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By John Helmer in Moscow

Terms of new nickel-iron-ore combination put pressure on Rusal and Deripaska

“Though poverty and want are an irresistible temptation to the poor, vanity and great things are as irresistible to others”.

As she got up from a night of bedding with a high-paying prince in France, this was how Roxana, Daniel Defoe’s least successful hero, philosophized. But in Defoe’s 18th century novel, Roxana was meant to be a practical warning against marriages of convenience; as well as the short-lived allures of sex and cash.

Mikhail Prokhorov, the latest of Russian oligarchs to be moving his fortune elsewhere, is reported to suffer from irresistible temptations, and to have been quite successful at satisfying them. Vanity he is known to have, and great things have come to him, too. Not less can be said of Alisher Usmanov, semi-proprietor of the iron-ore and steel holding Metalloinvest, which yesterday began to pass beyond his control, at a discount he has begrudged having to accept.

Through the keyhole, watch carefully at our two Roxanas, as they climb into and out of their separate beds — I mean, bids.

As Russia’s resource concession-holders go, Prokhorov has never been able to negotiate long-term stability for his position as co-controlling shareholder of Norilsk Nickel, Russia’s largest mining company. Personal character need not be discussed here, because the political consequences are already obvious. Apart from the public investiture of a minor state award in 2006, there is no record of Prokhorov ever having met President, now Prime Minister Vladimir Putin. The Kremlin spokesman has told Mineweb no private meeting between them is known to have ever taken place.

Prokhorov’s exit from the nickel concession has thus been only a matter of time – and price.

When Putin met with Vladimir Potanin on April 24, it appears to have been taken for granted by both that Prokhorov was no longer a factor worth their talking about. Potanin, sources close to him believe, did not know at the time of the meeting with the President that Prokhorov was about to change his mind again, and consummate the sale of his 25% stake in Norilsk Nickel to Oleg Deripaska. Potanin had thought Prokhorov had been persuaded not to complete his December deal by the prospect of more money in his hand, less Rusal risk in future. Whatever he did, though, Potanin believed that Prokhorov’s exit was certain. And so it has proved to be.

But there was a twofold surprise in the news last month that Prokhorov had finally closed his deal with Deripaska. One was that he reversed himself at the last minute; the second is that there appears to have been inexplicably little incentive from Deripaska to do so.

The terms which Mineweb published of the original Deripaska-Prokhorov transaction valued Prokhorov’s 11% stake in Rusal at $5.562 billion. That implied a total capitalization of Rusal of $50.6 billion – more than the market thinks the unlisted company is worth. The cash in the deal for Prokhorov came in two tranches — $4.438 billion on closing, and $2.7 billion deferred. The total value of the transaction was thus fixed at $12.7 billion. The press leaks last month suggested that the new transaction between Prokhorov and Deripaska is based on the same $50.6 billion in Rusal value. However, because Prokhorov is getting a 14% stake, it implies total consideration of $14.2 billion – in theory, a gain of 14%.

In the original deal Prokhorov negotiated with Deripaska, he accepted a discount in the valuation of Norilsk Nickel to $50.8 billion. That implied a share price of $266. But the new deal has been estimated by Lehmans to imply a new Norilsk Nickel market cap of $64 billion, or a share price of $335. This appears to represent a gain for Prokhorov of 26%.

But the premium evaporates quickly, if and when a real valuation of what Deripaska’s company is worth is accepted. If that is about $30 billion, which is what the London IPO target was last June, then the 14% Prokhorov is now acquiring represents just $4.2 billion, and his total consideration, $11.34 billion. This represents a discount to the initial deal terms of 11%; and an even sharper discount to the presumed new deal value of 20%. Thus, what Prokhorov has done is to exchange an offer from Potanin of higher value for his Norilsk Nickel shares, if he didn’t sell to Deripaska; for a higher stake in Rusal, without any increase in the cash in hand. From a Russian point of view, Prokhorov has accepted more Deripaska risk – without an obvious reason for doing so.

If Prokhorov is betting on the movement of commodity prices to sustain share value, he might imagine that aluminium will do better than copper or nickel. But consensus forecasts for 2009 indicate that all three metals will drop in price – aluminium by less than the other metals, but down nevertheless. In that event, Rusal’s market cap is likely to go down. Compared to Norilsk Nickel, it is burdened with much higher debt, and weighed down by a sizeable contingency stemming from Michael Cherney’s (Mikhail Chernoy) court claim to own a large part of Deripaska’s shareholding. Since Prokhorov is placing himself in the same position vis a vis Deripaska as Cherney, his risk appears to be irrational – unless Prokhorov is betting that with Deripaska, he can reclaim the Norilsk Nickel value he is giving up, and pull off a hostile takeover.

Prokhorov, along with Victor Vekselberg and Len Blavatnik, the SUAL shareholders who agreed to merge with Rusal in October 2006, are holding Deripaska’s undertaking that, if he fails to take Rusal public by the autumn of 2009, he must come up with money to buy them all out. The listing option has been blocked in London for almost a year now. A reverse of Rusal into listed Norilsk Nickel has been this year’s alternative option, but hostile nonetheless, from the point of view of the Norilsk Nickel shareholders.

A hostile reverse takeover is a move that requires Kremlin backing. And for Potanin, the conversation with Putin turned out to confirm that there is now, and there will be, no support for such an outcome. This is also the significance of Wednesday afternoon’s late announcement of the “partnership deal” between Potanin and Usmanov.

