Last week, Glencore (GLCNF.PK) announced it was making a $6.1 billion bid for Canadian grain handler Viterra. The transaction is designed to add more grain and agriculture operations to Glencore, the world’s largest publicly traded commodity trader.
Since its creation, Glencore’s core business had always been metals and energy. As a base metals and energy trader, Glencore is rivaled by only a few companies in the world, having large operations in copper and oil.
However, Glencore has never been able to add any significant grain operations throughout its existence — up until last week, with the announcement of the Viterra acquisition. In fact, up until its recent IPO, Glencore generated less than 5 percent of its total revenue through grain trading operations. Therefore, in its quest to become a complete commodity trader offering a comprehensive list of products that include energy, metals and grains, Glencore was in desperate need to add grain trading to its operations.
While the acquisition of Viterra will certainly provide Glencore with exposure to the grain business, I don’t believe that this deal makes a lot of sense for Glencore shareholders in the long term. First, because of political considerations in Canada, Glencore was forced to sell many of Viterra’s key assets to Canadian rivals. Canada-based Agrium is taking over Viterra’s significant fertilizer assets in a $1.8 billion parallel transaction, and Canadian company Richardson is buying a significant portion of Viterra’s grain-handling business and food processing plants.
When you look at the deal closely, Glencore is paying a 50 percent premium for Viterra as a wholly owned company, but instead of buying 100 percent of Viterra’s assets, it’s only acquiring about 65 percent of the company’s key assets. The rest of Viterra’s assets will be divvied up between the Canadian firms Agrium (AGU) and Richardson.
Therefore, from a Glencore shareholder perspective, this deal does not make a lot of sense. On the other hand, this is a major coup for Viterra shareholders.
Glencore was also recently in the news for its planned “merger of equals” with mining rival Xstrata (XSRAF.PK), a deal with a whopping $37 billion price tag. Xstrata is one of the leading companies in base metals mining and has extensive operations in copper with mines in Africa, Latin America and Australia. The two companies plan to merge their operations under the Glencore banner. When you look closely at the transaction, this is an acquisition of Xstrata by Glencore, which is offering 2.8 Glencore shares for each Xstrata share. Thus, “the merger of equals” is more investor spin than an accurate reflection of the transaction.
Glencore is currently on acquisition overdrive, as it seeks to become one of the largest commodity traders and mining companies in the world. In its quest for growth, the company is overpaying for many of its key acquisitions, which is not creating value for shareholders. In both of these recent acquisition — Viterra and Xstrata — the company is paying a significant premium to current market prices. The market is reacting negatively to these announcements, and rightly so.
Since its IPO in May 2011, Glencore’s share price has plummeted by a staggering 25 percent. To be fair, this is a profitable company that generates more than $180 billion in revenues per year ($186 billion in 2011) and has an extensive list of assets, including grain terminals, copper mines and oil servicing facilities all over the world.
However, this is not a company that is adept at creating value for its new, post-IPO shareholder base. From an investment perspective, I wouldn’t recommend Glencore shares at the moment. The company has announced a series of very expensive acquisitions and it will take several years before all synergies are finalized. In fact, I believe Glencore shares present a good shorting opportunity; one way is to buy long-dated put options on the shares.
Unless Glencore stops making expensive acquisitions and focuses on improving operational inefficiencies, it is difficult to see how shareholders will be rewarded. For one, it would be helpful to improve its operating margin, which currently stands at a lowly 1.63 percent; the way to do that is focus on improving operations in its existing assets. Once Glencore begins to focus on improving its operations rather than making splashy acquisitions, it would be a good time to revisit the company — until then, I would stay away.
Disclosure: The author doesn’t have any positions in the stocks mentioned.