Chinese Invest $19.5 Billion in Rio Tinto

Posted by: Mark Scott on February 12

After ten days of speculation, Rio Tinto — the second largest London-listed mining company by market cap — confirmed on Feb. 12 what many analysts had been expecting for months. In a joint statement, Rio and state-owned Aluminum Corporation of China, or Chinalco, announced a strategic partnership worth $19.5 billion.

The deal, China’s largest ever investment in a foreign company, will give Chinalco minority stakes in a number of Rio’s operations worth a combined $12.3 billion (including iron ore, copper, and aluminum subsidiaries). It also includes $7.2 billion of convertible bonds that could increase the state-owned company’s share in Rio Tinto Group (the company is dual-listed in Britain and Australia) from 9.3% to 18%.

“Chinalco’s cash investment… will strengthen Rio Tinto’s balance sheet, increase our flexibility to deliver growth as markets recover, and position Rio Tinto for the next decade and beyond,” Rio’s Chairman Paul Skinner said in a statement.

The agreement certainly will help the Anglo-Australian miner in the short-term. After acquiring aluminum producer Alcan two years ago for $38.1 billion, Rio has been struggling under a pile of debt just as commodity prices have taken a turn for the worst. That includes two tranches of debt repayments totaling almost $20 billion that are due by October, 2010. "The [Chinalco] investment is sufficient to meet our 2009 and 2010 debt maturities," Rio's Chief Executive Officer Tom Albanese told investors on Feb. 12.

A quick scan over the miner's 2008 results, which also were released on Feb. 12, shows just how necessary an injection of external capital is for Rio. While the company's underlying earnings, excluding one-off costs, rose 38% annually to $10.3 billion, the more-important net profits -- including a $7.9 billion writedown of aluminum assets -- actually fell 50% to $3.7 billion.

The drop is linked to tumbling commodity prices as emerging markets, such as China and India, cut back on manufacturing output to meet dwindling global demand. Prices for metals, such as aluminum, iron ore, and copper -- all key commodities for Rio, have dropped 35% or more since the last summer. Without much-needed capital flowing from clients in developing economies, Rio instead had to turn to the cash-rich Chinese to fill the funding gap.

Yet like so many deals in the mining sector, the Rio-Chinalco Feb. 12 announcement may not be a slam-dunk. Indeed, the Times of London reports mining giant BHP Billiton, which just over a year ago proposed an eye-watering $150 billion all-share takeover of rival Rio, is prepared to contest the partnership if "BHP decides the Chinese are getting assets it would like on the cheap." In particular, BHP wants to get its hands on Rio's iron ore and copper assets (the central reason why it tried to buy Rio in the first place), and is reportedly willing to take its argument directly to Rio's shareholders.

No matter the outcome, the fact Chinalco could up its stake in Rio shows just how important emerging markets now are for the mining industry. For the last ten years, countries like China and India have been the major profit-generators for the likes of Rio and BHP. Now, developing economies look set to play a more active role in how they acquire much-needed raw materials.