Glencore xstrata

Merger & Acquisition Project:
Glencore and Xtrata
Creating Strong Relationships

Submitted by:
Akshay Gupta
Swati Jindal
Arnav Kapur
Kapish Kaushal
Sachit Arora
Vaibhav Gupta

Merger and Acquisition Project: Glencore & Xtrata

Merger & Acquisition Project:
Glencore and Xtrata
Contents

1. STRATEGIC DUE DILIGENCE/RATIONALE FOR MERGER ................................................................ 1
1.1. ABOUT GLENCORE .................................................................................................................................. 1
1.2. ABOUT XTRATA ....................................................................................................................................... 1
1.3. RATIONALE FOR MERGER ....................................................................................................................... 2
1.4. POSITIONED FOR A CHANGING ENVIRONMENT ........................................................................................ 2
1.5. OPPORTUNITIES ACROSS THE ENLARGED ASSET PORTFOLIO ............................................................... 6
2. EXTRACTION INDUSTRY VALUE CHAIN – GENERAL OVERVIEW ................................................. 7
2.1. GLENCORE-XSTRATA VALUE CHAIN AND STRATEGIC BENEFITS............................................................ 7
3. VALUATION .................................................................................................................................................... 10
3.1. NEED FOR A PREMIUM ........................................................................................................................... 10
3.2. POTENTIAL SYNERGIES ......................................................................................................................... 12
3.3. BUSINESS MIX ........................................................................................................................................ 16
3.4. HOW A COMBINED XTA / GLENCORE MIGHT LOOK .............................................................................. 17
4. DEAL STRUCTURE........................................................................................................................................ 20
4.1. INVESTMENT BANKS INVOLVED ............................................................................................................ 21
5. WHY THE DELAY? ISSUES & CHALLENGES FACED .......................................................................... 23
5.1. ISSUES ON THE PRICE TERMS ............................................................................................................... 24
5.2. EXECUTIVE COMPENSATION ................................................................................................................. 25

Copyright © 2012 IIFT. All rights reserved


1. Strategic Due Diligence/Rationale for Merger
A combination of Glencore and Xstrata represents an outstanding opportunity to create
value for shareholders. The merger would lead to the creation of a major natural resources
group with a combined equity market value of $90 billion and a unique business model, fully
integrated along the commodities value chain, from mining and processing, storage, freight
and logistics, to marketing and sales.

1.1. About Glencore

Glencore, headquartered in Baar, Switzerland, is one of the world's leading integrated
producers and marketers of commodities. Glencore has worldwide activities in the
production, sourcing, processing, refining, transporting, storage, financing and supply of
metals and minerals, energy products and agricultural products..

Its customers around the world are active in a wide range of industries, such as automotive,
oil, power generation, steel production and food processing. The customers rely upon
Glencore’s established global network for the supply of metals and minerals, energy
products and agricultural products. These commodities either originate from Glencore's own
production assets or are sourced from third parties.

Glencore listed on the London Stock Exchange in May 2011 and is a constituent of the FTSE
100 Index. It has a secondary listing on the Hong Kong Stock Exchange

1.2. About Xtrata

Xstrata is an Anglo-Swiss multinational mining company headquartered in Zug, Switzerland
and with its registered office in London, United Kingdom. It is a major producer of coal (and
the world's largest exporter of thermal coal), copper, nickel, primary vanadium and zinc and
the world's largest producer of ferrochrome. It has operations in 19 countries across Africa,
Asia, Australasia, Europe, North America and South America.

Xstrata has a primary listing on the London Stock Exchange and is a constituent of the
FTSE 100 Index. It has a secondary listing on the SIX Swiss Exchange. Its largest
shareholder is Glencore International plc, which has a stake of approximately 34%

Copyright © 2012 IIFT. All rights reserved P a g e |1


1.3. Rationale for Merger

The merger will bring together two companies that have grown in parallel one a major
global diversified mining company and other a leading marketer of commodities. The
merger would create a unique business model to capture value in a changing landscape
and would enable Glencore and Xtrata to have significant presence across the entire value
chain as illustrated below. The merger therefore, presents an exciting opportunity to create
a unique business better able to capture value from changing industry dynamics and
redefine the competitive landscape.

