The CEO of Sibanye Gold* (to be amended shortly) in negotiations with Anglo American Platinum (Amplats) has bobbed and weaved, ducked and counterpunched, but finally, Neil Froneman appears to have landed a potential title-winning blow for shareholders. In the process Sibanye might well move up a category, from middle to heavyweight.
This is because the R1.5 billion plus deal (more about this later) looks to provide a sizable entry point for Sibanye to enter the platinum group metals (PGM) market through the acquisition of the Rustenburg Operations from Amplats.
Speaking at the announcement of the deal yesterday, Froneman said, “we were very disciplined and structured. We had to make sure our first entry into platinum was significant, but we haven’t rushed into it.” Froneman demonstrated that discipline when he walked away from a deal with Amplats in October last year with those immortal words, “Well if they [the assets up for sale] are so good, they should keep them.”
In response to a question from an analyst on how the two parties came to agree on the price the second time around, Froneman revealed why he has a reputation as a skilled dealmaker. “Initially we had very different ideas of value [for the assets]. But when we took a different view in terms of sharing the risk, it allowed us to come together on getting the deal done.”
That last part of his statement around “sharing the risk” is the nub. By convincing Amplats to share the risk, he turned the haggle over price into a more cordial engagement involving mutual benefit. And by doing so, Froneman could then – with a little more maneuvering – take a potentially large and risk-fraught transaction for Sibanye, and make it congruent with the company’s strategy of delivering returns to shareholders via dividends. (As we will explain).
Mechanics and value of the transaction
So, who gets what? Under the terms of the deal, Sibanye will pay Amplats R1.5 billion upfront, which can be via cash or shares. At Sibanye’s election. (Regulatory approval from the Department of Mineral Resources and the Competition Commission should take about twelve months).
What happens next refers to “sharing the risk.” Sibanye will pay Amplats 35% of distributable free cash flow from the Rustenburg operations over a six-year period. Distributable free cash flow is money available after operating expenses and capital expenditure (capex). So its effectively money that is paid out as dividends. Sibanye, as a minimum, needs to pay Amplats R3 billion over this six-year period.
Should Sibanye not be able to fulfill any or all of the R3 billion minimum price, a clause in the sale agreement grants it a further two years in which to do so. If the R3 billion minimum is not met during the additional two years, Sibanye can elect to pay the difference via cash or shares at the end of this period.
Now if you think those terms are favourable, wait until you hear about the last part. If there is no positive free cash flow over the first three years of the transaction (to the end of 2018), Amplats undertakes to pay R267 million a year to Sibanye to keep the operations cash flow neutral!
So for the issue of R1.5 billion in Sibanye shares, Froneman gets eight years to give the Rustenburg operations his best shot. And if things are really tough in the first three, Amplats will write him a cheque for R800 million. The present value of the additional R3 billion Sibanye needs to pay in potentially eight years’ time, is R1.9 billion. (Discounted at the rate of inflation).
But while it is a sweet deal, Mr. Froneman is going to have to graft.
For a variety of reasons, the Rustenburg operations have been marginal over the last few years (see graph below). As the transaction is large for Sibanye – it roughly doubles its size – Froneman has gone to some lengths to recruit a management team capable of further optimising the business.
This has included appointing ex-Amplats CEO Barry Davison to the board of the newly created Sibanye Platinum division as a non-executive director. Shadwick Bessit, previously executive director of operations at Impala, becomes the CEO of the division, and son Justin Froneman joins as CFO.
The Rustenburg operations have reserves of some 9.7 million ounces of PGM’s as at the end of 2014, with production expected to rise from 500Koz last year to around 750Koz this year. But as you can see from the graph (entitled “Free cash flow Rustenburg Operations”) they are not generating a lot of surplus cash.
“Our operational model has a good track record. But Amplats has done a lot of the hard work getting the assets to be more efficient. We think there are some things we can optimize to make these assets work better,” said Froneman, who undoubtedly will relish the challenge of transforming these marginal assets into cash cows.
But Sibanye’s gain is not necessarily Amplats’ loss. The truth is that the deal makes sense for both companies, as well as SA Inc. A look at the share price performance of both companies since the cautionaries came out last week, indicates Sibanye has been the clear winner.
For Amplats, phase two of the turnaround under the guidance of Chris Griffith meant, “reprioritizing the assets with the longest term value in a capital constrained environment. The assets being sold are good long-term assets, but would have been standing at the back of the queue when it came to capital allocation,” he said.
Amplats will impair its balance sheet to the tune of R4 billion to R5 billion on completion of the deal. But one has to wonder to what extent the motivation for the transaction from their side was affected by the political climate in South Africa. It appears to be politically untenable to close unprofitable mines in the current environment. With a nagging issue now behind them, they can turn management focus and precious capital to the assets that generate the highest returns, and be relieved to be relieved of, the Rustenburg operations.
For Froneman and Sibanye, this could well be a profitable springboard into the PGM space – but with the rejoinder that, “we will pursue assets where we see the best returns.”
So, welcome to Rustenburg, Mr Froneman.