Bar a couple of seemingly straightforward regulatory clearances, the merger of Glencore (GLEN -1.16%) and Xstrata (LSE: XTA) is a done deal.
It has taken 10 months, the lucrative intervention of Tony Blair, plus the deep pockets of Qatar Holding, the sovereign wealth fund, for everything to finally come together.
Along the way, Xstrata's chairman Sir John Bond and chief executive Mick Davies, who were originally set to run the combined group, have been jettisoned together with a proposed retention package for senior management.
If, like me, you are an Xstrata shareholder, then you might feel somewhat hard done by. Though the merger terms were improved, they arguably still undervalue the growth potential of Xstrata.
But the question now is whether "Glenstrata" shares are an attractive investment or whether it would be better to cash out. Here is my balance sheet of the assets and liabilities of the merged company.
On the asset side...
1. Scale
Glenstrata will have a market capitalization of some £54 billion, larger than Rio Tinto and BHPBilliton. It will be one of a small number of super-scale global miners, with firepower to go on the acquisition hunt. Anglo American is an obvious target.
2. Market dominance
There are some commodity markets in which Glenstrata's CEO Ivan Glazenberg will enjoy an almost Blofeld-like global domination. That includes thermal coal, where the group will control around a third of total international trade, as well as copper, nickel and zinc.
Though the EU has required some divestment in the zinc market, the national/regional nature of competition authorities gives them little leverage to address global markets. That may benefit Glenstrata's investors at the expense of its customers.
3. Business mix
Glencore's current EBITDA, excluding its existing 34% share of Xstrata, it is made up of roughly 50% from its marketing and trading operations and 50% from mining. However, the combined entity will earn more than 80% of its profits from mining. That should give comfort to those who prefer to see tangible assets and activities.
4. Synergies
The management has indicated synergies of $500 million per year, largely expected to come from giving Glencore's traders direct access to Xstrata's mining output. Personally, I fear a good proportion of the synergies may leak into the pay packets of those traders.
5. Production growth
Shareholders will still enjoy the (diluted) benefits of Xstrata's development program. The company is undertaking more than 20 projects that together aim to increase production volumes by 50% and reduce average operating costs by 20% by 2015.
And on the liabilities side...
1. Corporate governance
Prospects for Glenstrata's corporate governance do not look promising.
The proposed chairman, Sir John Bond, has resigned over the shareholder vote against the retention package. Mick Davies will be chief executive for just six months, after which Ivan Glazenberg, a former commodities trader, will take over leadership. The proposed board has no finance director, either. On top of that, Glencore was management-owned before its short life as a public company.
2. Xstrata defections
Mick Davies has suggested the vote to reject the retention package is a risk to the business. Equally, seasoned mining executives within Xstrata's decentralized culture may balk at Glencore's wheeler-dealer managers. Defections could increase the operational risk.
3. End of the mining supercycle
Both companies have enjoyed buoyant growth from China's inexorable appetite for commodities. Whether China's economy has a hard or soft landing, it is surely the case that demand for mining commodities will weaken.
4. Opaque marketing business
Glencore's marketing business is opaque. Its traders are essentially investment bankers. Though the business is founded on sourcing and distributing commodities, arbitrage and speculation are a significant part of the mix. It is difficult to judge how this business will perform in a commodities down-cycle.
Balance
Does this balance sheet balance? I have some concerns over corporate governance and management. And the prospects for mining are mixed. But the sheer global market power that Glenstrata will enjoy makes a strong investment case. I shall hold on to my shares.
If the mining cycle does turn down, I suspect Glenstrata will be able to capitalize on its market domination, and as the cycle turns up again it will be even stronger.
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