Glencore IPO trailer highlights valuation dilemma

LONDON Tue Mar 1, 2011 12:27pm EST

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LONDON (Reuters) - Valuing Glencore GLEN.UL is the biggest conundrum facing equity analysts as the Swiss commodity trader spends a second day explaining its business ahead of what could be London's biggest IPO.

People familiar with the situation said leading mining analysts were again locked in briefings with senior officials from the company, which is simultaneously the world's biggest commodity trader, a sizeable miner, and a big investor.

The briefings come as Glencore ponders whether to press ahead with a giant initial public offering (IPO) that could challenge Europe's largest to date, the $16.6 billion raised by Italy's Enel (ENEI.MI) in 1999.

In the credit markets, the cost of insuring Glencore's debt against default fell further, and its bonds rose in price, as a balance-sheet-boosting flotation appeared more likely.

As a big borrower, Glencore is already well known to banks, bond investors and credit rating agencies, but it is far less familiar to the equity analysts whose research would ultimately underpin a successful flotation.

Unlike credit analysts, who focus mainly on a borrower's risk of defaulting, their equity colleagues may have a tougher time assessing Glencore's worth to public investors.

So far, estimates of its value are scarce, though Liberum Capital in January suggested the firm, owned by its 500-odd senior traders and other partners, could be worth about $60 billion based on a sum-of-the-parts valuation.

POLITICAL RISK

Analysts will have to gauge the value of three disparate businesses: its market-leading commodity trading arm; a series of stakes in other miners, such as Xstrata XTA.L; and a string of mines and other "physical assets" Glencore owns.

The easiest part of the business to value is that attributed to its holdings in publicly listed companies, but after that it becomes trickier.

Glencore owns or partially owns mines, refineries, smelters and grain silos around the world, and valuing these industrial assets depends on marketing arrangements as well as costs related to deals, such as treatment charges.

"The big issue is getting to the bottom of what all of their assets are," said John McGloin, an analyst at Collins Stewart. "Getting reserves, resources and costs for these operations is going to be pretty difficult."

By far the biggest headache for analysts is the value to attach to Glencore's marketing operations, which trades products from third parties as well as from its own assets, and provides financing, logistics and supply chain services.

Analysts will want to find out just how Glencore generates its money and are likely to want to see some of the contracts.

"Glencore have a reputation of being pretty aggressive on their pricing," said McGloin. "They don't want to show everybody the inner workings."

Once analyst have built their valuation models and assessed the risks involved in Glencore as an equity investment, they are expected to publish pre-IPO research that will form the basis of investor decisions on whether to back a flotation.

On pure valuation grounds, Glencore is likely to argue its core business is grounded more in trading, since such businesses command higher valuations.

Singapore-listed Noble Group (NOBG.SI), a smaller rival trader, is valued at a price of 12.9 times forward earnings, according to Starmine data, while miner Anglo American (AAL.L) is on a multiple of just 8.2.

Glencore's stakes in other businesses are likely to be valued at a discount, as is often the case with listed investment vehicles.

On top of that are the complexities of making long-range forecasts for the value of commodities such as copper, which have fluctuated wildly in price in recent years, and of assessing the political risk inherent in operating in countries such as Democratic Republic of Congo, Colombia and Kazakhstan.

Investors have already shown an interest in Glencore's equity through a convertible bond it issued in December 2009.

And Qatar, one of the sovereign wealth funds flagged as a possible "cornerstone" shareholder, added further weight on Monday by saying it might invest in Glencore and would meet the company in Doha this week.

CREDIT DEFAULT SWAPS

Five-year credit default swaps (CDS) on Glencore tightened 1.24 percent to hit a 10-month low at 156.5 basis points, Markit data showed, meaning it costs 156,500 euros a year to insure 10 million of debt against default.

The CDS rocketed during the financial crisis and leapt again in May on fears Glencore might pursue an Xstrata merger instead of an IPO. They have since tightened dramatically, falling 41.6 percent in three months, against a 7 percent tightening in the wider iTraxx Europe index.

In another indication of improving creditworthiness, its bonds have risen in price, pushing yields lower. The yield on its 1.25 billion euro 2017 bond, issued a year ago, hit a record low on Monday at 4.948 percent, Xtrakter data showed.

(Additional reporting by Kylie Maclellan, Alexander Smith and Eric Onstad; Editing by Gary Hill and Will Waterman)

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