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January 29, 2009 9:12 pm
Xstrata has a habit of surprising the market. While rumours that the Swiss mining company was planning a large rights issue were circulating for some time, when it revealed the details on Thursday few people were prepared for the complex nature of the deal.
The company is raising $5.9bn of cash from selling new shares, of which $2bn is going straight to Glencore, the Swiss commodities trader which owns 35 per cent of Xstrata, in return for two Colombian coal mines.
In essence, Glencore is paying for its share of the rights issue with the coal assets, raising the question why Glencore did not offer to pay for its shares in cash and whether the deal is a good one for Xstrata’s other shareholders.
A banker working on the rights issue admitted that the Glencore coal deal had been met with “huge scepticism” from shareholders. However, he said that once the details were explained to them, fund managers were more positive.
The stock market reaction, with Xstrata’s shares closing up 3.6 per cent, may not suggest a shareholder revolt, yet several leading investors are highly critical of the structure of the deal, which gives Glencore an option to buy back the coal assets in a year’s time.
The deal highlights the unusual nature of the relationship between Xstrata and Glencore. The two groups share a chairman, Willy Strothotte, and Xstrata was created in its current form in 2002 when Glencore used it as a vehicle to list its Australian and South African coal assets in London.
Ivan Glasenberg, Glencore’s chief executive, had previously poached Mick Davis from BHP Billiton, where he was finance director, and installed him to run Xstrata in 2001. Over the subsequent seven years the ambitious Mr Davis has pursued deal after deal, transforming Xstrata from a little- known coal miner into one of the world’s largest diversified mining groups.
While the two companies are closely inter-linked there are often tensions between them, especially given the strong wills and aggressive natures of Mr Davis and Mr Glasenberg.
Last year, Vale, the Brazilian miner, came close to buying Xstrata at the top of the commodities cycle, a deal that Mr Davis had orchestrated. But Mr Glasenberg wanted a higher offer from Vale and a guarantee that Glencore’s rights to market the coal and metals produced from Xstrata’s mines would be protected. He refused to pledge Glencore’s support for the deal, and after much wrangling Vale walked away.
Xstrata has bought assets from Glencore before, such as the purchase of its 33 per cent stake in the Cerrejón coal mine in Colombia in 2006, but this time the negotiations appear to have been more difficult. “It’s been a bruising discussion, said a banker working on the deal.
Xstrata admitted on Thursday that the two sides could not agree on the price for the Prodeco Colombian coal mines. “There was a tangible disagreement,” said Mr Davis. “This was the last asset [Glencore] wanted to sell,” added Trevor Reid, Xstrata finance director, arguing that Xstrata has secured a world-class asset cheaply.
Mr Davis said he approached Glencore with his plan for a rights issue last month. The commodity trader did not want to see its 35 per cent stake in Xstrata diluted, but was loathe to use its precious reserves of cash. “They didn’t want to draw down their credit facilities, so we started talking about assets.”
Mr Davis said buying the Prodeco coal business from Glencore “is a perfectly good outcome for us,” and that he had coveted the mines for some time. In fact, Mr Davis said one of Xstrata’s top coal executives used to run the mines and thinks they are high quality, long-life assets.
But analysts and minority shareholders are questioning whether Xstrata has paid a high price for the coal mines in order to help out cash-strapped Glencore. Prodeco generated profits of just $46m in 2007, although Xstrata said this figure was depressed by the high interest charges, which would be avoided under Xstrata’s less-leveraged capital structure.
The aspect of the deal that has really raised shareholder hackles is Glencore’s option to buy back the Prodeco mines in a year’s time for $2.25bn. Alex Wood, mining analyst at Mirabaud, said “this would effectively have proved to be a one-year loan [to Glencore] at 12.5 per cent with the coal asset as security”. He also thinks the presence of Glencore’s buy-back option could discourage Xstrata from developing the Prodeco mines.
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