The rights road to Rio

May 6, 2009

– Neil Collins is a Reuters columnist. The views expressed are his own –
REUTERS
Shareholders in Rio Tinto would very much like to buy a bond yielding 9 percent, convertible into ordinary shares at $45, a tiny premium to today’s price of 29.30 pounds.

Unfortunately, if their board gets its way, they won’t get the chance, since the bonds are all being bought by the state-owned Aluminium Corporation of China (Chinalco).

Assuming the Australian authorities can be squared, shareholders in both the UK and Australia will be invited to rubber-stamp a deal which looked panicky at the time it was struck in February, but looks downright daft today.

The deal would give the Chinese a further 9 percent of Rio’s equity to add to the 9 percent they bought at the top of the market last year, but the $7.2 billion raised is nothing like enough to meet bond repayments of $8.9 billion due this year and $10 billion next.

In the depths of the financial winter, Rio’s directors also agreed to sell minority stakes in nine of its best aluminium, copper and iron ore mines to raise $12.3 billion. Chinalco also gets two seats on the Rio board. Given the recent track record of the directors, this might be the only positive aspect.

The principal justification for the deal was that there was no alternative. But since it was done, copper prices have rebounded — in good part, thanks to Chinese stockpiling — and, more to the point, the capital markets are re-opening.

Investors who were recently obsessing about liquidity are now falling over themselves to subscribe to new share issues wherever there is a plausible story to support them.

Fortunately, it’s not too late for the Rio shareholders to ditch this deal, even if the board cannot be seen to be helping them. If they vote it down, then it collapses, and they are even spared the $195 million break fee.

The timetable, though, is getting tight. The original target of this month for the meeting has slipped, and it will be July before shareholders get the chance to vote, leaving just three months to execute Plan B.

There are big advantages in greater Chinese involvement with Rio, not least the prospect of favourable treatment to explore the Middle Kingdom itself. There is scope, here, for something better, if the directors and Chinalco can find a face-saving way to back down.

The recovery in Rio’s share price has taken its market value to 30 billion pounds, comfortably high enough to support a 10 billion pound rights issue, and make the balance sheet look reassuring to potential new lenders. Rio’s shareholders own a world-class asset whose output is always going to be needed.

Voting this deal through would effectively give it away.

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