Traditional miners Glencore and Xstrata Traders
Exploration Exploration
Mining / producing Mining / producing
Processing / refining Processing / refining
Logistics Logistics
Marketing & Trading Marketing & Trading

1.4. Positioned for a changing environment

The shift in the locus of global demand growth for commodities away from the OECD to the
large developing nations, led by China, has had an important impact on global trade flows.
The value chain for commodities is becoming longer, in geographic terms, and more
complex, with new logistical infrastructure being required to address new trade flows.
At the same time, the sources of supply of commodities are also diverging. Producers are
looking further afield for access to new resources to highly prospective emerging
geographies as traditional mining regions approach depletion. New small-and medium-
sized producers are rapidly emerging from these countries, seeking access to core markets
but with limited marketing capabilities and constrained access to infrastructure, finance and
logistics. In addition, the social licence to operate and gain access to new resources,
irrespective of the region, will be determined increasingly by companies’ sustainability
credentials and their relationships with their communities. The convergence of these trends
means that Xtrata’s and Glencore’s areas of expertise are merging, to create opportunities
for those companies that can position themselves to compete in an integrated way in this

evolving environment.
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Increased scale will improve the risk profile of the companies and enhance access to
capital markets. With access to superior market intelligence, relationships with thousands of
suppliers and customers and the sustainability and operating expertise to operate in
emerging producing regions, Glencore Xstrata will be well placed to capture new
opportunities across the globe.

Combination of two complementary businesses with long-standing links and the logical next
step for both companies against a changing industry environment

 Combines the premier global commodities marketing business and a world-class
operator of metals and mining assets, each with outstanding track records of growth
and value creation, and integrates two portfolios of assets and projects with industry
leading growth prospects and combined production growth of 11 per cent. on a
compound annual basis to 2015
 Combined Group will have a significant and expanded operational footprint,
including positions in the next major regions for mining investment, including African
copper-belt, Kazakhstan and South America
 Creates substantial new optionality and greater strategic and financial flexibility
 Combined Group will benefit from enhanced scale and market positions in the
production and marketing of key commodities, as well as an industry-leading
diversification profile by commodity and which improves cash flow diversification



Positioned to Respond to Supply- Demand Uncertainties and Changing Industry
dynamics

The demand and supply drivers along with the key areas of integration and the rationale for
the deal are elaborated below. The long term potential of the deal and the opportunities and
benefits to be derived from the enlarged asset portfolio are explained in the subsequent
section

Drivers Areas Key Aspects Rationale
Demand
Population Metals  Growing commodity intensity Leading marketer of
Growth including early cycle zinc and copper
commodities
Urbanization Energy  Growing energy demand as Leading trader in
BRIC’s still have low per seaborne thermal
capita energy consumption coal and oil
Increase in Agriculture  Growing food demand and Leading grain
Wealth changing consumption exporter from
patterns Europe/CIS/Aus
Supply Areas Key Aspects Rationale
Industry at Metals  Mine supply growth Top 5 producer of
Full Capacity constraints copper, nickel, zinc
 New supply increasingly
challenged by infrastructure
Ageing Energy  New resources and reserves #1 export thermal
Mines/falling situated in challenging coal, growing coal
grades locations and limited producer
infrastructure
Challenging Agriculture  Growing food demand and Growing production
New changing consumption base
Geographies patterns
Key Point
Glencore Xtrata is uniquely positioned to capture value



The longer term potential of a combined group will enable Glencore Xtrata to have a
distinctive competitive positioning allowing Glencore Xstrata to see and access
opportunities from new sources of growth across multiple geographies and commodities
and along an evolving value chain. It will be able to create deeper and more responsive
customer and supplier relationships, leveraging the power of an integrated global network,
expertise and operational capabilities to provide enhanced security of supply, a broader
range of products and qualities, and new services to manage evolving risks, for example in
logistics, financing or sourcing.

Commodity trade flows are shifting as demand growth is centred on emerging Asian
economies and the supply of commodities is increasingly sourced from more remote,
challenging and often logistically-constrained locations, with a range of new industry
entrants.

