Glencore story is striking but not yet compelling

March 4, 2011

By Chris Hughes
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

LONDON — It feels like 2007 again over at Glencore towers in Baar. The Swiss commodities trader says earnings in the fourth quarter were $1.26 billion, just 3 percent below the quarterly average in the boom of four years ago. It looks auspicious for this year’s likely initial public offering. But the impressive financial performance isn’t in itself a guarantee that Glencore can get a float away at the $60 billion equity valuation being mooted in the market.

Glencore’s recent performance has tracked the turbulence in the global economy. Earnings for 2009 were nearly 50 percent below their 2007 peak of $5.2 billion. But last year, strong metal prices saw them climb 39 percent, to $3.8 billion. Assume Glencore matches its peak performance this year, and a reasonable sounding forward multiple of 12 would see it float at the kind of value being discussed.

But Glencore defies simplistic analysis. Earnings are distorted by heavy investment in projects yet to come on stream. Moreover the firm is a combination of disparate assets — a sizeable trading operation sits alongside listed and unlisted natural resource assets. Investors may prefer to value it on a sum-of-the-parts basis: and arriving at a reliable valuation for the unquoted businesses on the present disclosure is a challenge.

There are three issues the group must now address. First, it claims that its strategic and unlisted investments add value to its trading activities. Unless it can demonstrate how, investors may apply a chunky, investment trust-type discount to any SOTP valuation.

Then there’s governance. Glencore needs a robust chairman and independent directors who live up to the billing. Led by high energy chief executive and lead shareholder Ivan Glasenberg, the firm has hundreds of wealthy, and highly driven, traders operating in far flung places. Maintaining a disciplined culture, personified in boardroom heavyweights, will be critical to gaining investor confidence.

Above all, Glencore needs to demonstrate that is isn’t simply giving an exit for its traders at a top-of-the-cycle valuation that crystalises big gains on its $19.6 billion book value. The firm could restrict its directors from selling stock for as long as four years or more, according to a person familiar with the situation. It’s not clear how widely the restrictions will apply. Without lock-ups on those who are generating the current financial performance, investors will be wary of assuming it can continue post float.

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