According to those who were watching closely, Usmanov had tried his well-known ploys for raising the valuation of Metalloinvest towards $30 billion, suggesting to those gullible enough to print the bluff, that if he went to London for an IPO, he could get as much as $28 billion. It is well-known that Usmanov has been in the London market for months, preparing for such a deal, enduring the due diligence, and arguing over the valuations. Although iron-ore companies like Usmanov’s are in high demand in the resource market, it is far from certain that Usmanov could successfully launch an IPO for Metalloinvest at $28 billion. Was he bluffing Norilsk Nickel?

On Wednesday morning, Norilsk Nickel announced it was calling off their negotiation. The company issued a statement that the “management has been recently informed of Metalloinvest HC’s decision to investigate opportunities of making an IPO on one or several stock exchanges. At the moment, owing to the address of Metalloinvest HC, the parties have agreed to suspend the process of discussions.”

Later in the same day, Potanin’s holding Interros issued a press release, suggesting that a deal has been agreed between the two men, and between Interros and Usmanov’s holding, Gallagher, registered in Cyprus. According to the Interros press release, “considering the high potential for the growth of Norilsk Nickel value, Gallagher company expressed its intention to acquire up to 10% in this company. In its turn Interros considers the possibility to buy 25% plus one share in Metalloinvest holding and intends to file an appropriate request to Russian antitrust authorities.”

The language falls short of deal commitment. The partnership deal implied is that Potanin and Usmanov have agreed on the valuation of Metalloinvest, at which Interros will buy its 25% plus one stake. It is vague on whether Usmanov may already have bought Norilsk Nickel shares from the market, and be preparing to increase this stake to a maximum of 10%. Three things are clear – the deal is not a share swap; it has not been executed yet; and Deripaska is powerless to stop what is happening.

The best informed of analysts are obliged to speculate, and until precise terms are disclosed, much of this speculation depends on how the intentions and characters of Potanin, Usmanov and Deripaska are interpreted. It appears that Potanin must pay Usmanov cash for the proposed blocking stake in Metalloinvest. It also appears that Usmanov has agreed to valuing Metalloinvest at around $21 billion, for which Potanin should stump up between $5 billion and $6 billion. Once implemented, that would leave the shareholding at the unlisted Metalloinvest as follows: Andrei Skoch with 30%; Potanin with 25% plus 1; Usmanov with 25% less 1; and Vasily Anisimov with 20%.

At Norilsk Nickel, the anticipated shareholding structure would be this: Potanin, about 30%, and with Usmanov’s 10%, an alliance of about 40%; Deripaska’s Rusal with 25% plus 1; and a free float of the remainder, about 35%. Norilsk Nickel has sold its treasury shares.

The share register closed last Friday, May 26, for qualifying shareholders to vote at the Annual General Meeting of shareholders, scheduled for June 30. Norilsk Nickel doesn’t know for certain if Usmanov is already holding any shares. However, on their paper intentions, the Potanin bloc looks strong enough now to prevent Deripaska gaining more than three seats on the 9-man board, and pursuing control of the company on the cheap, by diluting the minority shareholders. The market perception that is the case was rubbed in by brokers on Thursday morning, and the Norilsk Nickel share price took off immediately. It jumped 5% in the first half of the day, before slowing down.

Earlier this month, Rusal proposed 4 candidates for the Norilsk Nickel board – Deripaska; Vekselberg; Rusal chief executive, Alexander Bulygin; and Tye Burt, the Canadian goldminer from Barrick and Kinross. If the proportional representation scheme Rusal has earlier urged for the election of the new board is implemented, at least one of these men will miss out.

It is also believed that Deripaska lacks the borrowing capacity to buy Norilsk Nickel shares from the market at a premium. To beat Potanin’s alliance, he would have to acquire another 15% to 20%, paying at least $300 to $330 per share to do so. That would cost up to $13 billion. Deripaska has already been obliged to borrow $4.5 billion to pay Prokhorov.

A trickle of talk from Rusal’s executive suite indicates that Deripaska is beginning to face several unpleasant realities – to accept that he may not be able to meet next year’s public share-listing obligations to Vekselberg, Blavatnik, and Prokhorov; that he will not be able to take control of Norilsk Nickel; and that, although he is Russia’s richest man, he is running out of money. Minority status in a three-way merger with Norilsk Nickel, it is being hinted by Deripaska to his investment bankers, may be the least unpleasant, and most cost-effective, of his options.

That was offered yesterday as a possibility in the Potanin-Usmanov communiqué, but with the unstated condition that Deripaska would not exercise his blocking stake to veto the merger; and that he would either relinquish effective control of the Norilsk Nickel board and management to Potanin, or sell out. If he refuses, it will be difficult to explain, without confirming the most negative perceptions of his modus operandi in the market place.

Potanin has yet to propose his board candidates for the current board of Norilsk Nickel to consider, and recommend.

And what did Defoe report was the outcome for his Roxana? “After some few Years of flourishing, and outwardly happy Circumstances, I fell into a dreadful Course of Calamities…the Blast of Heaven seem’d to follow the injury done ..and I was brought so low again, that my Repentance seem’d to be only the Consequence of my Misery, as my Misery was of my Crime.”

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