The Combined Group will benefit from:

 Access to new sources of growth, prospective geographies and new commodities at
multiple points along the value chain;
 Optimisation of product, marketing and trading interfaces;
 Superior industry insight through unique network and market intelligence;
 Entrepreneurial culture, devolved authority, and strong momentum;
 Operational excellence, proven cost improvement track record and leading
sustainability framework;
 Scale and diversity and organic growth options;
 Appropriate financial strategy, strongly positioned for continuous access to equity
and bond markets;
 Access to a fleet of over 200 vessels and strategically located logistical
infrastructure;
 Expanded product flow to provide customers with a greater range of product
qualities, specifications and commodities from a more flexible, geographic base of
operations including from access to third party supply;
 Improved ability to compete for access to resources, with enhanced financial
flexibility and an established sustainability and governance framework; and



 Best in class sustainability and operating credentials combined with a commitment to
transparency to maintain a social licence to operate and ongoing access to
resources
1.5. Opportunities across the enlarged asset portfolio
Geographical Product Timing Freight and
Logistics
 Triangulation of  Diverse commodity  Glencore  Freight and logistics
freight movements range, supply base and Xstrata is able operations are key to
and regional supply/  extensive storage, to benefit from supporting marketing
Opportunity

demand dynamics handling and ‘inefficiencies’ strategies,
processing capabilities in the shape of understanding trade
 enable exploitation of the forward flows
price differentials price curves
across various products
 Extensive and global  Blending different  “Carry trades”  By being able to
commodity books grades to meet contract booked in physically transport
provide opportunities requirements at a lower contango and store products to
to enter swap overall cost markets can take advantage of
agreements to  Locking in processing benefit from prevailing market
optimise physical margins to take lower financing conditions
Key Aspect

delivery schedule advantage of price and storage  The scale of
 Optimisation of differentials between costs than operations ensures
existing contracts unprocessed and those implied low cost
results in reduced processed product by the forward transportation, often
shipping costs and  Substituting products curve allowing Glencore
higher profit margins where an end-product Xstrata to win
compared to standard can be produced from a contracts by offering a
trades number of commodities lower unit price than
competitors



2. Extraction Industry value chain – General Overview
The extractive industries is known for generating high economic rent—the difference
between the value and cost of production—and the government’s share of this rent can be
very large in times of high commodity prices, as in the last several years. However,
extractive industry (EI) revenue has some characteristics—volatility, uncertainty,
exhaustibility, and the fact that it originates largely from abroad—that challenge policy
makers. Many resource-rich countries have fallen prey to the “resource curse,”1 under
which poor policy choices and corruption have exacerbated the cycles of poverty and
conflict.
The EI value chain approach can be integrated into resource-rich countries’ development
plans and poverty reduction strategies. As such, it represents a path toward combating the
resource curse, raising standards of living, and helping achieve political and social stability.
The basic value chain contains the below mentioned five steps:

Implementation
Regulation & Reveneue
Award of contracts & Collection of taxes & ofsustainable
monitoring of management &
licences royalties development
operations allocation
policies and projects

2.1. Glencore-Xstrata value chain and strategic benefits
A merger between Glencore and Xstrata is the logical next step for both companies. This
transaction represents a natural combination of two complementary businesses, each with
an outstanding track record of shareholder value creation, entrepreneurial management
teams and a proven ability to see valuable opportunities and execute them. Glencore
Xstrata would be positioned to create value from each step of the commodities value chain,
from resource extraction to customer sales, at a time when demand for our combined
products continues to grow. A growing world population, a rising middle class and ongoing
urbanisation and industrialisation in emerging economies will underpin demand for our
expanded range of products for years to come. At the same time, supply remains
constrained due to historic underinvestment, ageing operations and the challenges of
bringing new production to fruition.



With access to superior market intelligence, relationships with thousands of suppliers and
customers and the sustainability and operating expertise to operate in emerging producing
regions, Glencore Xstrata will be well placed to capture new opportunities across the globe.
The merger will be earnings accretive to Xstrata shareholders from the first year. Our
shareholders will continue to benefit from our organic growth potential, complemented by
Glencore’s near-term, high-return growth to give the combined group a compound annual
growth rate of 11% per annum in copper equivalent tonnes from 2011 to 2015.

While the terms are clearly advantageous to Xstrata shareholders, they do not cause a
punitive dilution that would be unacceptable to Glencore shareholders and would probably
be reflected in the share price. Both companies’ shareholders will benefit from the value-
adding potential of the combination, immediate synergies of $500 million per annum from
the first full year post completion and the financial and strategic flexibility to pursue
opportunities within and external to the expanded business.



Glencore Xstrata will create a vertically integrated, strategically flexible and nimble
business. Combined with the strategic flexibility and capabilities to respond to an industry
that is evolving ever more rapidly, Glencore Xstrata will be positioned to continue both
companies’ track record of creating superior shareholder value – the whole will be greater
than the sum of its parts. Xstrata’s independent directors have unanimously recommended
the transaction to Xstrata’s shareholders.



