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Xstrata’s clash of Anglo American culture

Just when you thought M&A was dead, along comes the $68bn “merger of equals” proposal between Anglo-Swiss mining giant Xstrata and rival Anglo American.

Xstrata confirmed over the weekend that its chief executive Mick Davis recently wrote to Anglo American’s outgoing chairman Sir Mark Moody-Stuart about doing a deal. On the back of that, Anglo’s shares surged as much as 12.4 percent before falling back during Monday’s trading. Spurred on by uncertainty in the global economy, a need for substantial cost-savings, the recent merger of Rio Tinto’s iron ore business with that of BHP Billiton’s – and a belief that Xstrata must double its size to catch its closest competitor, Rio Tinto – and you have the rationale behind Davis’s thinking.

“The combination would create a premier portfolio of operations diversified across multiple commodities and geographies, with enhanced scale and financial flexibility to fund future growth,” Xstrata said in a statement. According to Citi analysts, the deal “makes financial and strategic sense, and could create synergies of up to $750m. The combined entity would be a global leader in base metals, platinum, ferrochrome and coal”.

Put another way, the new company would be number one in zinc and platinum production, as well as thermal export coal and ferrochrome. It would be number two in copper, number four in nickel, and number five in iron ore and coke. Even though metal prices have made major gains for the year to-date, mainly driven by robust Chinese industrial activity and restocking, Chinese imports of those commodities are slowing. Xstrata sees a tie-up with Anglo American as a defensive move.

While some of Xstrata’s major shareholders – including Glencore, BlackRock and Capital Group – are said to be behind such a merger, Xstrata’s financial advisers, Deutsche Bank and JPMorgan Cazenove, will be facing substantial difficulties to close a deal. Already, Anglo American’s advisers, Goldman Sachs and UBS, are mounting their client’s defence. Apparently, Anglo’s assets are better quality and have more durability. “Why would you want to dilute that portfolio with lower value assets?” an informed source told Reuters.

There would also be a clash of cultures between the two mining groups. Anglo American’s chief executive Cynthia Carroll is understood to have a more command-and-control style, while Davis believes in more self-autonomy of business units. Indeed, Carroll has so far not been persuaded by Davis’s overtures since Xstrata recapitalised its balance sheet with a $5.9 billion rights issue in March. “Anglo’s reluctance to do a deal and the stark difference in corporate cultures make a tie-up a possibility rather than a probability, in our view,” Citi stated.

It is also unlikely that Xstrata could go hostile since that would rankle the South African government, which has a 5.5 percent stake in Anglo through the Public Investment Corporation.

As for Brazil’s Vale, which has been mooted as an alternative partner for Anglo American or Xstrata, it would be financially stretched. It has $9bn of net debt: gearing that up further would “seriously risk” its investment grade rating. Paper financing would be complicated by Vale’s dual structure of ordinary and preferred shares.

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