The Rio Grand

Rio Tinto’s knockout counterbid for Alcan is good use of capital as the acquisition would be a high-quality diversification of the mining group’s metals portfolio. But bold as the move is, the premium Rio Tinto is offering, plus the challenge of integrating such a big new business, are sure to leave investors feeling a little uncomfortable. After all, Rio Tinto’s investors have been spoiled for years. The company has owned top-quality reserves, eschewed mega deals, and remained conservatively financed. Yet many would argue there have been diminishing returns from this conservative approach. Rio Tinto has sat out $300 billion in metals and mining deals of the past five years.The company, whose strength is base metals, has watched as key nickel and copper miners - FalconBridge, Inco and WMC - were bought out by rivals. All that’s now about to change. The agreed offer, at a 66% premium to Alcan’s share price before the original bid from U.S. rival Alcoa, is the biggest ever cash deal in the sector. It puts an enterprise value of $44 billion on Alcan, equivalent to 9.4 times forecast 2007 Ebitda. Alcan paid an 8.3 times EV/Ebitda multiple for Pechiney in the 2003 all-aluminum takeover, while Xstrata paid 9.2 times for Falconbridge earlier this year. From a net debt/Ebitda multiple of 0.2 times at Rio Tinto, the combined group’s leverage would jump to 2.5 times. Net debt rises to $46.3 billion from $2.4 billion. Little wonder Rio Tinto is calling a day on share buybacks. Rio Tinto’s desperation to make up for lost time is reflected in how aggressively it has put the bid together. It’s all cash - Alcoa’s is cash and shares - with a whopping $1 billion breakup fee. A rival bid will have to trump Rio Tinto’s $101-a-share offer and pay an extra $2.71-a-share to cover the breakup fee. Rio Tinto has some natural advantages over Alcoa. The transatlantic Rio-Alcan tieup presents fewer antitrust worries.