BHP Abandonment of Joint Venture Benefits Chinese

By: Anthony_David

The fate of the proposed $116 billion Pilbara iron ore joint venture between global mining giants BHP Billiton and Rio Tinto has finally been sealed, 16 months after the proposal was first announced. In view of the increasing possibility of not obtaining the necessary regulatory approvals, the two companies have decided to abandon the proposal. CEO Marius Kloppers of BHP Billiton said, “With the termination of the joint venture, this focus on efficiently growing and operating our Western Australian Iron Ore business through our existing Perth-based iron ore management team will continue”.

The decision to cancel the proposal was not entirely unexpected, given the sharp opposition to the deal from regulators, investors and steel makers. Consequently, the effect on the share prices was not noteworthy. CEO Tom Albanese of Rio Tinto said, “The full value of the synergies on offer from a 50:50 joint venture was a prize well worth pursuing.”

Analyst Bill Lyons at ATI Asset Management said, “The failure of the joint venture will be slightly more positive for Rio than BHP, but it’s important to remember it’s actually a negative for both companies.”

The Australian Competition & Consumer Commission (ACCC), the European Commission, the German Federal Cartel Office, the Japan Fair Trade Commission and the Korea Fair Trade Commission have all expressed their disapproval of the deal in the current form. An informed source said, “Extensive discussions with the European Commission indicated the companies would not be able to go ahead with the joint venture without large divestments, which would have destroyed the synergies and eroded long term growth options. With that in mind, both parties didn’t think that was acceptable.”

Under a recent agreement with the state government, the two companies could still attempt to share infrastructure and blend iron ore in Western Australia and earn at least half of the projected savings of $10 billion each. However, before undertaking any collaboration, the two companies would have to review the objections raised by the regulators. Portfolio Manager James Bruce of Perpetual commented, “It’s likely that both companies will continue to invest heavily in the Pilbara. Both iron ore businesses will continue to generate significant cash flow and returns for shareholders in both companies. It would have been better in a combined joint venture but regardless, with iron ore prices where they are today, both businesses are earning very high levels of return.”

The decision to abandon the proposal has been heartily welcomed by the World Steel Association and the global steel industry. Director General Ian Christmas of World Steel said, “We are obviously pleased that this joint venture is no longer going ahead. We have long argued that allowing BHP Billiton and Rio Tinto to merge their Western Australia iron ore businesses was not in the public interest.”

Portfolio Manager Ric Ronge of Pengana Capital said, “Both companies have a very disciplined capital management and are chasing organic growth. As for the JV, the writing was on the wall for quite some time with antitrust issues. There were headwinds and enough rumors to take away any surprises from investors.”

The amalgamation of the two giants would have eclipsed Vale, the global leader in iron ore production. Further, the joint venture would have caused quite an upheaval in the iron ore market in terms of price. The failure of the proposal will now ensure that 30% of the sea borne iron ore trade remains with Vale, 25% with Rio Tinto and 15% with BHP.

Speaking of domination, the Chinese state owned steel sector has reached new heights of global domination accounting for 46% of the world’s steel production. The nation’s “Going Abroad” program is aimed at expanding its presence in the global steel market. According to an analysis carried out by the American Iron and Steel Institute and the Steel Manufacturers Association, “After creating, developing and nurturing massive ‘national champions,’ the Chinese government is now strategically deploying these entities overseas to execute the government’s agenda: to acquire natural resources and raw materials, obtain technology and expertise, gain entry into new markets and increase China’s economic and political influence on a global scale.”

The Chinese steel industry’s unprecedented growth and future plans has created quite a stir in the rest of the world. Privately run US steel companies will find it next to impossible to compete with Chinese players that are supported by heavy subsidies from the Chinese government. The US market is likely to witness a severe imbalance in the future.

By Anthony David

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