Xstrata should accept revised Glencore pitch

September 10, 2012

By Kevin Allison

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

Xstrata should accept Glencore’s revised $35.5 billion offer for the mining giant. What was originally billed as a merger of equals is now, for all practical purposes, a takeover at a modest premium. Changes to the proposed governance arrangements make the business combination look riskier than before. Glencore may have to pay up to convince Xstrata’s top people to take orders from its boss, Ivan Glasenberg, after his Xstrata counterpart Mick Davis leaves. But for all the recent animosity, this is a recommendable proposal.

Glencore’s final offer represents a 17-percent premium to the pre-deal status quo in February. That’s almost double the premium offered in the originally agreed merger. It may be short of the 30 to 40 percent typically expected in takeovers, but that reflects Glencore having partial control already via its existing 34-percent stake, which is also a deterrent to counterbids. It is also consistent with Glencore’s partial takeover of the Xstrata board: under the merger proposal, Davis was to be CEO under his exsiting chairman, John Bond. Now Davis will stay for only six months but Bond will continue – an astonishing reward given Bond’s poor handling of the merger process so far.

It looks more likely now that Xstrata’s top managers could follow Davis out the door. That’s a big worry given one rationale for the deal was to acquire Xstrata’s mining talent. Glencore has acknowledged as much, saying it will consult with Xstrata’s independent directors and shareholders on new incentives to prevent talent flight. It should be a solvable problem, at the right price. But it will take some delicate maneuvering given the blow up over Davis’s original retention bonus.

Xstrata may have to swallow its pride at the weakish premium. But a rival suitor is unlikely: Glencore’s blocking stake prevented Brazil’s Vale buying Xstrata in 2008. And the premium gains a few more percentage points when judged against Xstrata’s market value last week when investors were pricing in a high probability of deal failure. What’s more, Breakingviews’ calculations show Xstrata shareholders are already getting the full value of the synergies.

Having originally agreed to a lower premium, Xstrata’s board will struggle not to recommend the sweetened terms, even with the governance changes. The changes may just accelerate the inevitable. It was questionable whether Davis would have stayed that long anyway. Of course, Xstrata’s shareholders – including the Qataris, with 12 percent – may feel they have the bit in their teeth. They have yet to weigh in. But Xstrata’s directors have a fiduciary duty to say yes.

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