UPDATE 1-Fortescue tips slight drop in Q3 iron ore output

* Fortescue tips drop in Q3 iron ore output

* Sees sharp price rise under new quarterly pricing system

* Operating at higher-than-expected run rate of 43m/t a year (Adds details, quotes)

SYDNEY, July 15 (Reuters) - Australia's Fortescue Metals Group (FMG.AX) on Thursday forecast a modest decline in September quarter iron ore production to between nine million and 10 million tonnes due to maintenance work.

The work will require shut downs of rail and port operations for a total of 10 days, though the company's two mines, Cloudbreak and Christmas Creek, will continue to operate, Fortescue said.

Australia's third-biggest iron ore producer behind Rio Tinto (RIO.AX) (RIO.L) and BHP Billiton (BHP.AX) (BLT.L) said it was running its mines at an annualised rate of 43 million tonnes and made shipments of 11.04 million tonnes in the three months to June 30, up from 8.14 million tonnes a year earlier.

Production in the June quarter was 10.5 million tonnes.

Rio Tinto on Wednesday reported a 2 percent decline in second quarter iron ore production and BHP is expected to show flat output over the period in a report on July 21. [ID:nSGE66D07K]

Fortescue said it used a maintenance-free June quarter to "push the operating boundaries" of its operations.

The annualised run rate of 43 million tonnes is 3 million tonnes higher than the 40 million tonnes Fortescue had earlier forecast until March 2011, when it is due to complete an expansion of the Christmas Creek mine.

"With higher iron ore prices, no maintenance shutdowns... the result was a performance level of double-digit growth across all areas of the business," the company said.

Fortescue also said it sold its iron ore at an average price of $130 per dry metric tonne over the quarter on a CFR basis, up from $69 a tonne in the previous quarter, reflecting the China-landed price and incorporating shipping and insurance under the industry's new quarter-by-quarter pricing mechanism.

Total production costs in the April 1-June 30 period edged up to $32.25 per tonne from $29.43 in the previous quarter, according to the company.

The increase was more than offset by the higher selling price and left the company with $1.24 billion in cash as of June 30, it said. (Reporting by James Regan; Editing by Ed Davies)