The takeover drama unfolding over Potash Corp. of Saskatchewan Inc. has drawn the attention of an unusual tire kicker – the manager of Canada’s national pension plan.
Canada Pension Plan Investment Board has looked at ways to get involved in a bid for Potash, which is hunting for an alternative to a $38.6-billion hostile bid from BHP Billiton. However, it’s a long shot that the pension manager will jump in, sources said.
CPPIB’s private equity arm isn’t the only buyout firm linked to Potash Corp., with China’s Hopu Investment Management Co. reportedly trying to rope together a group to make an offer. Hopu is relatively small, but it has powerful backers, including Singapore’s Temasek sovereign wealth fund.
While it may be tough for any private equity buyer to outgun BHP, the mere fact that funds are nosing around a $40-billion mining takeover battle raises the question: Is this the long-awaited arrival of buyout funds to the mining industry?
The conventional wisdom is that there are a number of obstacles to private equity getting involved with mining. Managers of private equity funds (and their bankers) are wary of political risk from mines in countries with dodgy regimes and of the risk that commodity prices could tank, taking away the cash flow those funds need to pay back loans.
Despite that, as the commodity cycle and private equity boomed in 2007, there were predictions that buyout funds would finally move much more strongly into mining as other sectors became picked over. It never happened. Commodity prices came crashing down as the world slid toward recession, and the credit crisis made it nigh impossible to get loans for any buyout, let alone a cyclical like a miner.
These days, the action in commodities is not in the form of the big headline-grabbing buyouts. Instead, the push has been to invest early in the development cycle. Energy has been busy. Mining less so, but there have been examples such as Inmet Mining Corp. getting $500-million investment from Singapore’s Temasek earlier this year to help finance a new copper mine in Panama.
With early-stage investments, the possible returns are much higher.
“You’re taking a bunch of development risk – capital expenditure, permitting, execution – and so you can get into those at a deep discount,” said Dan Barclay, head of Canadian mergers and acquisitions at BMO Nesbitt Burns. “If you add leverage to that, you can start to see your way to a really good return and a really robust exit scenario: You develop a good mine and you sell it to a big miner.”
For private funds considering large buyouts of existing companies, it’s tougher.
First, there’s not enough access to loans that private equity firms use to increase their returns through leverage. “You can’t get leverage on mining assets like you can on other industrial assets,” Mr. Barclay said. “If you’ve got a mine in the Congo no one is giving you eight times EBITDA for leverage.”
On top of that, it’s tough to compete with buyers who are already in the mining industry and which trade at valuations that make them able to pay more.
Even if it chooses to stay out of the Potash Corp. race, CPPIB is betting that it can make private equity investments in mining and energy work. The fund hired an executive with a mining background who had spent time with BHP Billiton on strategy and acquisitions. The executive, Jeff Donahue, is charged with finding deals in mining and energy.
CPPIB executives, through a spokesperson, declined to talk about the money manager’s strategy in mining, but it’s clear that the pension fund manager has some potential advantages over other buyout shops such as Kohlberg Kravis & Roberts and Blackstone Group.
Those firms have to raise funds from investors and they are expected to return it a few years later. That means selling the investments the funds make, usually in seven years or so. That relatively tight time frame can be risky in a cyclical business.
CPPIB doesn’t need to sell because it has more money pouring in every day from contributions made by Canadian workers. It can hold right through any commodity cycle.
That long hold period also means CPPIB doesn’t necessarily need to shoot for home-run returns right away, so it can sometimes pay more.
Still, it’s unlikely that CPPIB can pay enough to get in on the Potash Corp. bidding against BHP. And if and when CPPIB does show up in the mining buyout game, there’s a good chance it will be the exception rather than the rule.
