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Fitch Removes Vale S.A. (VALE) from Rating Watch Negative

March 4, 2016 3:19 PM EST

Fitch Ratings has removed from Rating Watch Negative and affirmed the Long-term Foreign-Currency Issuer Default Ratings (IDRs) of Vale S.A. (NYSE: VALE) at 'BBB', Local Currency IDR at 'BBB+', National Scale Rating at 'AAA(bra)'.

The Rating Outlook is Negative for the foreign and local currency IDRs, which reflects the Negative Outlook on the Brazilian sovereign ratings. A Stable Outlook has been assigned to Vale's national ratings.

A full list of rating actions follows at the end of this release.

The removal of the Rating Watch Negative follows the announcement that Samarco Mineracao S.A. (Samarco, Foreign Currency FC IDR 'BB-' on Rating Watch Negative), along with its 50/50 shareholders Vale and BHP Billiton Ltd/Plc (BHPB, long-term IDR 'A+'/Outlook Negative), reached an agreement with the Brazilian authorities regarding Samarco's tailings dam accident. The agreement covers remediation, mitigation and compensation for the accident totalling a maximum amount of BRL4.4 billion from 2016 through 2018.

Fitch considers the final agreement terms to be manageable for Samarco and its shareholders, in the event they are required to meet the shortfall as guarantors. Possible equity support to Samarco from shareholders is also expected to be manageable split on a 50/50 basis attributable to their joint ownership, if required. Fitch's cash flow assumptions consider Samarco's operations to resume in late 2016.

KEY RATING DRIVERS

Landmark Agreement Reached:

The outcome of discussions between Samarco, Vale and BHPB with the Brazilian authorities has been finalized. The agreement covers remediation, mitigation and compensation for the tailings dam accident, and is subject to final court approval. Fitch considers the final agreement terms as manageable for the three mining companies, as discussed in Fitch's special report 'Samarco - Binary Outcome' (February 2016), and assumes Samarco's operations to resume in late 2016.

Limited Cashflow Impact on Samarco's Shareholders:

Fitch's cash flow assumptions indicate limited impact on Vale and BHPB. In the event Samarco is unable to comply with its payment commitments to the foundation, the amount payable each year is very manageable to the company's shareholders and the shortfall required will be divided between them equally. Fitch resolved the Rating Watch Negative on Vale's ratings to 'BBB'/Outlook Negative following the announcement and to reflect the Outlook on Brazil's sovereign rating.

Negligible Near-Term Impact:

The three mining companies have agreed that Samarco will pay BRL2 billion in 2016. This amount will include money spent on the related clean-up, remediation and compensation costs paid by Samarco to date. Fitch assumes an additional USD375 million to be paid by the company in 2016 to meet this total amount net of spending to date, a manageable amount for Vale and BHPB on a 50/50 basis in the event they have to fund this shortfall as guarantors.

Manageable Over the Long Term:

A maximum cap of BRL1.2 billion per year in 2017 and 2018 has been established with BRL240 million within these amounts each year set as a compensation limit. The total amount of the remediation and compensation agreed is BRL4.4 billion spanning 2016-2018. A sewage and water program has also been established within these annual limits to pay BRL50 million in 2016, BRL200 million in 2017 and BRL250 million in 2018. From 2019-2021 a range of BRL800 million to BRL1.6 billion has been set as annual contributions to the foundation based on the amount dictated by requirements. This amount is not an upfront figure; it will be the cap at which Samarco will meet any claims agreed by the foundation and will only be spent as required.

Foundation to Disburse Funds:

A foundation will be established within 120 days of the agreement by the government and the three mining companies to manage the funds paid into it. The foundation will address future claims and decide appropriate actions to ensure the Doce River Basin is environmentally recovered to pre-accident levels and affected parties appropriately compensated and remediated. The foundation committee will be comprised by two representatives from Samarco, two from Vale, two from BHPB and one from the government.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for Vale in relation to the settlement include:

--Both Vale and BHPB have guaranteed Samarco's payments as part of the agreement. If Samarco is unable to comply, Vale and BHPB will have to pay the shortfall annually, split on a 50/50 basis as per their joint ownership of the company. The annual payments would be manageable for both shareholders.
--Possible future funding for Samarco, if required, is also expected to be mitigated by the 50/50 contribution by its shareholders.

RATING SENSITIVITIES

A downgrade of Brazil's sovereign rating could lead to a negative rating action for Vale. The company has substantial export earnings, but its iron ore assets that generate most of its EBITDA are located within Brazil. The company's ability to export its iron ore at planned volumes could be jeopardized if Brazil's operating environment significantly worsens, making it more difficult for Vale to execute its expansion plans.

Vale's ratings could also be downgraded if it fails to bring online volumes as currently projected. These volumes, which are expected to be a lower cost than current operations, are key to FCF generation and leverage reduction in 2017 and beyond.

Vale's international ratings are one notch higher the 'BBB-' country ceiling rating of Brazil. This reflects Fitch's view that Vale has significant offshore assets e.g. Vale Canada Limited, substantial and recurring foreign exchange earnings relative to the company's foreign currency and overall debt burden, and committed undrawn credit lines available from highly rated international banks, especially credit lines without a MAC clause, versus its semi-annual debt service obligations. Significant weakening of these factors may lead to the company's ratings being capped at the country ceiling level.

A change in the approach by Vale's management philosophy regarding its conservative through-the-cycle capital structure that would lead to net leverage remaining above 2.5x on a sustained basis would be viewed negatively and could lead to negative rating actions.

Positive rating actions are highly unlikely in the medium term as Vale concentrates on completing its large investments while preserving its liquidity positon and safeguarding its capital structure at a time of lower commodity prices.

LIQUIDITY

Vale held readily available cash and marketable securities of approximately USD3.6 billion as of Dec. 31, 2015. Liquidity is further enhanced by Vale's remaining undrawn USD2 billion revolving credit facilities with maturities of two to four years and by its strong capital markets access.

FULL LIST OF RATING ACTIONS

Fitch has affirmed the following ratings:

Vale S.A.
--Foreign currency IDR at 'BBB';
--Local currency IDR at 'BBB+';
--Senior unsecured debt rating at 'BBB';

The Rating Outlook is Negative.

Vale S.A.
--National scale LT rating at 'AAA (bra)';
--National scale unsecured debt rating at 'AAA (bra)'.

The Rating Outlook is Stable.

Vale Overseas Limited:
--Senior unsecured debt guaranteed by Vale at 'BBB'.

Vale Canada Limited:
--Senior unsecured debt guaranteed by Vale at 'BBB'.



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