3. Valuation

Valuation implications under various scenarios using an earnings accretion /dilution
methodology have been carried out. Under a nil premium merger scenario and based on
current share prices, it is estimated that existing XTA shareholders ex Glencore would
control 35% of the combined entity.

3.1. Need for a premium

There are benefits from an Xstrata perspective from this deal like earnings diversification,
operational synergies and project pipeline optimisation. However, Xstrata’s premium
demand will flow due to the following reasons:

1. The XTA business model may potentially be diluted by a combination with
Glencore in the eyes of some investors: At present XTA is a high-growth
upstream miner moving toward higher margin better quality assets than in the past.
A merger with Glencore would add the marketing side of Glencore’s business and
add an industrial asset base that is more emerging market based, smaller scale and
generally lower quality.

2. Multiple arbitrage: from an EPS basis, Glencore’s higher P/E multiple relative to
XTA would make a deal immediately accretive pre-synergies for Glencore without a
premium, on certain estimates. For XTA, a deal would likely thus be dilutive to its
standalone businesses, and shareholders might demand a premium and / or cash
component.

3. Access to Xstrata’s cash flows: as a pure upstream mining company, it is
expected from Xstrata to generate strong cash flows over the coming years. A



combination would give Glencore access to these cash flows and provide greater
capacity for growth and greater direct leverage to the commodity cycle.

4. Control premium: Currently Glencore has a minority 34.5% stake in XTA. Under a
nil premium offer based on current market caps, it is likely that Glencore would
control 66% of the enlarged company. As such, XTA investors might demand a
control premium to reflect these changes in control.

Potential deal premium

Due to P/E arbitrage, any bid for XTA below a 29% premium would be accretive to
Glencore 2012E earnings (without the need for synergies). In order to justify a premium
above 29%, however, a combination of the two companies would require synergies. Based
on mid-range net profit synergy estimate of $475m, it is believed that Glencore could pay
up to a 42% premium for XTA before eliminating the synergy gains for Glencore
shareholders.

Provided below is the sensitivity analysis which indicates the estimates of the level of net
synergies needed to justify a range of premia in a merger scenario.

Below is shown Glencore and XTA’s current shareholder ownership stakes in the combined
company at different premium levels: on the base case of a 42% premium, it is assumed
that Glencore shareholders would own some 56.6% of the company.



3.2. Potential Synergies

Since Glencore’s IPO, XTA is down 44%, Glencore down 21% and the implied Glencore
stub ex XTA only 7% – significant outperformance. In terms of multiples, XTA now trades at
4.5x consensus 12-month forward P/E vs. Glencore at 6.5x – a 40% spread compared to a
5% spread just after IPO.

It was only a matter of time since Glencore’s IPO that when the company would attempt a
merger/takeover of its associate company, XTA, where it currently has a 34.5% stake.
Glencore had stated its desire to grow the industrial side of the business in order to gain
greater direct leverage to the commodity cycle and greater market share to feed marketing
activities. XTA, with its close links to Glencore and with strong growth prospects, had to be
the most obvious target and a combination could create an attractive high-growth and
differentiated major.

The potential operational synergies could be estimated on an earnings accretion/dilution
basis. There is limited operational overlap between Glencore and XTA industrial assets.
The industrial asset synergies would be broadly limited to central cost savings,
procurement, etc. rather than any significant operational overlap and cost saving potential
within the assets themselves.



The main area of potential synergy is going to be through the marketing side of the
business, where the combined entity could leverage the total group production to generate
greater profits through greater market share and arbitrage opportunities. The main upside
potential is going to be within the copper, zinc and coal marketing operations. In total
synergies of $280m to $794m at the EBIT level and $246m-$704m at the net profit level (2-
6% of 2012E combined net income) is estimated.

If we compare this synergy estimate with other ‘mega deals’ that have been on the table in
the past, the value creation potential may not look as significant. At the time of XTA’s
attempted merger with AAL, XTA estimated that pre tax synergies were at least $1bn.
BHPB estimated that there were pre-tax synergies of $3.7bn between BHPB and RIO. Both
of these failed deals were between companies where the operational overlap looked far
more obvious. However, in a lower price commodity/equity price environment, synergies
can become incrementally more valuable.

