When Alcan accepted Rio Tinto‘s $38.1bn takeover offer in July, it rubber-stamped the biggest-ever acquisition in the global mining and metals industry. The new company, Rio Tinto Alcan, will be capable of producing around 4.3 million tonnes of aluminium a year; making it the biggest producer of the metal worldwide.
“The transaction will bring Rio Tinto a set of aluminium assets of the highest quality, which are competitively well positioned and will transform our aluminium business into a world leader,” said Rio Tinto chairman Paul Skinner.
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Some claim the acquisition was a defensive move to stop Rio itself being taken over. Others suggest it is a land grab fuelled by the current boom in commodities.
Did Rio pay too much to fight off rival bids, and can it really fight off new interest from BHP Billiton?
Background
Rio Tinto’s buy-out of Alcan has been a long-running saga. Fellow North American aluminium producer Alcoa first suggested a merger with Alcan in August 2005, citing ‘significant value destruction risks’ as a reason to join forces.
A few months later the chief executive of Alcoa, Alain Belden, sent his Alcan counterpart Travis Engen a letter offering to buy the company for $22 a share in cash and 0.94 of an Alcoa share for each Alcan share. Engen rejected the deal.
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By GlobalDataIn 2006 new Alcan CEO Dick Evans met Belden to talk about reviving the deal and in August the Alcan board gave the merger the go ahead, providing it was a ‘merger of equals’ and not a takeover.
In September 2006, Evans warned Alcan the deal was progressing too fast and, by December, the whole thing had fallen through again as the two sides failed to come to an agreement about when Aloca could start buying Alcan shares.
With friendly discussions out the window, Alcoa returned in May 2007 with a hostile $27bn, $76 per share bid to buy Alcan. Most people at Alcan, from directors to workers on the shop floor, were united in their disapproval of the bid.
“[This was] despite two years of approaches by Alcoa,” says Dick Evans. “At no time was Alcan presented with a compelling proposal – either in terms of economics, structure or conditionality – that was in the best interests of our shareholders.”
Rio Tinted Glasses
With no chance of a deal being struck with Alcoa, Alcan announced that it was ‘talking to third parties’ about possible takeover bids. In June it emerged that BHP Billiton had appointed Merril Lynch to investigate its own takeover of Alcan, whilst industry insiders speculated in the press about possible bids from CVRD, Xstrata and Anglo-American. However, within a month, it was announced that Alcan had agreed to sell out to Rio Tinto.
“We had actually been in discussion with Alcan since 2006,” reveals Rio Tinto’s principal media advisor Nick Cobban. “Once Alcoa made its hostile bid, discussions moved onto a new plateau. Alcan was looking for a white knight and spoke to several companies about coming in to save the company, but it was our bid that was accepted.”
In the end, it was the good working relationships built up between Rio Tinto and Alcan over the years, plus Rio Tinto’s understanding of Quebec, that tipped the balance in its favour.
“We have thousands of employees in Quebec and we very much understand the strengths, the skills and the unique cultural attributes of Quebec,” says Rio Tinto CEO Tom Albanese. “It fits nicely within the overall Rio Tinto culture.”
“Just as importantly, both companies have a strong commitment to sustainable development, health and safety, environmental performance and community relations. I believe it will be quite significant in terms of ensuring orderly and efficient integration between these two companies.”
Terms of the deal
Alcan accepted Rio Tinto’s $38.1bn bid in July 2007, subject to the approval of the shareholders of both companies and various regulatory boards. Under the terms of the deal, Rio Tinto has agreed to pay Alcan $101 per share, with annual synergies put at $600m.
Alcan CEO Dick Evans will stay on to lead Rio Tinto Alcan, which will be based in Montreal. The deal also agrees that Alcan’s packaging business will be sold and a ‘continuity agreement’ with the Quebec government, which covers investments and loans, and a general pledge to ‘support Quebec society’, will be upheld.
