BHP’s quick thinking staves off Elliott bid
BHP may have won the opening rounds this week, but history suggests that the battle may have only just begun.
For a company often perceived as lumbering and cumbersome, BHP Billiton’s response to arguably the most prominent and comprehensive attack on its contemporary corporate structure was swift.
But while the mining giant’s emphatic dissection of the proposals put forward by US vulture fund Elliott Management appeared to win it the opening rounds this week, history suggests that the battle may have only just begun.
New York-based Elliott, a legendary hedge fund founded by billionaire and senior Republican Paul Singer, on Monday went public with its campaign to dramatically reshape BHP in what would have been the most radical restructure since its 2001 merger with Billiton.
More than a year earlier, Elliott had spent well over $1 billion secretly buying up a sizeable position on the giant’s share register. Eight months ago, it started private discussions with BHP management — conversations that would eventually go all the way to chief executive Andrew Mackenzie — fleshing out the ideas that Elliott hoped would reinvigorate the mining heavyweight.
Elliott’s proposed strategy centred around three ideas — collapsing the dual-listed company structure that sees it maintain primary listings on both the London and Australian stock exchanges; spinning off its US petroleum arm into a stand-alone New York-listed business; and implementing a new capital management plan that would commit BHP to a rolling wave of share buybacks.
They were ideas that had been floated around the market by various parties over time, and indeed investigated internally by BHP itself.
Mackenzie said the company started talks with Elliott eager to explore the funds ideas, hopeful that the group had found a way to unlock latent value within BHP. Over time, however, BHP says, it became clear that Elliott’s proposals tripped over the same hurdles that had been unearthed in BHP’s own earlier investigations. The level of work previously carried out by BHP on the ideas meant it was able to respond quickly and thoroughly when Elliott decided to go public with its push.
Within hours, the company released a statement in which is said the costs and risks of the Elliott plan significantly outweighed any benefits. Within two days, Mackenzie and his chief financial officer, Peter Beaven, fronted investors to deliver a thoroughly forensic explanation of what they saw as the fatal flaws behind each suggestion.
Most damningly, BHP was able to demonstrate how the Elliott buyback policy would have left it crippled with debt at the end of the boom. Collapsing the dual-listed structure would have also cost the company more than $US1.3bn ($1.7bn) and delivered no material benefit, while the process would have also effectively transferred billions of dollars from the holders of the Australian BHP shares to their London counterparts (tellingly, Elliott’s BHP holding is almost entirely in the London shares).
Elliott also appeared to fatally misread the political realities facing BHP in Australia, with federal Treasurer Scott Morrison intonating that any plan that saw BHP give up its primary listing here was unlikely to be approved by the government.
While Mackenzie has reason to be happy with the miner’s handling of the week, the experience does highlight some reasons for concern.
The Elliott push prompted a dramatic surge in BHP’s ASX-and London-listed shares in the hours after the news broke, adding billions of dollars to the behemoth’s market value. The gains were quickly reversed when BHP made it clear the Elliott plan would not be getting traction, but the rapid share price gain shows there is a sizeable portion of the share register who believe the company’s current strategy needs improvement. Part of that would appear to be a legacy of the acquisition missteps by previous management, most notably BHP’s top-of-the-cycle purchases of its US shale gas assets, which has opened the window for activists like Elliott to gain traction.
Elliott pointedly singled out those wasteful acquisitions when presenting its case, arguing that its capital management proposal would prevent BHP from burning future cash windfalls on more poor deals. Mackenzie admitted the company had work to do to convince investors that today’s BHP has the systems in place to limit the chances of repeating those errors. He has overseen the development of a new capital allocation framework that he expects will keep BHP on a disciplined path.
“That framework puts a very high discipline on the use of our cash in such a way that I think forces us to make the right value-accretive decisions going forward,” he said. “I believe many shareholders are of the opinion that it is the right capital allocation framework, and it’s up to us now to build the track record over many reporting periods that show that we follow it and that it does indeed add significantly to the value of the company.”
On the upside, the week has offered BHP a chance to demonstrate to shareholders how it constantly reassesses the merits of its corporate strategy.
Mackenzie revealed that the company had not only carried out a number of studies into ideas such as a collapse of the dual-listed structure and a spin-off of petroleum, but also even more extreme concepts such as a complete break-up of the group into four smaller companies each with their own exclusive commodity focus.
While BHP may not have much to show for those efforts — beyond last year’s successful spin-off of its non-core mining assets into South32 — it has at least shown investors this week that it is not content to sit still and that it has a genuine appetite to find new ways to improve the current strategy.
Despite BHP’s success this week, its brush with this new form of American activist investor is not over. Credit Suisse equities strategist Hasan Tevfik notes that Elliott’s activist campaigns typically tend to play out in four acts.
Act one involves private engagement, and act two, where it goes public and starts agitating for change, have already played out. Act three, Tevfik says, involves taking action such as a strong protest vote at an annual general meeting.
Act four comes when Elliott decides to exit — sometimes soon after a fateful AGM, in other instances several years later.
Achieving actual change, Tevfik says, doesn’t always matter. What ultimately counts is the return on investment, and Elliott’s strong record on that front has added to Tevfik’s belief in the share price outlook for BHP. “It is interesting that while Elliott does not always succeed as an activist, it more often than not succeeds as an investor,” he said.
Despite BHP’s successful response so far, Elliott is in territory it knows well. On Thursday, it issued a statement insisting BHP had missed the main point of its proposal.
“Management wants to maintain a legacy, value-distorting dual-listed company structure, retain unchanged within the group the clearly undervalued US petroleum business and, rather than adopt a yardstick of accretive capital return, would leave stranded a significant and growing balance of valuable tax credits,” Elliott said. Accepting the status quo will neither improve performance nor maximise shareholder value.”
The engagement between BHP and Elliott over the last eight months meant the former was well prepared when the latter went public with its plans.
Elliott’s next move, however, is likely to be less predictable.
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