Break-Up of Synergies:

Marketing Synergies:
One of the key disadvantages from not having 100% control over XTA was that Glencore
must carry out any sales or purchases at arm’s length due to related party rules. This
limited the full utilisation of Glencore’s marketing capabilities and distribution platform. If the
two companies were combined, however, this obstacle would be removed. In total, $230-
684m of synergies are estimated within the marketing operations at the EBIT level, based
on the analysis of the current commodity agreements that XTA has with Glencore.



There is a potential for huge benefit particularly in copper, zinc and coal. The following chart
shows the potential zinc and copper synergies in a merger scenario:

Industrial Synergies:

There is likely to be limited operating synergies despite the optical geographical overlap of
key assets (South American coal, South African coal, South American copper, Australian
copper, South American zinc and Australian nickel)

As the diagrams below show, at first glance there appears to be potential for overlap of
assets and therefore savings to be had in South America, Australia and South Africa.

Xstrata EBITDA Glencore EBITDA
Split Split
South Americas North Americas South Americas North Americas
Australasia Europe Australasia Europe
Africa Africa
7% 8%
5%
0%
20%
36%
12%
38% 60%

14%



However, a continent specific analysis shows a very different picture.

In South America, Glencore has a limited copper footprint, with just the Punitaqui mine and
concentrator in Chile. There is limited to nil synergies from tying up this asset with the
Xstrata assets, given that Collahausi is a JV and the JV partners might be resistant to any
tie-up; also, Lomas Bayas mine is located in the Antofagasta region, while the Glencore
asset is located several 100km to the south. In Copper, Glencore’s Cobar mine is located in
New South Wales in Australia, while both Xstrata’s assets are in Queensland. To that
extent, lack of geographical proximity limits any industrial synergies. Moreover, the
Glencore asset has a self-serving concentrator and plans for a shaft extension, limiting any
potential synergies from rationalising assets and capex plans.

For Zinc, the only asset overlap is in South America. Within South America, Glencore’s
Peruvian assets and Xstrata’s assets may at first glance offer potential for savings.
However, Glencore has only a small non controlling stake in Volcan – which is the biggest
producer on a 100% basis – therefore limiting any cooperation. The Xstrata Antamina asset
is a JV between Xstrata, BHP, Teck and the Mitsubishi Corp., making it difficult to envisage
any deep tie-up with the Glencore assets, despite close proximity (both Los Quenuales and
Antamina are in the Ancash region).

In South Africa, coal offers some synergy potential given proximity of operations and
savings are expected here. Glencore already has sufficient export entitlement out of South
Africa and so a potential tie-up with XTA would not be needed from this standpoint.
Shanduka currently ships its export coal out of the Richards Bay coal terminal and the Port
of Durban, as well as the Maputo port and Matola coal terminal in Mozambique. Glencore
has 439k Mt per annum of committed export entitlement at Richards Bay and a 5-year
commitment to export 1.7mtpa through the Maputo port and Matola coal terminal. In 2010
Glencore exported 1.5mt of Shanduka coal. Subject to certain conditions being met,
Glencore’s potential stake in Umcebo will give it access to 1.5Mtpa of export allocation at
Richards Bay.

Examining both Xstrata and Glencore’s assets, both companies have Nickel assets in
Australia. However, while XTA’s are 100% owned, the ownership structure at Glencore’

assets is more complex. Glencore owns 40% of the Murrin Murrin Nickel mine, which is a
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JV with Minara (which owns 60%). Glencore also directly owns over 90% of Minara. All
three assets are located in Western Australia and are within 150km of each other.

Hence, the expectation of low industrial synergies.

3.3. Business mix

Adding together XTA’s industrial footprint, and Glencore’s blended marketing and industrial
mix, it is estimated that a combination of the companies would result in a company with
19% of EBIT attributable to marketing activities and 81% to industrial activities based on
2011E. The total contribution of marketing to the combined group would therefore be
relatively low compared to the standalone Glencore and would reduce earnings
diversification in that respect, so it might also have implications for valuations.

2008-2010 marketing EBIT made up a larger proportion of pro forma group EBIT (24%
average over the three years). However, given the majority of growth planned in both
companies is skewed toward industrial assets, marketing would make up 16-19% (2011-
13E) of Group EBIT on the estimates going forward.

