MAC: Mines and Communities

London Calling on the biggest merger of them all

Published by MAC on 2007-12-08

London Calling on the biggest merger of them all

8th December 2007

If you consider mining a drab and uneventful business, think again ! The industry's mergers and acquisitions' rumour mill has run wild over the past two years - rivalled only by the paper chasing in financial markets. Just about every major mining company is apparently up for grabs (by each other). An unprecedented number of mid-cap and juniors have recently been gobbled up by the majors; not to mention those buy-outs of Inco (by CVRD) and Falconbridge (by Xstrata) last year.

But the most tantalising speculation must surely be the latest: will BHPBilliton succeed in a (so far hostile) takeover offer for Rio Tinto, its nearest rival among diversified miners?

On the very day that the Big Aussie made its bid, Rio Tinto's CEO was in China discussing - as it has done for many years - iron ore and steel milling prices. Did Rio's uber-executive, Tom Albanese, know then that BHPBilliton was going on the offensive - and was he seeking a "white knight" to poison it? Possibly not – and last week came a further denial from the heads of Baosteel, China's biggest steel maker, that it was preparing to step in where BHPBilliton had rashly dared to tread.

At first sight it seems a bit daft that a company, capitalised at only a little over five billion dollars, would make serious play for a conglomerate worth thirty times as much. In practice, however, the Chinese regime, through its state funds (generically known as "sovereign wealth") could swallow Rio Tinto with scarcely a hiccup (and probably BHPBilliton to boot).

But would it want to? And would Rio Tinto welcome the move?

These are important questions. In tackling them, it's not simply the current mis-match between Bao (dedicated only to steel) and Rio (dedicated to iron, copper, nickel, uranium, aluminium, diamonds, gold and more) which should be taken into account.

Long ago, this leading London-based mining company understood, before any of its rivals, how Chinese metals demand would come to dominate markets during the present decade. It also pipped BHPBilliton to the post by half a year, when forging a critical alliance in early 2006 with Russia's biggest mining conglomerate, Norilsk Nickel.

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Virtually every acquisition, merger, or joint venture that Rio Tinto has undertaken in the past fifteen years (as with Freeport in West Papua, or with North and ERA in Australia) has borne lucrative fruit. A Chinese "snatching" of Rio from the jaws of BHPBilliton would not only make commercial sense to the British-Australian company, but also put it in pre-eminent position when negotiating further Chinese contracts and funding new projects around the world.

However, this wouldn't happen swiftly: Rio Tinto does its home economics, lays its political strategy, carefully; and is always alert to anti-trust and other legal issues. Rio will also be acutely aware that the Chinese boom can't last for ever. As one industry insider was quoted last week: "If China really wants to combat rising iron ore prices, the only way is to further consolidate domestic steel mills and control excessive expansion, which has driven up iron ore demand."

That’s the key term - "excessive expansion" - reflecting a concern expressed increasingly within China, not only in regard to iron and steel. The regime can’t sustain its current level of metals consumption indefinitely. For the near future Chinese companies may be hot on the acquisitions trail, but there are finite limits to the raw materials they can absorb, turn into domestic products or into exports. An “over-heated” economy equates with rising industrial pollution and social unrest at home; it’s also not going down well with many of the communities they are exploiting overseas.

Rio Tinto surely understands both the limitations and the opportunities provided by this scenario, blurred and somewhat confused though it maybe. The company could carve itself an enviable role: ostensibly moderating Chinese excesses (including promoting Corporate Social and fiscal Responsibility), while profiting enormously from doing so.

That would be a public relations coup which - for a top player in a dirty industry like mining - comes only once in a hundred years.

Should Baosteel bid for Rio Tinto?

Interfax China Mining and Metals

7th December 2007

Baoshan Iron and Steel Group (Baosteel), China's largest steel mill, is better positioned than international miners to acquire the world's top mining company, Rio Tinto, an analyst told Interfax Tuesday, but not everyone is convinced that the move would benefit the steel giant.

"A Rio Tinto merger with a steel mill rather than a mining company like BHP Billiton will avoid the problem of further monopolizing the world's iron ore resources, and also bring greater stability to the global iron ore market. For this reason a Baosteel-Rio merger is more likely to win favor from both the Chinese government and the steel industry worldwide," a Shanghai Mysteel analyst, named Zhang Dongliang, told Interfax Tuesday.

