I should have included this in my previous post and mention that the report was commissioned for KAH,not EXT.
Extract Cross-Holdings
EXT’s three largest shareholders, KAH, Rio Tinto and Polo Resources, have recently each provided irrevocable commitments to apply for their full entitlements under the recent Offer and each to subscribe for any shortfall from that Entitlement in the same proportion as their holding in EXT as at the Record Date. Of note, there is obvious collaboration between the two largest shareholders, Kalahari Minerals and Polo Resources, combined they control approximately of 50% of the stock in EXT. They were recently behind the removal of EXT’s Managing Director Peter McInytre and the Chairman a number of months before that.
Rio’s Interest in Rossing South
We note that despite a global financial crisis, divisions within the Board, spiralling debt, plummeting share-price, thousands of redundancies, closure of mines, asset sales and a highly controversial deal with Chinalco, Rio Tinto saw the discovery of Rossing South as so significant that they tried to acquire EXT (largely before the market had realised or had understood what EXT had discovered). It subsequently appears that Rio tried a number of different avenues to orchestrate deals to acquire large parcels of shares from a number of parties.
Rio’s Possible Intentions
There is some confusion among some investors that since Rio Tinto is a minority shareholder, coupled with its majority holding in the nearby Rossing Mine, that it is a fait accompli (or simply a matter of time) before Rio launches a take-over Offer somewhere in the vicinity between our calculated NPV for KAH NPV (225p) or three-year target (346p). Kalahari Minerals and Polo Resources together hold more than 50% of the stock and by default, effectively control the company.
We are, however, some what more circumspect. Despite the Alcan acquisition, large Mining Houses such as Rio Tinto do not get to be their size without judicious acquisitions that contain inherent organic growth. By paying market value, as per our valuation, it would therefore imply negligible growth, unless there were equally significant additional discoveries to be made.
In undertaking an acquisition, a Mining House like Rio Tinto have a number of internal hurdle rates (at this point the analyst will rely on his own experience to illustrate the decision process).
We should state that the Rossing South deposit ticks all the boxes for Rio Tinto being a strategic asset for the company, namely: · Relatively high-grade (highest known grade for an alaskite); · Long-life (probably to be the second largest uranium deposit in the world after Olympic Dam); · Uranium is a strategic mineral; · Large through-put (likely output to be 7,500 to 10,000t U3O8 pa) accounting for in excess of 14% of global primary supply (at 2008 levels); and · Relatively low-cost producer (second quartile - a function of grade).
We suspect one of the key criteria is the ability of Rossing South to have a post-tax rateof- return of between 15 to 17% per annum above C3 costs (including production costs, prior exploration expenditure, depreciation and amortisation). Rossing South clearly does that and more. Therefore assuming a risk-free rate of 6.5% and a long-term price of US$65/lb U3O8, our mining scenario and current cost base, we would expect Rio Tinto (or some other Mining House) to be willing to pay between $4.93 and $8.28 per share for EXT and 121p and 204p per share for KAH.
This is obviously substantially below our valuation. We would point out that if a takeover offer was made by an integrated or state organisation, then these price targets calculated on behalf of a potential Rio bid would not be relevant.
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