Rio Tinto drops Chinalco bid, announces new deal

Rio Tinto on Friday cancelled a pending deal with Chinese state-owned enterprise Aluminum Corporation of China (Chinalco), preferring to launch a $15.2 billion rights issue and enter a joint venture with Australian miner BHP Billiton.

The size of the rights issue coupled with the fact that it is fully-underwritten in two jurisdictions has resulted in a role for a number of banks. Credit Suisse, J.P. Morgan Cazenove and Macquarie are joint global co-ordinators -- a selection which likely reflects both the willingness and ability of the said firms to provide underwriting. Deutsche Bank, Morgan Stanley, RBS and Société Générale are also playing a role.

Rio Tinto simultaneously announced a 50:50 joint venture with BHP Billiton covering both companies' iron ore assets in the Pilbara region of Western Australia. The two firms said they estimate the net present value of future synergies from the JV at $10 billion. BHP will pay Rio Tinto $5.8 billion at financial close to increase its equity ownership of the JV from 45% to 50%. On the JV, BHP was advised by Goldman Sachs and Gresham Partners, while Morgan Stanley advised Rio Tinto.

Following the announcements on Friday morning, Fitch Ratings affirmed Rio Tinto's BBB+ rating and removed it from a watch status, instead assigning a positive outlook.

Rio Tinto is offering investors 21 new shares for every 40 existing shares held at £14 ($22.37) per share, or A$28.29 per share for its Australian shareholders, totalling $15.2 billion of gross proceeds. Rio Tinto maintains a dual listing with 23% of its share capital floated on the Australian Securities Exchange and the balance 77% held through a London listing.

The issue price represents a discount of approximately 38% to the theoretical ex-rights price (Terp) of £22.65 and a 47% discount to the Terp of A$53.61 per share. It also marks a discount of 48.5% to the closing price on the London Stock Exchange on June 4 and a discount of 57.7% to the closing price on the ASX on the same date.

Rio Tinto gained 10% on Friday to £30, as shareholders endorsed the new deal, while BHP gained 6.8% to £15.50.

Proceeds from the rights issue will allow Rio Tinto to repay its 2009 debt obligations in full and a substantial portion of its 2010 obligations, the firm added in a statement. Rio Tinto will reduce its net debt by $23.2 billion, exceeding the commitment the company made in December 2008 to reduce net debt by $10 billion by the end of 2009. Fitch said Rio Tinto's debt obligations of $7.2 billion and $8.1 billion in October 2009 and 2010 could now be met and Rio Tinto's next major debt maturity of $10 billion will fall due in late 2012.

The new deals mark the end of Chinalco's attempt to make the biggest-ever investment overseas by a Chinese company. Rio Tinto said it "remains interested in potential future collaboration with Chinalco and continues to recognise the importance of China and building strong relationships there".

On February 12, Chinalco, which is the parent company of Hong Kong-listed Aluminum Corporation of China Ltd (Chalco), agreed to invest $19.5 billion in Rio Tinto, split between $12.3 billion in aluminium, copper and iron ore joint ventures and $7.2 billion in two tranches of convertible bonds. Chinalco also negotiated the right to nominate two directors to the Rio Tinto board as long as it owned at least 14.9% of Rio Tinto, and one director if its ownership was between 9.9% and 14.9%. Chinalco's stake in the joint ventures would have ranged from a 15% stake in an iron ore project to a 50% ownership in an aluminium project. In total, Chinalco was to take a stake in nine different projects.

The coupon-bearing convertible bonds would have increased Chinalco's shareholding in the Rio Tinto Group to 18% upon conversion. The bonds were convertible at any time from 41 days after closing with $3.1 billion of the bonds converting at a price of $45 per share, and the balance $4.1 billion converting at $60 per share. The conversion prices were negotiated when Rio Tinto had traded down to lower levels than where it is currently at. Rio Tinto shares were trading at A$42.15 on the ASX on January 30 before news of the Chinalco investment leaked into the market, but by the time details of the deal were announced on February 11, the share price had rebounded to A$49.40.