Anglo takeover saga could summon mistakes of past cycles

Mike Henry, CEO, BHP

THE possibility that BHP Group’s takeover proposal for Anglo American last month could trigger a fresh wave of M&A activity in the mining sector raises the question as to whether mining valuations are in danger of overheating.

Yes, according to Investec Securities. The bank comments in a recent report that BHP’s preference for shares over cash is a sure-fire signal. “All share acquisitions traditionally indicate a sector that is getting expensive relative to the broader market,” says mining analyst Nkateko Mathonsi. A cash or cash and share offer would “not necessarily be well received by the market”, she adds.

All eyes then on what BHP does next, having had a “how about it” proposal kicked back by Anglo as too cheap. The Australian firm does not want to revive memories of its “deal fever” reputation picked up under previous management. Having said this, much is at stake. Its Anglo deal has been at least four years in the making and copper is the group’s preferred commodity. It’s worth noting that in the absence of organic expansion, BHP’s copper production falls from around 2027, according to BMO Capital Markets research cited in a Bloomberg article.

Anglo’s rejection of BHP’s proposal has heightened speculation that interlopers will enter the bidding for Anglo, including Rio Tinto and Glencore, or even of combined offers, according to Deutsche Bank. There may even be exotic interest for Anglo from sovereign players in Saudi Arabia or China. “The die is cast for China to come in and trump BHP’s offer with relatively little resistance from the South African authorities,” says John Meyer of SP Angel in one colourful market dispatch.

The involvement of activist investors Elliott Management, which has emerged as a 2.5% shareholder in Anglo, and Bluebell Capital Partners, would also appear to raise the ante on M&A.

Critically, however, there are some major differences between the mining market of today compared with the last M&A cycle, which ended in the previous decade. Instead of the bust-up balance sheets of the 2012 mining sector meltdown, the average net debt to earnings before interest, tax, depreciation and amortisation ratio of the majors in 2024 — BHP, Anglo, Rio Tinto and Glencore — is less than one times. Dividends and measured growth expenditure feature highly on all of the major mining company capital allocation schema.

While Rio Tinto would certainly have an interest in Anglo’s South American copper mines, its lower-rated paper puts it at a disadvantage to BHP. It therefore has less flexibility to offer a premium for Anglo. Glencore may well have fewer antitrust pressures posed by a bid for Anglo than raised by a BHP bid, but there’s not a company less seduced by “deal fever” than the Switzerland-headquartered group. Glencore is rumoured to be studying an offer. Let’s see what emerges. Both Rio and Glencore would be unlikely to bid for all of Anglo and it’s questionable if either would have the appetite for Anglo’s Woodsmith polyhalite fertiliser project, absorbing $1bn a year in capital, that BHP would entertain.

The war for Anglo may therefore turn out to be a restrained one. It may even be that BHP is unassailably the best placed bidder. What’s certain, however, is that given Anglo’s rejection of BHP’s opening proposal, there will have to be an improvement to its current implied 0.7097 share offer.

“We believe there would be clear capacity to add a $5bn cash component which would be equivalent to a 13% increase to Anglo’s current valuation and less than a quarter-turn in leverage to BHP,” say analysts Alan Spence and Qiang Zeng at BNP Paribas Exane.

All change for Anglo

Another certainty is that Anglo is changed forever; the sacred seal has been broken on a structure deemed inviolable. To some extent this falls within Anglo’s own making. Sources say its ability to expand aggressively into copper is constrained by the funding required for Woodsmith and is a key factor in BHP’s decision to pounce on Anglo now.

Also, Anglo has dithered on a sub-optimal structure for too long, preferring to keep the peace with the South African government rather than tackle problems that long bothered analysts. If BHP could unwind its dual-listed London/Melbourne structure, why couldn’t Anglo tackle investors’ long-standing questions about its listed subsidiaries, Anglo American Platinum (Amplats) and Kumba Iron Ore, in which it has a 79% and 70% stake respectively?

Investors with holdings in both Anglo and BHP will now be unlikely to wait on Anglo’s strategic review, announced by CEO Duncan Wanblad in February. “We currently hold both BHP and Anglo American in our local portfolios and view this deal as a net positive,” says Sameer Singh, an analyst at Private Clients by Old Mutual Wealth. “BHP shareholders would gain access to world-class assets that offer meaningful growth an efficiency opportunities while Anglo American shareholders would receive a fairer value far sooner than it would take for the market to replicate this,” he says.

SA Govt leverage?

Already, it’s been leaked that Anglo is planning to accelerate its strategy, with overtures to sell De Beers — not an asset BHP immediately plans to sell, interestingly. BHP’s proposal to unbundle Amplats and Kumba, while potentially raising some short-term risk of share flow back, keeps money in South Africa and is likely to be replicated by other Anglo bidders if they emerge. Roughly half of operating free cash flow — about $11bn — generated by Amplats and Kumba in the past five years was absorbed by Anglo’s focus on investments outside South Africa.

Critics of the BHP deal argue that orphaning Amplats and Kumba will constrain their ability to grow, especially without the heft of Anglo’s balance sheet. They also point, rightly, to the loss to South Africa. Anglo is “a convener” of the business conversation broadly in the country and uses its balance sheet to leverage third-party funding for the national good. Its ability to keep social programmes afloat through the cycle is another factor.

But these are local grievances that don’t carry the weight the government might impute to them, not in the cold waters of an unsympathetic global capital market. There are even ways around the potential flow back in shares by unbundling Amplats and Kumba.

Deutsche Bank floats the notion of listing the Anglo rump in London or the yet more interesting idea of BHP offering its shares for the assets it most wants (copper). Anglo could then effectively “receive” these shares into the London-listed Plc, possibly for a dividend in specie.

There may even be separate bids for both of Kumba and Amplats by interlopers, potentially. That’s how wide open the Anglo strategy has been blown by BHP.

A version of this article first appeared in the Financial Mail.