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Norilsk Nickel shareholders ask where the cash for the new deal will come from

Oleg Deripaska and his United Company Rusal were trounced in their bid to elect three directors on the Norilsk Nickel board today. The vote saw Vladimir Potanin’s Interros holding, plus most of the free float of 40%, put a full-stop to Rusal’s six-month ambition to take control of Russia’s largest mining company, and become the largest mining and metals conglomerate in the country.

A brief announcement from Norilsk Nickel said that at voting early in the afternoon, an emergency general meeting of shareholders voted against early termination of the current board of directors, and against new elections. Prokhorov had called the meeting with the proposal to replace his men on the board, with those of Rusal, to whom he was planning to sell his Norilsk Nickel stake. Unofficial reports of the EGM voting indicate that Prokhorov voted his shares (34.5%) in favour of this proposal, but they were outvoted by the opposition (64%). Notwithstanding the way he voted, Prokhorov has changed his mind on the Rusal takeover, and he now argues that Rusal cannot meet its buyout and payment terms.
The outcome is the status quo ante, and so the 9-man board remains. Norilsk Nickel chief executive Denis Morozov sought to portray the result as a vote in favour of “professionalism and outstanding service of the acting Board of Directors… I would like to thank our minority shareholders for their support and active participation in voting in such crucial time for Norilsk.”

The implication, now accepted by the Moscow market, is that Rusal’s share swap and cash offer for the 25% stake owned by Prokhorov is dead. Andrei Klishas, a Norilsk Nickel board member, and head of the Interros holding, said his group is now ready to consider a buyout of Prokhorov’s shareholding in Norilsk Nickel. “If Prokhorov has a document confirming that his relations with Rusal are stopped,” Klishas said in a briefing after the EGM, “we will consider this question. We do not exclude possibility of an increase in the [Interros] stake in NorNickel.”

Rusal has posted no official comment on its website. But its spokesman, Vera Kurochkina, has been rumbling with threats of multi-million dollar damages litigation against Prokhorov. She claims that Rusal is contemplating a lawsuit in the UK courts claiming breach of contract by Prokhorov of the sale and purchase transaction Rusal announced with him in November. At the time, Rusal announced its plan to subordinate Norilsk Nickel: “This strategic transaction paves the way to develop the enlarged UC RUSAL into a global, diversified metals, mining and energy group. UC RUSAL has created a solid platform to implement its strategy of growth and diversification supported by our strong competitive advantages. Russia is an exceptionally resource rich country and it is entirely appropriate that the country’s industry leader achieves global major status.”

Prokhorov’s advisor at Onexim, Dmitry Razumov, said at the same time: “We hope that this combination will be supported by other shareholders, management, and employees of MMC Norilsk Nickel.” He has been proved wrong. But the damage is more considerable for Rusal, since Prokhorov walks away with his stake substantially enhanced in paper value.

On the other hand, Deripaska, controlling shareholder of Rusal, cannot enter the UK jurisdiction to punish Prokhorov – indeed, to avoid service, he is not entering the country physically – because he and Rusal are both subject to a lawsuit from Deripaska’s former partner and patron, Mikhail Chernoy (Michael Cherney). The last time Rusal voluntarily entered the High Court jurisdiction – in a 2006 lawsuit involving the Tajikistan Aluminium Plant – the court reacted so negatively, Deripaska was obliged to settle with one of the claimants. Rusal’s legal counsel at the time was replaced. The defeat of Rusal’s bid means that Deripaska’s company cannot reverse into the internationally listed Norilsk Nickel, but must once again face the IPO market alone, and less than confident after last year’s attempt at listing on the London Stock Exchange was aborted.

A source close to Interros told Mineweb that today’s signal of Deripaska’s defeat is likely to draw support from the Kremlin.

