Common sense disappears in mining mergers
Thankfully focus is now on costs, cash and core assets
Many a good mine is spoiled by sinking the shaft, as the old adage goes. The new adage might run: many a good mining company is spoiled by a merger.
The charge-sheet is long and damning, from Rio Tinto’s hubristic takeover of Alcan, which ended in the humiliation of a rescue rights issue, to the deal that is being unwound with as much dignity as BHP can muster, its value-destroying purchase of Billiton.
However, pride of place must go to the merger that (fortunately) never was, BHP Billiton’s assault on Rio Tinto. It is frequently forgotten how close this barmy idea came to fruition: it was only the regulatory delays that eventually ran it into Pilbara’s desert sands. BHP had argued that it was merely iron ore production that would be merged (with splendid cost savings, of course) rather than sales. To which the Chinese eventually replied: pull the other one.
Perhaps it is something about mining and those at the top of these vast enterprises. The actual process of winning the minerals is really quite dull, once you have got used to the sheer scale of the production, so when the investment bankers send round their hottest M&A boys, the executives are vulnerable to their sales pitch.
Think of the impact of a “transformational” deal, the thrill of the chase, the media spotlight, the boasting rights and – of course – the massive pay rises. You will be number one! Ride the commodities supercycle! No wonder common sense disappears, along with the first rule of mining investment (never buy an aluminium producer). By the time it all ends in tears, the executives who have laid waste to the shareholders are long departed with their winnings.
Today’s mantra is the workaday one of cost reduction, cash generation and concentration on core assets. This is certainly less damaging than corporate hubris, but if everyone is selling mines at the same time, decent prices will be hard to realise. In the case of Billiton, it is a fair bet that most of its assets have already been hawked round the industry before BHP chief executive Andrew Mackenzie produced his plan. Ah well, demerger is so much easier, since it avoids having to price the bits he does not want.
It may be that BHP will be better off without Billiton, although the feeble justification about “focus” turns the usual economies of scale argument on its head. Meanwhile, both BHP and Rio are cranking up production of iron ore just when Chinese demand is weakening. The gains from more output will be more than wiped out by lower prices.
The only good news is that cash that might have been spent on empire-building is now more likely to come to the shareholders. We should be grateful for small mercies.
Buy toothbrushes
The latest M&A boom is well under way, the escape of Time Warner from Rupert Murdoch notwithstanding. This is music to the bankers’ ears, but their joy is not quite unconfined, since too many companies are doing without them.
Two-thirds of technology acquisitions in America worth over $100m so far this year have dispensed with bank advisers. This may be because the bankers have little more idea than the rest of us of exactly what Nest Labs, DeepMind or Songza do.
These three (among others) have been bought by Google this year. Rather than the traditional analysis, co-founder Larry Page is said to use the “toothbrush test” – ie. Is this something everyone could use every day to make their lives better?
That is all very noble, but ignores the little question of price. The $19bn that Facebook paid for WhatsApp looks absurd, unless you consider it as adding 10 per cent to the outstanding Facebook stock for an application to replace pricey text messages for a billion consumers.
As Max Nisen at Quartz points out, having voting control (and the paper wealth of a small country) allows the management to pay up for the next toothbrush whatever the outside shareholders think. They might remember that Google’s flotation price looked almost as fanciful as does WhatsApp today, yet those buyers have multiplied their investment 10 times in a decade. So an ounce of instinct may be worth a tonne of analysis. Just don’t tell the bankers.