“The agreed transaction with Rio Tinto is the outcome of a rigorous and thorough process conducted by the Alcan board,” says Alcan chairman Yves Fortier. “It achieves all of our stated goals, providing clearly superior value to Alcan shareholders while remaining true to our core values and obligations as responsible corporate citizens.”
Context: M&A
Mergers and acquisitions (M&A) are currently de rigeur in the mining industry, as high commodity prices are encouraging the larger companies to consolidate. Prior to Rio’s Alcan deal, Xstrata snapped up Canadian company Falconbridge for £9.1bn and CVRD snaffled another Canadian outfit, Inco, for £9.4bn.
The smart money is now on BHB Billiton launching a bid for Alcoa who, having missed out on the Alcan deal, is a sitting duck.
“There is increasing pressure on the large caps,” says Simon Toyne, mining analyst at Numis Securities. “The number of mid-to-large mining companies out there is shrinking rapidly.
“The North American mining sector used to be a source of decent-sized companies but most of them have been or are being acquired.”
Opinion is divided as to whether Rio Tinto’s dive into the M&A zeitgeist was a mere flexing of its muscles as part of the ‘big three’ [alongside BHP Billiton and Anglo-American] or whether it was a defensive move to prevent the company itself from being taken over. The reality is it was probably a bit of both, according to one senior analyst.
“Rio Tinto’s Alcan bid was to provide benefits of both defence and offence,” says Raul Renken, mining analyst at VSA Capital and secretary of the Association of Mining Analysts. “In the end, it was about deal making, and buying assets and market share cheaper than building them.”
Context: Price
Rio Tinto paid a high price for Alcan, roughly a third more than Alcoa was offering, leading to accusations from some observers that it paid too much.
Aluminium has risen steeply in price over the last few years, with Rexam, the world’s biggest manufacturer of drinks cans, complaining in July 2007 about having to pay $2,700 per tonne compared to $1,400 per tonne over much of the past decade.
If demand were to fall sharply, Rio’s Alcan price may begin to look high, although Renken believes the company got a good deal.
“Alcan has economies of scale and a fully integrated supply and manufacturing chain, so it needs no add-on development for the invested funds,” he explains. “It is one of the world leading players already so doesn’t need a campaign of developing new market share nor of ‘brand recognition’.
“Aluminium production and fabrication is highly energy intensive with high ‘barriers to entry’ by competitors. The medium and longer term forecasts for aluminium are favourable as well per their press released forecast in November 2007.”
Future prospects
Rio Tinto Alcan became effective when the takeover was completed in November 2007. The newly formed company employs approximately 65,000 people worldwide, with a production capacity of 4.3 million tonnes and projected revenues of $43bn. But how long will Rio Tinto Alcan survive in its current form?
The ink had barely dried on the Rio Tinto-Alcan deal when BHP Billiton, the biggest mining company in the world, came in with a takeover bid of its own. BHP offered Rio Tinto three of its shares for every one of Rio’s, equivalent to $140bn at current prices.
The bid was dismissed as being too low, and rumours abound that Rio Tinto have courted interest from the China Investment Corp to help fend off BHP’s bid, although the Chinese have denied this. So will BHP succeed in creating a £360bn mega mining company? Or will Rio Tinto continue to stand alone?
“Rio will successfully defend itself against takeover from BHP at the current offer terms,” says Renken. “But the real question the mining fraternity wants to know is: will the Chinese mount a superior bid to protect their iron ore needs going forward?”
China was certainly at the forefront of Rio’s thinking when they bought Alcan. Tom Albanese cited the 9% year-on-year GDP growth in China as a reason for optimism in the aluminium market. So will the Chinese fight back?
“It is definitely in China’s best interests short and long term to do so if they can achieve it,” says Renken.
“They’ve let it be known at the political level and at the industry level that ‘what goes around comes around.’ If they feel they are being price gouged by the pending 2008 pricing negotiations for iron ore, later on they’ll find ways to return like for like treatment to producers when supply/demand fundamentals are reversed.”
