A personal view Mineral resources going for a song Editorial

Sunday, 01 June 2003


    The acquisition of Queensland mining icon MIM by Swiss-based Xstrata and the failure of Australian Magnesium Corporation to secure adequate funding for the magnesium mine at Stanwell in Queensland have raised several board issues.

    Mineral Resources Going For a Song

    The acquisition of Queensland mining icon MIM by Swiss-based Xstrata and the failure of Australian Magnesium Corporation to secure adequate funding for the magnesium mine at Stanwell in Queensland have raised several board issues.

    On June 6, MIM shareholders voted to accept the $4.93 billion takeover by Xstrata after eight months of controversy involving allegations of share splitting (large shareholdings divided into smaller parcels for more votes), the failure of MIM non-executive directors to see beyond the cash offer and the demise of yet another Australian resource company.

    It also involved board disputes between CEO Vince Gauci who argued that MIM was worth more than the $1.72 a share on offer and advisers who stood to gain "success fees" if the deal went ahead.

    The heart of the matter involved the question of valuation. How much was MIM really worth and was this value calculated in terms of the Australian market? The valuation also involves the use of UK accounting standards by Xstrata that take a more benign view of MIM's hedge losses and provisioning for some assets and the revaluation of other assets.

    The bottom line is that the market believes Xstrata paid $1.72 a share for a stock valued by some analysts in London (where Xstrata is listed) at around $2.40. Xstrata is a large exporter of thermal coal (63 percent sourced from Australia) and the MIM coal assets will make it the third largest coal exporter in the world. It also gives Xstrata a position in the base metals market (lead-zinc) as well as the opportunity to develop MIM's substantial copper assets.

    The MIM board, it is claimed, was afraid that the MIM share price which had been languishing for years would not hold up and therefore recommended shareholders take the money and run.

    So what is the issue? Does a board recommend acceptance of a bid that will give shareholders an immediate return, or should the board hold on and hope that the current bid will attract other players and raise the price? But what if no other bidder shows up and the market marks down the shares – dealing the prime bidder a stronger hand?

    Perhaps the key question is how much weight should a board put on the valuation of its assets. If you have been sitting on assets that haven't performed well, then the value you place on them is far different to the value the buyer places on them.

    Do you value your assets based on the past or their potential for the future? And how much weight should be given to the advice of consultants and merchant banks whose primary interest is in the transaction and their fees?

    Every board wrestles with these issues. Thousands of dollars were spent informing, lobbying and convincing shareholders about the pros and cons of the deal. Ultimately they made the decision.

    The situation with Australian Magnesium Corp-oration is a different, but all too familiar story.

    AMC is trying to build a high-volume magnesium smelter near Rockhampton using CSIRO technology. The hope is to produce 90,000 tonnes of magnesium for a 500,000 tonnes a year world market. This market is expected to grow even more if magnesium is used in car manufacturing including new alloys.

    Sadly AMC is at the brink of going into administration because the board, it is alleged, underestimated the capital required to develop the project.

    The CSIRO technology is world class and no one disputes the level of magnesium reserves available. The problem is the estimation of the costs involved in the project and the capital required.

    This is an Australian problem. We do not have a good record of developing new resource technology. The project is said to be now costed at around $1.7 billion and growing.

    What board could have gone to the market in the first instance, saying we need $1.7 billion to develop a new technology for magnesium that we believe will eventually become a valued Australian resources export. And what board would have told shareholders and investors that more capital would probably be needed? The market in Australia would have found this laughable.

    The result was that capital was raised incrementally to meet specific needs and ultimately the ability to raise new capital could not meet the increase in project costs.

    AMC may yet obtain a white knight to develop a new resource technology, but in the meantime the magnesium project serves as yet another example of our inability to think big and fund it accordingly.


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