Is Rio Tinto Ready to Spin Off Non-Core Assets?

Iron ore pellets, like those produced by Rio Tinto's Iron Ore Company of Canada unit, remain in oversupply. Image source: Getty Images.

The downturn in the commodities market is causing a shakeup at leading miner Rio Tinto (RIO 0.43%), which some analysts suggest may just be a precursor to it divesting its non-core assets in a spinoff, just as industry peer BHP Billiton (BHP 0.22%) did last year.

Late last month, Rio Tinto announced it was reorganizing its assets into more meaningful groupings. According to the miner, its five divisions will each get a completely new focus:

The iron ore and aluminum units will continue to focus on their respective resources, and the new copper and diamonds division is what Rio Tinto calls its two marketing-led businesses, a seemingly smart grouping of similarly pursued businesses. While growth and innovation will focus on future projects and technical support, it is the housing of Rio Tinto's coal, uranium, salt, borates, and titanium dioxide businesses -- as well as its Iron Ore Company of Canada division -- into the energy and materials segment that has many seeing this as the miner preparing to shed unwanted assets.

Business heading south

In a dramatic restructuring last year, BHP Billiton took all of its alumina, aluminum, coal, manganese, nickel, silver, lead, and zinc assets and spun them off into a new company called South32 (SOUHY -0.95%), a reference to its location below the 32nd parallel south line of latitude on the Earth's equatorial plane. The mines and smelters are all located in Australia, Brazil, Colombia, Mozambique, and South Africa.

Bloomberg quotes a Sanford C. Bernstein analyst as saying Rio Tinto's decision to group these like assets together indicates it may be ready to do something similar "This seems like a portfolio of unwanted assets that could be ready for a spinoff. This division looks a lot like the South32 assets previously in BHP's portfolio."

Jean-Sebastien Jacques, who just took over the reins of Rio Tinto from longtime CEO Sam Walsh, is quickly moving to remake the miner into a leaner operation. Recently, Rio Tinto agreed to give away its copper and gold mine in Papua New Guinea to the local governments there, and just the other day, sold for one dollar its Australian Blair Athol thermal coal mine. Last week, it said it was mothballing its massive Simandou iron ore project in the Republic of Guinea only weeks after delivering a feasibility study to the government because the industry supply glut no longer made the project economical to pursue.

A heavy load

Rio Tinto has over $20 billion in debt it's trying to work down. At the same time as its reorganization announcement, the miner also said it would eliminate some $3 billion of the debt load after accepting the purchase of $1.25 billion under its maximum tender offer that began June 7, and $1.75 billion under its any-and-all offer.

The Bernstein analyst sees the energy and materials division generating $1.2 billion of earnings before interest, tax, depreciation, and amortization next year, which would value the businesses at more than $9 billion if it could go off at eight times earnings. Such a price tag would help Rio Tinto cut its debt even further, and if a sale or spinoff is in the works, it would be a much neater exit than simply giving away its assets.

Investors shouldn't get their hopes up, though. This amalgamation of assets might be a very difficult sell to a single buyer, and even separately, they might not find one. Rio Tinto has tried to sell some of them in the past, such as the Iron Ore of Canada and borates businesses, with little success, and iron ore's prospects are so low now the miner would have a difficult time getting a price deemed acceptable. Its uranium business, located in Australia, Nambia, and Canada, also remains uncertain.

Investors likely shouldn't expect anything like a BHP Billiton spinoff; at best there might be a piecemeal sale, and more likely just a continued diminution of focus on these assets in favor of those with better prospects.