Rio Tinto chief Albanese’s downfall a cautionary tale of bad acquisitions
When Tom Albanese made the rounds in 2007 to promote his US$38-billion takeover of Alcan Inc., the chief executive of Rio Tinto Ltd. always told a good story.
He talked about the phenomenal growth rates of emerging markets, and his belief that China would transition from a being a net exporter of aluminum into an importer as its domestic production could not keep up with demand. As that happened, he was confident aluminum would outperform other commodities.
Despite his best efforts, Mr. Albanese was never able to convince the many skeptics among his shareholder base. They worried that Alcan was a classic example of the debt-fueled, top-of-the-market acquisition that always comes back to haunt the CEO who makes it.
Of course, they were right.
Mr. Albanese lost his job on Thursday as London-based Rio announced up to US$11-billion of writedowns on its aluminum business and a US$3-billion writedown on recently acquired coal assets in Mozambique.
Rio Tinto has now taken a mind-boggling US$30-billion (give or take) of Alcan-related writedowns, which is more than three-quarters of the total acquisition value. The deal is, if nothing else, a cautionary tale for executives to avoid getting carried away during a bull market.
The trigger that ultimately led to Mr. Albanese’s ouster was the surprise writedown in Mozambique. Rio acquired control of the assets less than two years ago for about US$4-billion, and is now having to write off most of their value because of coal recovery problems and infrastructure constraints. Writedowns on Alcan are nothing new and hardly surprising anymore, but the Mozambique debacle was more than the board could tolerate.
BMO Capital Markets analyst Tony Robson noted that Mr. Albanese provided a “steady hand” in guiding Rio Tinto in recent years following the “disastrous” Alcan acquisition. That is unquestionably true, as he fixed the balance sheet and made some smart investments. But Alcan was always going to hang over him.
His call on aluminum could not have been more wrong. While demand for the lightweight metal is growing at a healthy pace (roughly 4% to 5% per year), the problem is on the supply side, where huge output growth (particularly in China) has overwhelmed the market. Producers have curtailed more than one million tonnes of higher-cost output to try to balance supply and demand, but prices have stagnated. Aluminum is worth roughly US90¢ a pound today, compared to an average of more than US$1.20 in the first half of 2008. Even at that price, Rio did not make a significant profit in its aluminum business.
Mr. Albanese’s replacement is Sam Walsh, who headed up the company’s iron ore unit. This is appropriate, because Rio Tinto essentially has become an iron ore company in recent years. Roughly 80% of the miner’s profits come from iron ore, and that imbalance can be traced partly back to Alcan. Rio sold a number of assets to pay down debt from the Alcan takeover, and aluminum earnings never balanced the portfolio — EBITDA from aluminum was just US$556-million in the first half of 2012, a tiny fraction of the company’s overall EBITDA of US$10.1-billion.
Whatever Mr. Walsh does, it will be tough for Rio to transition back into a more diversified miner. The company hopes the giant Oyu Tolgoi copper-gold mine in Mongolia will help, though that is a high-risk project that is facing nationalistic threats.
But Mr. Walsh may not need or want to put a personal stamp on the company. Staying the course and avoiding bad acquisitions could be enough to keep investors happy after the turbulent Albanese years.
The industry’s record on acquisitions is appalling, and Rio is not alone in destroying shareholder value
LONDON — Rio Tinto Group, the second-biggest mining company, will take about US$14 billion of writedowns for failed deals in aluminum and coal led by Chief Executive Officer Tom Albanese, who will leave after more than 30 years.
The 55-year-old New Jersey native is leaving as a result of the US$38 billion cash takeover of Alcan Inc. in 2007, a deal that soured as China’s emergence as the world’s largest aluminum producer left Western rivals with few markets to chase. Albanese’s second-biggest deal, the A$3.9 billion (US$4.1 billion) purchase of Mozambique coal producer Riversdale Mining Ltd. in 2011, also deteriorated after coal prices fell.
The board picked Sam Walsh, the 63-year-old head of Rio’s iron ore unit, to turn around the London-based company, that had already cut the value of its Alcan purchase by $8.9 billion last year. The Alcan takeover, which also cost Albanese and Chief Financial Officer Guy Elliott their annual bonus, saw Rio’s debt rise as much as 19-fold and forced the company to seek a $19.5 billion deal with Aluminum Corp. of China that Rio later aborted.
“This was the straw that broke the camel’s back,” Paul Phillips, a Melbourne-based fund manager with Perennial Growth Management Pty who holds Rio shares, said by phone. “I’m surprised Albanese has been there throughout all of this.”
Rio dropped 2.6% to 33.66 pounds at 9:10 a.m. in London after declining as much as 4.6% and the company’s bonds led declines in European credit markets.
Alaska-trained Albanese had until now survived the consequences of his disastrous US$38 billion acquisition of Alcan in 2007, a bruising top-of-the-market deal when Rio was under pressure from rivals to bulk up or be bought.
