Commercial awareness: Meeting of mines - Glencore and Xstrata to merge

What do a banker, lawyer, accountant and consultant have to say about the merger of the moment?

Glencore, the world's largest commodities trading company, and Xstrata, a major global mining company, have agreed to merge. The deal was finalised over the first weekend in February, and announced on the following Tuesday, as Xstrata released its annual results.

The deal has been long anticipated in the markets and a tie-up is thought to have been considered at several previous points over the past decade. The two companies already work together - Glencore sells large amounts of the raw materials Xstrata extracts, and owns 34 per cent of the mining company. Glencore's dominance in commodities trading - the public company is thought to control 40 - 60 per cent of the global supply of some commodities - is an excellent fit for Xstrata's deep supply of mining assets. In addition, Glencore's pool of cash from its 2011 IPO will help Xstrata cover its the rising costs of mining operations. The new larger organisation will also be able to take on more risk and therefore may be able to invest more extensively in countries which have significant assets, but which are politically unstable, such as the Democratic Republic of Congo.

The new group, to be known as Xstrata Glencore International, will be worth $90 billion (£56 billion) and will become the world's fourth largest mining company and the biggest global player in coal and zinc immediately, and probably one of the world's biggest producers of copper within four years. Its revenues will be around $200 billion.

The deal has been billed as a merger, but even though Glencore is technically acquiring Xstrata, many commentators see Xstrata as the dominant party in the deal. Future earnings from commodities trading, Glencore's speciality, is less certain than that from the kind of mining assets than Xstrata holds. In addition, Glencore is currently valued at nearly $45 billion to Xstrata's $50 billion. This difference in the company's positions is reflected in the terms of the deal. Xstrata shareholders will receive 2.8 new shares in Glencore for each Xstrata share they own. On completion of the transaction, Xstrata's chief executive officer and chief financial officer will take on these roles at the new entity, with Glencore's equivalents as their deputies.

Future plans for the new conglomerate are likely to include further acquisitions in the mining, or perhaps agricultural, sectors. In particular, mining company Anglo American is thought to be a likely target.


  • Share nicely: Not everyone's been happy about this deal. In order for transactions of this kind to go through, it's not enough for the directors to give them the nod - shareholder consent is legally required here as well (excluding, for fairness, one stakeholder in Xtrata - Glencore). Some of Xstrata's shareholders - mostly funds - have been complaining about the ratio of Glencore shares to Xstrata shares on offer, saying that the deal doesn't reflect Xstrata's true value. Glencore, on the other hand, seems very keen to jump in, having agreed to pay Xstrata a break fee of £289 million if they pull out of the deal.
  • Getting competitive: Where two big players in a particular industry hook up, competition authorities are always going to take an interest. It looks like this merger is going to have to get regulatory approval in China, Japan and South Africa - and potentially elsewhere. The deal is unlikely to face any hurdles in Brussels, though - because of Glencore's holding in Xstrata, EU competition authorities already regard the two companies as the same entity.


  • Cottoning on: Is Xstrata going to be the dominant partner in the new entity? Only time will tell, but it's interesting to look at how both companies have been doing financially over the past few months. Glencore suffered some serious losses in cotton trading last year thanks to supply disruptions resulting in a rash of cancelled orders. Cotton is only a small part of Glencore's overall business, but these mishaps led to losses of $330 million, an 18 per cent drop in profits, and the firing of the company's head of cotton. Xstrata, on the other hand, reported a 20 per cent rise in profits for 2011.
  • On balance: The merger deal should have a positive impact on the balance sheets of the new entity. It's been estimated that bringing Glencore and Xstrata together will bring in more than $500 million in new profits through sharing resources and increased opportunities. These instances of how a new merged entity will be worth more than the sum of its parts are known as synergies, and they're often the reason merger deals happen.


  • Vertigo? The hook-up between Glencore and Xstrata illustrates a classic motivation behind an M&A deal - vertical integration. Bring different bits of a supply chain together under the same corporate roof, the theory goes, and you'll save money by reducing costs and because you'll have more certainty over the workings of your supply chain. However, not many other companies in the mining sector have adopted this model, and it remains to be seen how it works out for Glencore and Xstrata - and whether it works well enough for anyone else to try something similar.
  • Getting personal: The chief executive officers of the two companies, Mick Davies of Xstrata and Ivan Glasenberg of Glencore are old buddies from their university days in South Africa. The two firms are also based close to each other in Switzerland. Such cultural and geographical links can play a valuable role in the difficult task of integrating two companies into one following a merger. However, I've also heard that both Mr Davies and Mr Glasenberg have "big personalities", so it'll be interesting to see whether they can work together to forge an effective leadership structure for the new entity.


  • The price is right: It hasn't been long since Glencore was last making headlines in the financial press. Its IPO was big news over the summer. The $60 billion flotation catapulted the company straight into the FTSE 100 and made millionaires out of many of Glencore's top brass. However, there were whisperings at the time that the company was overhyped and that the shares on offer were priced too highly. But the ratio of Glencore shares to Xstrata ones that the parties have agreed to in the merger deal is close to the ratio at which these two sets of shares were trading at the time of Glencore's IPO. That the parties have agreed on a similar ratio now suggests that there's a broad feeling in the market that Glencore was in fact priced correctly on its initial listing.
  • Ups and downs: Glencore's been in the news for other reasons. The company controls a massive proportion of the world's supply of some commodities, so is a big player in trading in them. Glencore and other large-scale commodity traders have been criticised by some for manipulating markets for profits, causing price volatility and food shortages.