)

(inaudible) Yes, it's -- so exploration, we're always buying -- buy out all the time properties, we're swapping properties, it's part of our business model.

So don't think...

So nothing -- we should expect, obviously, knows kind of a secrets obviously of nothing like what we will..

Let me answer it in a different way.

We are very comfortable with the capital guidance of $5 billion, $5.5 billion, and I don't think this way is going to change the guidance whatsoever to be honest.

And I'll have a chat with (inaudible), I'd be in.

We'll have you both during the night.

What -- maybe one last question here on this side.

It's Hunter Hillcoat from Investec.

This is just an observation, but if you look at your 3 growth projects, the high-value projects, that's -- you're spending about $7.7 billion over 5 years.

You could almost return that this year in shareholder returns.

So -- because you've already spent 3 in the first half.

So do you feel that is a reasonable balance?

It seems weighted more towards shareholders to me.

And do you have a number of your engineers bringing a pipeline of projects to you that's saying, "We need money for this, we want this to be within this pipeline." So that you start to spread out in the years going ahead?

I can answer the question very easily.

There are lots of people with lots of ideas.

That's for sure, okay?

The question is, and I think we touched on it earlier today.

From my perspective, it's all about delivery.

It's better to pursue few projects and deliver them very, very well than trying to do lots of things and having a big issue at the end of it, okay?

That's a fundamental principle here.

So do we have the pipeline of project beyond Silvergrass, Amrun, I know you -- the answer is, yes.

The answer is yes.

And people -- I mean, we talked Jeddah, we could have talked about resolution.

Beyond Amrun we've got Amrun version 2.0, 3.0, 4.0.

We've got multiple optionalities in relation to bauxite.

We could grow the iron ore as well.

We've got multiple optionalities.

Remember, the discussion we had earlier today about the funnel.

The funnel moves that -- you got the port railway capacity and the port capacity.

So we have optionalities on this one.

But what is important is to deliver them on time and on budget.

And we can't pursue too many things at the same time.

So ideas, lots of ideas, including the one, I don't know what details I'm doing tonight.

But the question is about the delivery and don't -- the way I look at it, you got the big white elephant, do it slice by slice, and don't try to swallow the elephant in one go, otherwise, you have a problem.

Now your comments about capital allocation, shareholder return versus growth.

Today, we are very comfortable in the balance.

And I think $3 billion is absolutely consistent with what we said, which is to deliver superior cash return to our shareholder, 75% of the earnings.

I think that's what we said we would -- will do, and we're delivering on our promises.

I see John saying, I should close this meeting.

So I hope you got the message, $3 billion, 75% of earnings.

Thanks a lot for coming.

Thanks for your question.

And then I'll see you pretty soon.

Thank you very much.