On a commodity basis, both XTA and Glencore individually have large exposures to base
metals (in particular zinc and copper) and thermal coal. Combined, copper would represent
some 39% of 2011E industrial EBITDA followed by coal at 29% and zinc at 19%. At least



on the industrial side, a combination would add little commodity diversification to XTA,
although it would add regional diversification toward DRC/Zambia and Kazakhstan.

3.4. How a combined XTA / Glencore might look

Below are the Income Statements and Balance Sheets of XTA, Glencore and the combined
firm. Estimated values for the future years ie 2012 and 2013 have been calculated
assuming appropriate growth percentage of revenues, Capex and Working Capital
requirements.



A combined company, based on the forecasts, would have revenues of over $200bn in
FY11, EBITDA (pre associates, pre exceptional) of over $18bn and net income of c$9.3bn.
At the net level, this would place higher than Anglo’s, but still some way behind BHP and
RIO.

Balance Sheets



4. Deal Structure

The expected deal terms are as follows:

 34.4% - Existing Holding Size in Xstrata Share Swap Ratio : 2.8 Glencore shares for
every Xstrata Share – was offered earlier
 Glencore gave an All offer – to buy remaining 65.92% of Xstrata
 15.2% : Premium offered to Xstrata’s Shareholders on the present offer
 Total Value of Merged Entities : USD 90 Billion
 Xstrata free float shareholders will own 45% of Glencore Xstrata
 Xstrata shareholders are due to vote not only on the terms of the deal but also the
retention packages. Unusually, the two votes are linked – if shareholders vote
against the pay deals, the merger will fall through. Both companies have refused to
comment.

Role of Qatar Holdings

One of Xstrata's biggest shareholders (Around 10%) is seeking improved merger terms

 Qatar believes that an exchange ratio of 3.25 new Glencore shares for every one
existing Xstrata share will properly recognizing the intrinsic stand-alone value of
Xstrata
 Qatar holdings with Xstrata investors can block the deal with only a 16.5 percent
stake Glencore is not allowed to vote on the deal.
 Richard Buxton, head of UK equities at Schroder's said: ". From day one we've said
this is a deal Glencore needed more than Xstrata, given Xstrata's balance sheet and
cash flow. The strength of Xstrata's balance sheet and cash flow was never reflected
in the exchange ratio."

Executive Compensation

 Shareholders angered by the hefty executive retention payments [170 million pounds
offered to 73 key executives] tied to the deal that do not have any performance
hurdles.



 Xstrata's chief executive Mick Davis alone was due to receive 30 million pounds over
three years.
 The Association of British Insurers had issued a "red top" alert indicating serious
concerns about the pay packages.
 The retention packages, which may now be changed to include a performance link
and more equity rather than pure cash, are intrinsically part of the deal meaning that
a vote against the pay deal would effectively be a vote against the takeover itself.

4.1. Investment Banks Involved

Banks advising Xstrata

Barclays Bank
Plc.
Goldman Sachs Nomura
International International Plc
• Brett Olsher • William Vereker
• Luca Ferrari • William Barter
J.P. Morgan • Shaun Treacy
Limited
• Ian Hannam
• Barry Weir
Deutsche Bank • Neil Passmore

• Nigel Robinson
• Khaled Fathallah
• Nick Bowers

Banks are expected to earn as much as 70 Million USD from each side of the merger.
Alongside the big firms Michael S. Klein is acting as a “strategic adviser” to both companies
chief executives.



Banks advising
Glencore

BNP Paribas
Credit Suisse
Corporate
Securities
Finance
Citigroup Global
Markets Limited
•David Wormsley
•Simon Lindsay
Morgan Stanley •Tom Reid
and Co. Ltd.
•Michel Antakly
•Laurence Hopkins
•Alastair Cochran



5. Why the Delay? Issues & Challenges faced
The merger talks between Glencore and Xstrata had been going on for years under the
code name "Everest." The agreement was finally announced as Xstrata, based in Zug,
Switzerland, reported a 22% rise in 2011 earnings to $5.7 billion, and an 11% increase in
revenue.

The transaction would create a conglomerate worth some $90 billion and the successor
company would be a global leader in zinc and thermal coal as well as a top-five producer of
copper and nickel.