The Moscow market reaction to the demise of Deripaska’s deal, the largest hostile takeover attempted in Russian commercial history, was enthusiastic. In the first hour of trading, following the shareholder vote, the Norilsk Nickel share (ticker GMKN:RU) jumped 4.2%. In a report for clients, Vladimir Zhukov, metals analyst for Lehman Brothers in Moscow, explained the reason. “With the risk of a value dilutive reverse merger between Norilsk Nickel and UC RUSAL thus significantly diminishing, the prime market concern preventing inflow of funds into the otherwise undervalued Norilsk Nickel should go away.”

He argues that the white-knight deal which Potanin had devised six weeks ago to ward off Rusal, a merger with the iron-ore and steel assets of the Metalloinvest group, “should enable Norilsk Nickel to develop into an attractive Russian national champion in metals and also to diversify into iron ore, probably the most favoured commodity in the market at the moment. Subject to a reasonable valuation of Metalloinvest, Norilsk Nickel, trading at 4.6x 2008E EV/EBITDA, has good prospects for a potential market upgrade with upside indicated by the valuation of Rio Tinto and Vale, both trading 8.3x EV/EVITDA. Norilsk Nickel is also undervalued on fundamentals as reflected in our price target of $394 per share.”

At $394, Lehman is giving Norilsk Nickel a premium to the current share price of 39%. Prokhorov knows how to count. In addition to the 25% plus one share he agreed to sell Deripaska and Rusal, the additional shares he owns make an aggregate of about 30% of Norilsk Nickel’s share issue of 190.6 million shares. At today’s price, that should fetch $16.2 billion. But if Zhukov’s target is on the money, then Prokhorov’s stake goes up to $22.5 billion, a gain of $6.3 billion. When Prokhorov agreed to sell to Deripaska last November, converting his Rusal shares and cash into a cash equivalent made his price 47% below this target. Prokhorov’s offer to sell to Potanin in December was priced at $15.7 billion, also below the current projection. To put it mildly, according to Zhukov, that’s “strong incentive for Prokhorov not to deliver Norilsk shares to UC RUSAL.”

At his briefing today, Klishas said: “I think that during the next few weeks there will be the parameters of the possible transaction with Metalloinvest. My senses is that this work is going very effectively. The issues [are] valuations and the transaction structure”.

But if Potanin and the Interros holding have beaten off Deripaska and Rusal, that still leaves them with the adversary they began with, who has become more inimical with time – Prokhorov. Sources close to Interros emphasize that they see buying him out to be part of their deal to acquire the Metalloinvest group assets from their three shareholders – Alisher Usmanov (with 50%), Andrei Skoch (30%), and Vasily Anisimov (20%). Mineweb reported on how this deal may work at: http://www.mineweb.com/mineweb/view/mineweb/en/page67?oid=47758&sn=Detail

According to Zhukov, one possible design for Potanin to absorb Usmanov et al., and pay off Prokhorov, is “a structure whereby Norilsk Nickel would buy Metalloinvest for a combination of cash and equity, say 50/50, and assume a valuation of the latter of $20bn. As a result, the shareholders of Metalloinvest end up with $10bn in cash and can theoretically enter into back-to-back transaction with Prokhorov to buy out some of his shares. Therefore, Prokhorov can expect to get more cash upfront compared with an upfront payment of $4.5bn which he reportedly agreed with UC RUSAL. Furthermore, Prokhorov may also want to keep some of his Norilsk Nickel shares as an option on the potential upgrade of the stock on the multiples”.

A leading investment banker in Moscow believes that Prokhorov’s eyes have grown bigger than his stomach, and there is no hope of his reaching his cash target. Asked how he would advise Potanin on how to buy Prokhorov out, he responded he could not. “Norilsk Nickel’s market cap is so high now, a cash deal is not viable in the current capital bank markets.”
It would be ironic if the outcome for Prokhorov is that he becomes Potanin’s hostage – unless he accepts a discount to his expectations, and not much more cash than he was promised by Deripaska.

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