Vale Must Remember That Only Fools Rush in As It Eyes Xstrata
Posted on: Monday, 28 January 2008, 06:00 CST
By Peter Taylor
YOU can hardly blame Vale, the Brazilian miner once known as Companhia Vale do Rio Doce, for wanting a bigger slice of the pie. Awash with funds thanks to sky-high commodity prices caused by China's seemingly infinite capacity for economic growth, the mining industry is going through an unprecedented wave of consolidation - hence its eat-or-be-eaten mentality.
BHP Billiton's $130bn (Pounds 66.3bn, 89bn) bid for Rio Tinto is evidence aplenty of that. But that proposal is no template for Vale's move on Xstrata, the Anglo-Swiss miner, announced this week. Aside from the monumental sums involved, BHP Billiton and Vale are playing on very different wickets.
The Brazilian giant is currently the world's biggest iron ore producer, with a fifth of global production. But a push to diversify into new markets is at the heart of its Xstrata plan. BHP Billiton's tilt, on the other hand, is more about global domination - in City- speak, "synergy" or "scale" - than diversification.
True, a combined Vale-Xstrata entity would make it the world's biggest nickel miner with an estimated 30% share of refined output. There are a number of other nickel producers, however, unlike in the iron ore market, which has just three suppliers worldwide.
China's response to the Vale proposal will reflect that. While China is clearly agitated about BHP's Rio bid, fearing that a merged company would have too much pricing power, it is likely to be largely indifferent about the prospects of a Vale-Xstrata union. That should help minimise the hurdles Vale faces if it does chase Xstrata. If anything is to seriously jeopardise the likelihood of Vale tabling a formal bid, let alone the success of such a bid, it is the big T - timing.
With the world's financial markets facing extreme volatility, unsure whether they are ripe with bargains or in the midst of a prolonged slump, Vale faces a monumental task to ignite enough enthusiasm among investors and would-be backers to justify embarking on an ambitious takeover. The company has acknowledged exactly that, warning that "the current conditions in the international capital markets represent a great challenge in the context of any substantial strategic movement".
Everything has its price, of course, even in a turbulent marketplace. Vale is yet to talk dollars, but the company may pay up to $90bn for Xstrata against a market capitalisation two-thirds of that. The price could go higher still, perhaps beyond $100bn. The speculation also centres on Vale offering only $35bn in cash, with the remainder of the offer in preference shares. That certainly makes such an offer more conservative on Vale's side of the equation, but proportionally less appealing for Xstrata investors.
Nonetheless, offering $35bn in cash would be no small undertaking. Nor would raising it, in the current climate. The Brazilian miner is thought to be assembling a banking consortium to finance the deal, with Merrill Lynch and Citi among the names bandied about. But even if it is successful in securing the finance in these days of credit crunch, its investment-grade credit rating could be threatened.
The Brazilian giant says it will exercise the prudence that "has characterised its management through the years" in reaching any decision on a full tilt at Xstrata. It is too early to criticise Vale for eyeing Xstrata. If anything, the company is to be commended for continuing to consider growth opportunities despite the downbeat market.
But investors should hope the company is not just paying lip service to prudence. Foolish, impatient decision-making can be concealed in a buoyant market; but in a downturn there is never any hiding away from stupidty or hubris.
(c) 2008 Sunday Business; London (UK). Provided by ProQuest Information and Learning. All rights Reserved.
Source: Sunday Business; London (UK)
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