The deal, just two months after Albanese took the reins, turned bad as markets crumbled and aluminium prices slumped, battering Rio’s balance sheet, nearly forcing it into the arms of Chinese state-owned Chinalco and triggering a US$15 billion rights issue. Rio has since seen years of losses in aluminium and taken billions in impairments – it had already taken an US$8.9 billion charge on those struggling assets a year ago.
Walsh was welcomed by investors and analysts on Thursday as a safe pair of hands, but many also questioned whether a 63-year-old veteran would be a long-term solution, raising concerns over management at a group that also announced the departure of its chief financial officer last July.
Walsh, who heads the unit that generated 78% of Rio’s net income in 2011, will move to London from Perth in his new role. Under Walsh, iron ore is expanding to churn out 360 million metric tons by 2015 from its mines in Australia’s Pilbara region.
“Sam Walsh is well regarded,” said Ric Ronge, who helps manage about US$1.1 billion in stocks, including Rio and BHP Billiton Ltd., at Pengana Global Resources Fund in Melbourne. “Iron ore is about 80% of Rio’s earnings – so he’s basically in charge of the bulk of the company’s earnings power. It makes sense that he would probably be the person to step-up if they were looking for an internal appointment.”
“It’s another black mark in terms of (Albanese’s) M&A record and I suppose, given the magnitude of this writedown … I’m not surprised that he’s stepping down with this, nor am I surprised that Doug Ritchie is,” analyst Jeff Largey at Macquarie said.
Rio had planned to shrink the aluminium arm, cutting back one of the world’s largest producers of the metal by hiving off most of its Australian and New Zealand assets. But industry sources say it has not been mobbed by buyers.
Further damaging his reputation as a dealmaker, Albanese spearheaded a US$4 billion deal to buy Mozambique-focused coal miner Riversdale in 2011, fighting off rival bidders. There, however, like many other miners in the region, Rio has struggled with the challenge of getting coal from pit to port.
Rail and port bottlenecks are the main headache for miners eager to cash in on Mozambique’s coal rush, but it could take a decade for many of the current infrastructure projects to come to fruition on a scale to meet industry demands.
“(Alcan) was always a bad deal, and Albanese was lucky not to carry the can for it back in 2008,” one of Rio Tinto’s 10 largest investors said. “Mozambique is more of a surprise, but the industry’s record on acquisitions is appalling, and Rio is not alone in destroying shareholder value.”Alcan was always a bad deal, and Albanese was lucky not to carry the can for it back in 2008
Anglo American is facing potential writedowns linked to its Minas Rio iron ore acquisition in Brazil, a project set to cost more than three times initial estimates. BHP Billiton , meanwhile, failed to clinch three ambitious bids under its current boss – including two tilts at Rio – but then splashed out US$17 billion on two shale gas takeovers in the United States just before gas prices slumped.
Like Albanese, BHP Chief Executive Marius Kloppers forfeited his bonus last year after BHP took a US$2.8 billion charge on the value of its shale gas assets.
Much like Anglo, which appointed a mining engineer as chief executive earlier this month, Rio will now be led by a veteran operations man. Walsh was already in charge of the division that accounts for nearly 80% of profits and his appointment hints at a back-to-basics strategy that could turn Rio’s back on big deals.
Walsh joined Rio Tinto in 1991 after 20 years in the auto industry working for General Motors and Nissan Australia and rose up Rio’s management ranks before being appointed to head its biggest division, iron ore, in 2004.
Walsh is also a more chummy presence than Albanese, who rarely veered from the script. A lover of the great outdoors who walked across remote Alaska snowfields staking mining claims after college, these days he is more often found on Britain’s canals in his own narrow boat.
News of Albanese’s departure and the writedown, almost as large as the group’s underlying profit in 2011, took the market by surprise, knocking Rio shares in early trade. At 1040 GMT the stock was 1.8% lower, having been down as much as 4.5% earlier in the day.
“I wasn’t expecting the US$14 billion writedown,” said Tim Schroeders, a portfolio manager at Pengana Capital, which owns Rio Tinto shares. He said the departures pointed to a company under pressure to do a better job of managing its purse strings.
“I think it’s clearly a case of the board’s laid down the law in terms of stricter accountability than we had pre-(crisis),” he said.
Rio said the writedowns include a charge of around US$3 billion relating to the Mozambique business – virtually its entire original price tag – as well as reductions in the carrying values of Rio’s aluminium assets in the range of US$10 billion to US$11 billion.
The group also expects to report a number of smaller asset writedowns in the order of US$500 million. The final figures will be included in Rio Tinto’s full-year results on Feb. 14.
“It is non-cash, it doesn’t impact valuation, it doesn’t impact the earnings near term. But (flagship Mongolian copper-gold mine) Oyu Tolgoi’s still to plan,” said one London analyst who declined to be named. “For me, it’s clearly negative, but it’s not the end of the world.”
Neither Albanese nor Ritchie, who will leave in July, will take lump-sum payments, and both will forfeit bonuses on departure, including outstanding bonus share entitlements earned in previous years.
Albanese is not the only chief executive on the way out of a major mining company. BHP has said it is seeking a replacement for chief executive Marius Kloppers, and Anglo American earlier this month replaced chief executive Cynthia Carroll.
© Thomson Reuters 2013