BHP Billiton Outlines US$3.7 Billion Rio Tinto Synergies

MELBOURNE -(Dow Jones)- BHP Billiton Ltd. (BHP.AU) Monday unveiled details of US$3.7 billion in cost savings and earnings increases it believes a takeover of rival Rio Tinto Ltd. (RTP) would deliver, in a move designed to increase pressure on its target to enter into talks.

BHP’s public justification of the proposed deal wasn’t accompanied by any top up in the informal offer and a person familiar with the situation dismissed talk that BHP is preparing to sweeten its proposal.

But the miner did unveil plans for a US$30 billion share buyback should it successfully complete the deal.

BHP Chairman Don Argus wrote to Rio Tinto Chairman Paul Skinner on Nov. 1 with details of the offer and the cost savings BHP believes the deal would unlock, but Rio Tinto reiterated Monday the offer undervalues the company and it will not enter into talks with BHP.

On Monday, in a statement to the Australian Stock Exchange, BHP said the deal is the most logical and compelling consolidation opportunity for both companies.

"The two companies each have portfolios of large-scale, low-cost, long-life assets that are highly complementary and, when combined, would be without peer," BHP said.

The deal would deliver US$1.7 billion in annual cost savings in the third year after completion and further earnings enhancement of US$2 billion a year in the seventh full year, driven by the acceleration of volumes to customers, BHP said.

Total one-time implementation costs of the deal, which would be the biggest ever in the mining sector, would be US$650 million over the first two years after completion.

BHP said its offer valued Rio Tinto at US$153.2 billion representing a 25% premium, based on closing prices on October 31.

The miner said bringing together the two resources giants would deliver unique opportunities for value creation, including faster and more efficient development of their twin iron ore operations in the Pilbara region in Western Australia and the streamlining of Australian coal operations, where output is currently crimped by infrastructure bottlenecks.

BHP and Rio are both upgrading port and rail facilities at their Pilbara iron ore projects, and UBS analysts said bringing the companies together would deliver significant savings as it would stop duplication of capital expenditure at these operations.

Many in the market had expected BHP would increase its offer for Rio Tinto after the initial proposal was rejected and, with BHP arranging a US$70 billion facility with Citigroup, there have been media reports it could be preparing to up its bid and might even consider selling its petroleum division to fund the move.

However, a person familiar with the situation said a higher offer isn’t being considered and the US$30 billion buyback offers upside to shareholders.

"Sweetening the deal is not being contemplated at all let alone selling oil and gas to do it," the person said.

The two miners have 60% of their shareholder base in common, and the person said the proposed equity bid makes more sense than a cash offer as it gives shareholders the chance to benefit from the synergies of bringing the companies together.

The person said the US$70 billion facility has nothing to do with a revised offer, and that US$40 billion would be used to pay off debt Rio Tinto has taken on to fund its acquisition of Alcan Inc. (AL) with a further US$30 billion to go towards a buyback once the deal is complete.

Under U. K. laws, BHP has two months to lodge a formal offer for Rio Tinto, the person said.

No rival suitors have yet emerged for Rio Tinto, with China Development Bank Monday denying reports it had acquired a stake of close to 1% in the miner.

Rio Tinto said Monday BHP’s statement was in line with the letter it had received outlining the proposal.

"It is a proposal that has already been rejected by the Rio Tinto board after careful consideration," a spokeswoman said. "We have said the proposal significantly undervalues Rio Tinto and its prospects."

Alex Passmore, a mining analyst with Perth-based broker Patersons, said BHP’s statement would do little to change Rio’s mind about the offer.

"I think given the synergies that they have outlined Rio will want more," he said

One institutional investor said BHP would need to offer a ratio closer to four-for-one to win backing for its bid.

The investor also said he would prefer to see the US$30 billion offered to Rio shareholders as a cash component, rather than funding a share buyback for the enlarged group, which would also benefit BHP shareholders.

BHP said the combined entity would be 41% owned by Rio Tinto holders.

In its statement to the ASX, BHP downplayed the possibility of antitrust regulators opposing the deal and said it is "confident that antitrust issues present no significant barriers to completing the proposed transaction".

The regulatory focus would center on the iron ore businesses of the combined group, which could have 27% market share of contestable iron ore sales based on 2006 production, BHP said.

Contestable iron ore sales are those that are relevant to setting market prices and do not include, for example, iron ore produced by an entity to feed its own steel mills.

However, with both BHP and Rio Tinto rapidly expanding their iron ore operations, some analysts estimate the share of the iron ore market would be higher, depending on the measure used. UBS analysts say the combined entity would have a 38.8% share of the iron ore market compared to 39% for Brazil’s Companhia Vale do Rio Doce (RIO)

BHP also reminded fund managers that they would be able to benefit from capital gains tax rollover relief, something analysts said would be of benefit given Rio’s share price rise in recent years, but is no surprise.

BHP said the merged entity would be "drawing on the best of both management teams" and it would also invite some of Rio Tinto’s independent director to join the combined board.

Rio Tinto closed up 6.7% at A$139.72 while BHP closed down 1.8% at A$41.70, valuing its offer at A$125.10 per Rio Tinto share.