Latin Finance - March 2008 - 25

vale-xstrata assets to reduce the impact of new debt reportedly brought the idea for the Xstrata financing to Vale in the first place. on financial ratios. The reasons for the departure are not clear, though it is likely the bank’s billions Cash, Stock and Politics of dollars in writedowns may have limited By far the most challenging part of the extent to which it could participate in acquiring Xstrata will be negotiating a price the syndicate group, which may have led tag with the company’s shareholders, to its dismissal by Vale. Another version largely comprised of Glencore, the Swiss says Merrill walked away after evaluating commodities shop that holds 35% of the difficult market conditions. The shop Xstrata’s shares. Glencore has long been is also reportedly involved in advising on one of the savviest commodity investors the BHP-Rio Tinto link up. and its decision to sell at this stage suggests When Vale initially made it known it to some analysts that the cycle may be was in talks with Xstrata, the first about to turn lower. Haggling over the question on lenders minds was whether number was said to be holding up a deal in or not Vale would sacrifice the investment February. grade rating it had fought so hard to maintain during the Inco acquisition. Assuming a $50 billion loan would drive the company’s debt to Ebitda ratio to over 2x from around 1x, say analysts. Vale is rated BBB/Baa3. Fabio Barbosa, Vale’s CFO, said after the Inco deal that maintaining that investment grade rating was crucial. So the first thing he did when it came time to line up financing for Xstrata was head to Cooking a deal: one of Xstrata's copper smelters in Australia London and New York to meet with ratings agencies and banks. Barbosa had to make At least $30 billion of the cost will have the case that this deal should not result in to come from cash on hand and equity. The a downgrade and that bank financing problem for Vale is that its ownership should be done assuming there is no drop structure is not ideal when it comes to in ratings. acquiring companies whose shareholders He seems to have made a convincing are used to having voting rights. That may argument. One ratings agency analyst be one of the reasons it chose to acquire tells LatinFinance that while no decision Inco with an all-cash bid in 2006. The company, which was privatized in has been made on the rating in light of 1997, has two classes of shares. The Xstrata, her shop considers a variety of ordinary shares are held 52% by Valepar factors, including the company’s – a group of five major shareholders, propensity to make enormous including BNDESPar, Bradespar and state acquisitions. The swings in leverage that employee pension fund Previ – and 39% result from big purchases are, in a way, is free floating. The preferred shares do expected, she says. A banker away from not have voting rights and account for the deal tells LatinFinance he is not 92% of the non-voting free float. In order expecting a significant change in the not to dilute Valepar control, Vale would rating, noting Vale says it would sell have to issue preferred shares. This would be extremely costly, since Xstrata shareholders will demand a hefty premium to receive non-voting shares, says a European investor who holds Vale ADRs. Vale could also offer ordinary shares and see Valepar diluted to below 50%, an unattractive option for a consortium that represents the Brazilian government via the BNDES and, to a lesser extent, through Previ. Heated debates over the wisdom of selling one of Brazil’s crown jewels have taken place in Brasília. Politicians worry that having foreigners control Vale might pose a threat to national interest. Meanwhile, BNDES’s president Luciano Coutinho said mid-February that not acquiring Xstrata might give Chinese mining companies a chance to acquire it, thus handing China a firm grip on the price of key commodities. The BNDES so far has not come out against the transaction, suggesting it may support the merger. President Lula, who is friends with Vale CEO Roger Agnelli, has been careful to not take any deliberate positions one way or the other. As LatinFinance went to press, local news sources reported that Xstrata shareholders had rejected an offer of around $76 billion and were demanding a $95 billion price. The 25% premium over Vale’s reported £40 a share offer is significant, and throws into question a number of the deal’s moving parts. A new offer will require changes to the debt financing and the stock and cash offer. And it forces Vale to rethink what the fair value of the Xstrata is and whether this bold attempt to expand the empire will be remembered as a value generating strategy or a hugely expensive mistake. LF March 2008 LATINFINANCE 25

Latin Finance - March 2008

Table of Contents for the Digital Edition of Latin Finance - March 2008