Chinalco and Rio Face Opposition Down Under

I don’t get it.

Outside capital is nowhere to be found in any part of the world today. Because companies and private equity sources are on the sidelines, governments in Europe are injecting billions of euros into their domestic banking institutions, and the United States government is investing hundreds of billions of dollars into the country’s banks, brokerage firms, insurance companies and automobile companies.

Yet, in this time of global financial crisis, Australia’s Foreign Investment Review Board has decided to extend its probe into the planned funding deal between Chinalco, a Chinese state-owned company, and Rio Tinto, by as long as 90 days.  Also, the Senate Economics Committee will probe investment by state-owned companies and sovereign wealth funds, according to a motion that was approved today. Both actions have increased concern that the funding deal, which has been supported by both Rio’s management and its board of directors, will not be approved.

Rio Tinto, the world’s third largest miner, is struggling under a crushing burden of debt that it took on when it purchased Canada’s Alcan in 2007. The plan at the time was for Rio Tinto to pay down its debt by selling off assets. With demand for all of the commodities mined by the company at all-time highs and prices soaring, that seemed to be a reasonable way to go. Before the plan could be executed, however, the global economic meltdown intervened.

As of December 31, Rio Tinto had net debt of $38.7 billion, $8.9 billion of which is due in October of this year, and $10 billion of which is due in October 2010. With no other alternatives in sight, Chinalco and Rio Tinto agreed to a funding deal whereby Chinalco would inject $19.5 billion into Rio Tinto through a series of asset purchases and by increasing its ownership stake in the company to 19 percent. Chinalco had already acquired a 9 percent stake in Rio Tinto in 2008 when the company was battling a proposed takeover by BHP Billiton. The proceeds of the funding would be used to pay down debt.

The speculation in Australia is that the extended investigation may increase pressure on the government to block the transaction. Some 78 percent of Australians oppose investment in Australia by Chinese government-controlled businesses, according to a poll of 1,001 people published by the Sydney-based Lowy Institute in September. If this isn’t democracy gone amuck, I don’t know what is!

It is true that opposition to Chinese investment globally helped block CNOOC’s $18.5 billion bid for U.S.-based Unocal, as well as Haier Group’s offer for U.S. appliance maker Maytag in 2005. However, there are two major differences between those two deals and Rio Tinto. Both Unocal and Maytag involved the purchase of all of their shares by a Chinese company, an understandably more controversial transaction. In the case of Rio Tinto, the proposal is only to increase Chinalco’s ownership from 9 percent to 19 percent. Additional purchases of shares by Chinalco would require additional approvals.

More importantly, though, we are in a time of financial crisis. To put it into perspective, Australia is a $909 billion economy, one-fifteenth the size of the United States. It would be as if a Chinese company offered to invest close to $300 billion for a minority equity position in an ailing, heavily-indebted company in the United States. Under the current circumstances, my guess is that that investment would be welcomed with open arms.

In these difficult times, the Australian government should not be so quick to look the Chinese gift horse in the mouth. Apart from the capital, China also happens to be one of the largest customers for all of Australia’s products.

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