Glencore (LSE: GLEN) has a reputation of growing through acquisitions, although the global commodities powerhouse led by CEO Ivan Glasenberg has been quiet recently.
Following the $5.9bn disposal of a Peruvian copper mine, Glencore spent $1.4bn acquiring West African oil explorer Caracal Energy earlier this year. However, despite the company’s remaining firepower, Glencore has since not made any sizable acquisitions.
Hunting for big fish
For this reason, it’s believed that something big is brewing. Indeed, for the astute, long-term investor, now is the time to buying companies with exposure to the commodity sector, as valuations have collapsed over the past few years.
No commodity has suffered more than iron ore. The price of the steelmaking ingredient has fallen by nearly 50% since the beginning of last year and miners with exposure to the sector are feeling the pain. Rio Tinto (LSE: RIO) (NYSE: RIO.US) and BHP Billiton (LSE: BLT) (NYSE: BBL.US) are two of the sector’s biggest players and both have underperformed the market so far this year.
Losing money
City analysts have estimated that a $1 drop in the average iron ore price, wipes out $135m of annual net profit after tax at BHP Billiton and $122m at Rio. Since the beginning of this year the price of iron ore has dropped by around $30 per tonne. So, these figures suggest that the falling price has cost BHP around $4bn in annual profit, while Rio has lost out on $3.7bn of annual profit.
Still, BHP and Rio have extremely low production costs, so they can weather the low iron ore price. Rio has previously stated that it is able to produce iron ore at an average price of $21 per tonne. Meanwhile, analysts believe that BHP’s production breaks even at around $45 per tonne.
Glencore on the other hand, has almost no exposure to the iron ore market. The group approved a $900m mine project in Mauritania this year but that’s it. Nevertheless, Glencore’s trading arm has been increasing its exposure to iron ore, raising suspicion that the company is ready to add exposure to the sector.
And this is why analysts have been speculating that Rio could become prey for Glencore. Rio’s valuation has fallen due to the low price of iron ore, presenting an attractive opportunity.
Decision making
Rio is the larger company with a market capitalization of £59bn, compared to Glencore’s £47bn, but just like it did with Xstrata, Glencore is likely to use its stock as currency if a deal goes ahead.
If a deal does go through, it’s estimated that Glencore could free up a staggering $49bn in cash from the combined entities balance sheet. Shareholders would be richly rewarded.
Of course, Glencore could be looking at other alternative acquisition targets. BHP’s “spinco”, a selection of unwanted aluminium, nickel, silver and coal assets, with a market value estimated at between $10bn and $15bn, could be an attractive acquisition for Glencore.
Unattractive assets
There has also been some speculation that Glencore could make an all-share offer for Anglo American (LSE: AAL) next year. The trouble is that Anglo’s portfolio contains many assets that would be unattractive for Glencore. Unattractive assets include Anglo’s platinum and diamond businesses. Around two thirds of Anglo’s projects produce only 20% of earnings.
Still, Anglo has an iron ore business with attractive profit margins, so maybe a break-up is on the horizon?
