Selling the family silver

The Korean bidders for Arrium will be laughing all the way to the bank as Australia's short-sighted fund managers hand over our prized assets (and retirees' future incomes) for a pittance.

Like the French, the Koreans must think that Australians are absolutely mad. The Koreans are able to bid for one of the world’s most strategic iron ore/steel assets for just three times what the company looks set to earn next financial year.

And the bid was substantially above the previous market. I am, of course talking about the bid the Koreans are making for OneSteel, which now calls itself Arrium.

Of course, even that rock bottom price the Korean bid is more attractive than what the French last year paid stupid Australians for one if the most prized global financial assets – Australia’s controlling stake in the Axa Chinese financial network.

It’s no accident that most of our big our institutions have no idea how to value shares that are not in the top 50 stocks. Partly because our big superannuation managers are not doing their job, Australians are taking their money out of the big funds and investing it themselves and are usually doing much better.

Unfortunately directors of companies like One Steel (sorry, Arrium) still make pilgrimages to the dinosaur institutions that can’t be bothered listening to any material that forecasts longer than 12 months. The companies themselves ignore the self-managed funds that now have 35 per cent of the superannuation market and look set to take 50 to 60 per cent. We are watching a re-run of the newspaper classified market.

The Koreans (and the French) can’t believe their good fortune.

Even if the Koreans bid, say, $1.50 an Arrium share (twice the initial bid) you are still looking at a price to earnings ratio of just six for 2013-14 earnings.

The advisers to the Koreans have told them the formula to get assets on the cheap and, wisely, the Koreans are adopting it. You flood the inexperienced journalists in the daily financial papers day in day out with garbage about how good the bid is and how directors will be under pressure. The Australian Financial Review leads the pack in scaring directors (although its experienced commentator Matthew Stevens was not sucked in by the Koreans).

Other papers also join in 'the fun'.

As Alan Kohler pointed out yesterday (Arrium's slow, sad super song, October 2) we are giving away at silly prices prized assets which we are going to need to fund our retirement, simply because the current generation of young fund managers don’t understand what older Australian savers need.

In addition Australian institutions have trouble valuing globally strategic assets like Arrium.

Let's go to Morgan Stanley research to show why the Koreans want Arrium.

POSCO is the largest steelmaker in Korea and the third largest in the world. It only produces 30 to 35 ore cent of its iron ore requirements but its current iron ore costs are above $US100 a tonne.

The additional Arrium 11 million tonnes will cost Korea about 50 per cent less than its current costs. And remember that Arrium has just completed an expansion of its South Australian mine from six million tonnes to 11 million tonnes on time and on budget. A remarkable achievement. If you wanted to build it today the cost would be double.

Arrium is one of the very few Australian companies that are global leaders in a market – CSL, Cochlear and Orica are the standouts. Arrium is the global leader in grinding balls and has a substantial US operation. Grinding balls are essential to the production of copper and gold, two of the metals that are doing well.

It’s true Arrium has debt which would cause a problem if the iron ire price slumped to, say, $60 a tonne – but that would put most iron ore mines out of business (Iron ore went above $180 a tonne at the peak).

When it comes to 2013-14 earnings, iron ore will be in full production and Morgan Stanley estimates that Arrium will earn 25 cents a share. Deutsche Bank is going for 31 cents a share. Given the strategic nature of the assets, a price to earnings ratio of about eight to ten times estimated earnings for the next financial year would not be out of line.

And remember that next financial year the avalanche of money coming in to fund the LNG projects will fall and the dollar should decline sharply, something which would send Arrium profits through the roof. And it is always possible Andrew Forrest is right and the iron ore price will rise again.

The Koreans must be toasting each day in Maesil Ju – a traditional Korean wine made out of green plums.


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