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Rio Tinto’s long-awaited deal comeback is stuck in limbo

Monday, November 14th, 2022

Mining giant Rio Tinto Group is finding that its long-awaited return to cutting a major deal without the brash spending of its past is proving a challenge.

Its more than $3-billion bid to buy the rest Turquoise Hill Resources and boost its exposure to a massive copper deposit in Mongolia has effectively been put on hold. Rio struggled to win investor support, forcing it to offer unusual terms to the most stubborn holdouts which appeared to be enough to close the deal.

But within days, Canadian regulators took issue with the side deal, compelling Turquoise Hill to postpone the shareholder vote.

M&A is a sensitive subject at Rio. Disastrous deals more than a decade ago almost sunk the company, cost a former CEO his job and led to regulatory probes. Yet there’s a recognition within the world’s No. 2 mining firm that those issues have cast a shadow for too long.

Rio’s September offer to buy out the 49% stake in Turquoise Hill it doesn’t already own — at improved terms from a bid earlier in the year — makes a lot of sense for a return to major dealmaking.

It would allow the company to consolidate control over the Oyu Tolgoi copper mine, which could become one of the world’s biggest. The metal is among Rio’s favored commodities and an essential part of the global green push — and once the underground component of the mine is completed, it would help the producer to close the gap on its biggest copper rivals.

Plus, a deal earlier this year with the Mongolian government removed much of the political risk around Oyu Tolgoi. Crucially, a deal would also show that CEO Jakob Stausholm can secure growth without destroying shareholder value.

“Rio is not as diversified as its peers and the ability to grow away from iron ore just isn’t there without deals,” Liberum analyst Ben Davis said. “If you’re struggling to do deals like this it doesn’t bode well.”

SHAREHOLDER DEAL
Despite winning board approval for the September offer, Pentwater Capital Management and SailingStone Capital Partners — which combined hold about 16% of Turquoise Hill’s outstanding stock — opposed the deal on the grounds that it undervalues Turquoise Hill. An influential advisory firm also echoed that view.

Rio countered that by warning that if Turquoise Hill shareholders didn’t accept the offer, they faced having to stump up billions in the next two years to fund Oyu Tolgoi’s development.

With Rio facing defeat, it got the vote pulled at the last minute. It then struck a side deal with SailingStone and Pentwater where the two investors agreed to withhold their votes in exchange for C$34.40 a share — well below the C$43 offer price — with an arbitration process to decide a final price.

The move meant the holdout investors wouldn’t have to back down while allowing the deal to go ahead, all without Rio raising its bid and also avoiding a massively diluted rights issue.

It did however anger some minority shareholders who felt SailingStone and Pentwater would get a sweeter deal. Bahamas-based Caravel Capital lodged a complaint with Quebec’s securities regulator and Caravel fund manager Jeff Banfield said other, larger shareholders made similar complaints.

Faced with investor pressure, Quebec’s securities regulator asked Turquoise Hill to delay the acquisition vote indefinitely as it studies whether the agreement is legal, injecting fresh uncertainty into the deal.

BEST OFFER
Rio has repeatedly said it has made its best and final offer for Turquoise Hill. Rio insiders say the view inside the company is clear that its credibility would suffer if were to raise its bid.

Disastrous past deals highlight the importance of that credibility.

At the height of the commodity supercycle in 2007, Rio entered a bidding war with Vale and Alcoa for Canadian aluminum maker Alcan. It blew them both out of the water with a $38-billion cash offer that sent its debt spiraling. Described as the worst deal in mining history, it soured as aluminum demand slid during the global financial crisis and Chinese supply flooded the market.

It forced Rio to take almost $30-billion in writedowns and ultimately cost the CEO at the time his job.

Then in 2011, Rio bought Mozambique coal producer Riversdale Mining for $3.7-billion in a rushed deal. But it failed to develop the project as planned and the unit was sold for $50-million following huge impairments.

Rio has spent much of the past decade appeasing shareholders with record dividends as it focused on making cash from its sprawling iron ore mines. Yet new Chairman Dominic Barton has said the M&A reluctance has come at a cost.

Many good suggestions from within the company have been missed over fears of investor backlash, he said last month, adding that the board would be involved in dealmaking going forward.

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