But, Xstrata's shareholders are unhappy. They believe that in the attempt to create a mining
behemoth they are being short-changed. Xstrata brings better assets, a stronger balance
sheet and rosier prospects for growth. On the other hand investors have had trouble
understanding and valuing Glencore's trading business. Its shares change hands for much
less than their initial offer price. The deal is seeing an opposition on two fronts:

• Price
• Executive compensation

Another trouble that Glencore faced was a recent European Commission ruling that would
mean that a failed merger between Glencore and Xstrata could lead to the break-up of the
two companies’ marketing agreements and land the Glencore with serious governance and
debt issues.

Marketing has always played a crucial role in the relationship between Glencore and
Xstrata, and is one of the reasons why the two firms have decided to walk up the aisle after
so many years. Metals and minerals marketing accounted for $1.2 billion or 65% of income
from Glencore’s marketing activities last year. If the merger fails and the companies remain
competitors, market advisory agreements in place between the two companies, which
involve sharing of pricing and production information, would breach anti-trust laws and need
to be revised, possibly scrapped.

The most pressing problem for Glencore would surround its debt. A few years ago,

Glencore saw its credit derivative spreads widen sharply amid concerns over its exposure
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to short-term debt, even though it had sufficient cash and credit lines at hand. At the time,
there was talk of a downgrade to junk status. If that threat returns, Glencore could well face
another run on its credit default swaps.

Glencore, the world’s largest publicly traded commodities supplier, is barred by the U.K.’s
takeover code from voting its 34 percent stake in Xstrata. This meant that Xstrata investors
with a joint 31.75 percent stake would be able to block the payment plan and holders with
16.5 percent could vote down the merger and this is what posed troubles for Glencore.

Major Xstrata shareholders oppose the deal in its present form

• Edinburgh-based Standard Life Investments and Schroders, based in London, which
together own 5.6% of the shares needed for approval, wish to vote against the
proposed merger of Xstrata with Glencore because it undervalues their shares and
are holding out for a bigger premium.
• The Qatar Investment Authority (QIA) holder of nearly 11% of Xstrata shares,
announced it was "seeking improved merger terms" for the proposed Glencore-
Xstrata tie-up.

5.1. Issues on the Price Terms

The Qatar Investment Authority (QIA), the sovereign wealth fund noted that an exchange
ratio of 3.25 Glencore International shares for each Xstrata share would provide a more
appropriate distribution of the benefits of the merger than the original 2.8 exchange ratio
agreed upon by the boards of Glencore and Xstrata. Qatar wants Glencore to increase its
offer by 16 percent.

QIA claimed that at the time of announcement a single Xstrata share would buy 2.67
Glencore shares, which suggested that the market ascribes a meaningful probability of
failure to the deal.



5.2. Executive Compensation

Glencore and Xstrata, are seeking to complete the merger by next quarter and hare
considering changing proposed retention payments for Xstrata executives that have drawn
the ire of investors.
As per the current terms of the deal, retention payments were being offered without any link
to performance. Changes may include tying the 172.8 million pounds ($270 million) in
planned payments to Xstrata Chief Executive Officer Mick Davis and 72 other executives
more closely to the future performance of the combined company.

The new compensation plan

• Retention awards would be paid entirely in shares of the combined entity rather than
cash.
• Retention awards for Xstrata's senior management other than three executive
directors and six other members of the executive committee will be paid in equal
tranches one year and two years after the deal's closing. These payments will not be
subject to any performance targets.
• Retention awards for the executive directors and executive committee members will
be tied to performance targets pertaining to cost synergies.
• Retention awards will vest if the company achieves cost savings in excess of the $50
million in cost savings already identified in the previously articulated $500 million per
annum synergy estimate.
• Maximum vesting would occur if incremental cost savings exceed $300 million within
two years of the deal's close.
Further doubts exist on the Retention Plan

• Based on Xstrata’s history of measuring cost savings from its own operations, the
Xstrata management team might not have any trouble finding the level of savings
necessary to justify a payout.
• Over the past five years, the company claims it has achieved an astounding $1.87
billion in cumulative cost savings ($374 million per year).
• With such a track record, another $350 million over two years doesn't seem to be
hard.



• Problem is that the claimed savings are unavoidably unverifiable by outsiders or
even by Xstrata itself.
• Capitalizing the cumulative claimed savings offers some perspective on the matter.
Assuming a multiple of 6.5 times would suggest $12.2 billion in value creation in only
five years. This is equal to roughly one third of the company's market capitalization,
making the savings claim rather hard to take seriously.

Xstrata's investors are probably hoping to improve the terms of the deal rather than to stop
it. The chances are that the merger will go ahead.


Glencore xstrata

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