An insight into the funding of Xstrata's probable bid for MIM Holdings may have been gleaned earlier this week in reports from Beijing that Yankuang Group of China was negotiating to buy 51 per cent of Xstrata's Ulan mine in NSW's Hunter Valley.
The mine, which is 90 per cent owned by the London-listed group, produces 5.8 million tonnes of coal a year and would be worth several hundred million dollars.
When the final terms for MIM are unveiled, it will have been one of the longest due diligence periods, lasting more than six months. Rumours continue that a $1.65-a-share bid is in the offing, but such a price is unlikely to get a friendly nod from the MIM board.
Xstrata needs this deal if it is to remain relevant. The group, 40 per cent owned by Glencore, must diversify its commodities away from coal, which accounts for 80 per cent of pre-tax earnings. Geographically, it must shift from its higher-risk (in political terms) home of South Africa, from which 55 per cent of its operations are based.
The focus is very much on deal-completion risk. Can Xstrata obtain the funding for the purchase?
At $1.65, MIM's equity would be valued at $3.3 billion. Late last year, the terms of the deal were mooted to have been $1 a share in cash plus one Xstrata share for every 20 MIM shares.
That makes sense because Xstrata can probably spend up to $US1billion ($1.7 billion) without returning to the market for fresh equity. But now that the offer is expected to be all cash, if it does not sell Ulan it may have to conduct a rights issue.
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Assuming Glencore and fellow major Xstrata shareholder Capital Group took up their entitlements, such an equity raising should be a straightforward proposition. Xstrata also has considerable free cash flow, meaning it can crank up its debt levels.
Morgan Stanley says the group has only a 16 per cent gearing ratio; and, based on its levels of free cash flow, it will be debt-free by 2006. Likewise, MIM has a lazy balance sheet with room to increase gearing by several hundred million dollars.
So reasons for the lengthy negotiations are probably not related to funding, but rather price.
There is probably still a wide gap between the parties on this front. Depending on which analyst you listen to, the valuation is anywhere between $1.58 and $1.78. MIM closed at $1.45, up 6¢ in what proved to be a strong day for the stockmarket.