"Baosteel largely depends on imported iron ore for production, and only has one iron ore mine. As China's leading steelmaker, looking for overseas mine acquisitions is always on Baosteel's agenda, and BHP Billiton's proposed takeover of Rio Tinto may well serve as a wake up call for Baosteel to speed up its mergers and acquisitions," Zhang said.

Zhang also said that Baosteel does not necessarily have to collaborate with other domestic steel mills to acquire Rio Tinto, and provided the Chinese government supports the move through financing and favorable policies, there is no reason why Baosteel would not be successful in acquiring a mining company like Rio Tinto. However, any cross-country merger will take time to arrange, as it has to prove itself as a win-win situation for both parties and gain worldwide support.

Upon questioning as to why Rio Tinto would make a good acquisition, Zhang said that "firstly, Australian miners are generally more attractive to China in terms of acquisitions than Brazilian miners like CVRD, which require a higher investment and come with the added difficulty of controlling the higher freight rates from Brazil to China. Secondly, Rio Tinto stands out among its Australian peers like BHP Billiton, FMG and OneSteel, as Baosteel has a long business history with Rio Tinto."

"While it is possible that other global steelmakers, like ArcelorMittal, Nippon Steel Corp., or POSCO, will make a bid for Rio Tinto, they haven't brought up the issue yet as far as I know," Zhang said.

However, another industry insider, who asked to remain anonymous, doubted that Baosteel will acquire Rio Tinto. "It's of more risk than benefit for a Chinese steel mill to acquire a mining giant like Rio Tinto, even with government support. Besides, Rio Tinto does not just mine iron ore, it also mines nonferrous minerals. All in all, I think it's illogical for a steel mill try to transform itself into an upstream miner, especially as iron ore prices are expected to fall in 2010."

"The highly consolidated steelmaking industries in the West won't be significantly affected by the proposed BHP-Rio merger, as they are well able to tailor steel production to the market. If China really wants to combat rising iron ore prices, the only way is to further consolidate domestic steel mills and control excessive expansion, which has driven up iron ore demand," the source added.

Baosteel's president, Xu Lejiang, said in Beijing recently that it is highly likely that Baosteel will propose to acquire Rio Tinto. The company is currently working on an acquisition plan, but no agreement has been signed by the two parties as yet, Chinese business newspaper, 21 Century Business Herald, reported Tuesday.

A Baosteel press department official declined to comment on the company's plans when contacted by Interfax Tuesday.

However, Baosteel executives Thursday denied recent domestic media reports that the company is planning to place an acquisition bid for Rio Tinto.

"The quotes were pure fabrication," Xu Lejiang, president of Baoshan Iron and Steel Group (Baosteel Group), China's largest steelmaker, was quoted as saying in a Shanghai Securities News report Thursday.

"In fact, Baosteel Group, in all its strength, can neither stand in the way of the possible BHP-Rio merger, nor can it succeed in acquiring Rio Tinto," Xu said.

The report also said that Rio Tinto has a current market value of approximately $150 billion.

Whereas Baosteel Group's Shanghai-listed subsidiary, Baoshan Iron and Steel Co. Ltd. (Baosteel), only reached a market value of RMB 39.05 billion ($5.26 billion) at the close of stock trade Thursday.

"Baosteel Group is deeply concerned over the consequences of a possible BHP-Rio merger, as there is always the danger that they will limit production, instead of increasing production, in order to support high iron ore prices," Xu said

Xu also said that a combined BHP Billiton and Rio Tinto might modify the current long-term contracted iron ore pricing system, which allows for a difference between CIF prices of Australian iron ore and Brazilian iron ore due to the freight cost gap.

Interfax commentary: Baosteel may well have the ability to purchase Rio Tinto if it receives sufficient support from the Chinese government in terms of financing and preferential policies. However, this is unlikely to go down well with an international steel community that is already clamoring over Chinese government interference in the industry. Moreover, regardless of ability, any bid would first have to get past Australia's strategic review board for sovereign assets. China is understandably concerned over rising iron ore prices, but has itself to blame for turning a blind eye to unrestrained expansion in its steel industry. Besides, iron ore prices are expected to fall in 2010 as international suppliers catch up with demand, and industry analysts have commented that the steel giant may well be better off sticking to what it knows instead of trying to become an upstream mining giant.


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