BHP's South32 risks tough market debut, M&A talk swirls

May 3
6:51 PM 2015

BHP Billiton's shareholders are expected to approve the biggest ever spin-off in the mining industry on Wednesday, seeking to wring more value out of a string of long-neglected aluminum, manganese, silver and nickel assets.

But the new company, South32, risks a tough May 18 debut on the Australian bourse, with investors nervous about weak commodity prices, short mine life spans and declining ore grades.

Reflecting this uncertainty, analyst valuations vary widely, with Morgan Stanley predicting it may start with a market worth of A$8.5 billion ($6.7 billion) and Investec around $12 billion.

"I think a focused management team will be able to extract the best value for those assets over time. But if commodity prices are weak, it's going to be a bit more problematic," said Paul Xiradis, chief executive of Ausbil Investment Management, a BHP Billiton Ltd shareholder.

Named after the 32nd parallel south line of latitude that links its main business centers in Perth and Johannesburg, South32 will produce alumina, aluminum, coal, manganese, nickel, silver, lead and zinc from mines and smelters in Australia, Brazil, Colombia, South Africa and Mozambique.

Those assets generated underlying earnings of $446 million on revenue of $8.3 billion last year.

"A lot of people who own BHP own it for the yield and for some exposure to the sector, and will not want to hold South32," said Nik Stanjevic, an analyst at British wealth manager Brewin Dolphin.

South32 will be most sensitive to aluminum and alumina prices, with all-in aluminum prices, which include London Metal Exchange prices plus a premium for delivery, having slumped this year due to a near 50 percent plunge in premiums.

Selling pressure is also likely from UK investors who cannot hold the stock because it will not be included in the FTSE 100 index. However, that is likely to be offset by passive funds in Australia buying South32 shares as they will be included in the major S&P/ASX indexes.


Once the dust settles after the launch, South32 could look for acquisitions or equally be at risk of becoming a takeover target for those betting on a recovery in base metals.

"In that sense it is something we are excited about," said Hanre Rossouw, head of resources at Investec Asset Management in Cape Town.

Investors expect South32 to take advantage of its low debt to invest in exploration and perhaps to chase acquisitions, including a potential swoop on Australia's Whitehaven Coal, according to Credit Suisse.

"They'll be more the acquirer relative to being acquired, just because of their size," said Anna Kassianos, an analyst at Platypus Investment Management.

South32 CEO-elect Graham Kerr has played down the prospect this and some see it more as a takeover target.

Mick Davis, the ex-boss of Xstrata, previously made an offer for most of South32's assets but was turned down.

His firm, X2, which has raised $5.6 billion in capital, may now be in a prime position to swoop if South32's shares slide.

"Mick Davis would absolutely love these assets but he is not going to steal them because he's got to pay market price," said a resources banker in London.

A person with knowledge of X2's strategy said the firm would be interested depending on the price, but the preference might not be to go after a listed company for a first acquisition.

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