Glenstarta merger: What does it mean for Botswana?

| Wednesday May 8, 2013 00:00

For almost a year, the international equity markets have been awaiting the final announcement of the merger between two Swiss companies that are already closely related. The merger of the giant trading company, Glencore with registered offices in the tax haven of Jersey and what is probably the world's most transnational mining companies Xstrata with main offices in the tax haven of London is expected to result in a firm with a market capitalisation of $80 billion (P650 billion).

Though the new entity is yet to be formally named, it has been dubbed 'Glenstrata'. Glencore is one of the world's largest commodity trading companies. It is reportedly the largest company in Switzerland, with a 2010 global market share of 60 percent in the internationally tradable zinc market, 50 percent in the internationally tradable copper market, nine percent in the internationally tradable grain market and three percent in the internationally tradable oil market. Xstrata is one of the world's most diversified and transnational mining companies and the world's biggest trader in thermal coal with operations in 19 countries on virtually every continent. Glencore already owns some 40% of Xstrata. It is estimated that the merger, seen as the 'perfect marriage' will soon create the world's fourth largest mining company. But neither company operates in Botswana so why does it matter to the country? In order for such a merger to occur, the governments of the countries in which the merged companies operate have to agree to it. Each has complex competition policy rules to be complied with in order for the merger to be consummated. And a funny thing happened on the way to formation of South Africa's Competition Tribunal.In South Africa, which is one of the most important places where Xstrata operates, the Competition Tribunal  had initially approved the merger and then two weeks ago, Eskom and the National Union Mineworkers (NUM) raised an objection.

Following submissions from both parties, the Competition Tribunal was meant to finally rule last week on the merger. But at the last moment and without explanation, both parties withdrew their objection and the Competition Tribunal has finally cleared the way for the merger. What did the NUM and Eskom get from Glencore in order to withdraw their objection at the Competition Tribunal? Reports from Wall Street Journal say 'the regulator set conditions for the merger. The combined companies will be limited to a maximum of 80 dismissals of skilled employees and 100 dismissals of semi-skilled or unskilled employees, which can only take place in the two years after a 90-day review is completed in consultation with the unions'. Similar limits on lay-offs were set by the South African Competition Tribunal in the Walmart acquisition of Massmart in 2011. But what is perhaps much more important from a Botswana perspective is the 'confidential agreement' between Eskom and Glencore on coal supply and prices. The agreement paved the way for withdrawal of the Eskom objection at the Competition Commission last week. Xstrata is reported to supply some 19% of Eskom's coal. It is by no means a huge player in the local coal market with Exarro, BHP-Billiton and Anglo being bigger suppliers  to Eskom. However, coal supplies are getting ever tighter in South Africa and in the medium to long term, the Witbank, the traditional source in South Africa, simply will not be able to meet the demands of  Eskom if it is to maintain its business model of continuing to rely on thermal power stations. In Eskom's reasoning, if Glencore, as a trading company is to increase its profits, it will have to divert coal from the South African market to the ever- hungry Indian market.

What is not widely understood is that South Africa maintains in effect a two tiered pricing system for coal. There is a lower price for Eskom for the local market. The higher price is for the export market - read India. While export and Eskom coal are quite different in quality, it is reported that the average long term contract price for coal to Eskom is R135 per tonne compared to a spot price for coal on export quality in January of  $89 per tonne (P730 per tonne). Glencore, like the other coal producers in South Africa would prefer a local coal price linked to the export price - what is called  export parity pricing. But this would certainly undermine the supply of coal to Eskom, raise electricity tariffs and further undermine South Africa's competitiveness .

Enter Botswana! In the midst of this merger in September last year, South African President Jacob Zuma arrived in Gaborone to sign a memorandum of agreement with Botswana to supply coal to his country. The terms of the agreement are not public. However, Jindahl, the new owners of Botswana's best quality coal deposits at Mmamabula, remain bullish about the prospects of constructing a thermal power station and exporting 300mw of electricity to South Africa. This is something the previous owners, CIC Energy was not able to achieve because Eskom wants to buy coal, not thermal generated electricity. As long as the memorandum of agreement with South Africa is for the supply of lower quality coal known as middling, Botswana might not export to India, a country which is increasingly willing to accept ever lower quality coal. Then it is clearly in Botswana's interests as long as the price that Jindahl gets for our coal is based on export parity prices. But as the Glencore-Xstrata merger has shown, Eskom and South Africa will not want to pay export parity prices. Unless we have our own railroad, other than the 80km proposed Transnet spur from Mmammabula to the Waterburg coal deposits in South Africa, then Botswana will be at the mercy of Eskom in terms of its pricing of exports. Thus an announcement by the government of movement towards a decision on railroad construction remains crucial for the country's development. Without our own railroad, which coal company would want to invest in Botswana knowing that they are at the mercy of Eskom and will not receive export parity prices?

The Glencore Xstrata merger reveals much about the economics of South Africa and Eskom and Botswana's relations with both are now clearer as a result. A railroad to the coast where all potential coal suppliers remain part of the transport arrangement is  the country's best hope to obtain coal prices that are export parity based.Glenstrata, or whatever the new merged company will be called is likely to reappear in Botswana in future.Botswana contains two thirds of Africa's known coal deposits but they, like other firms in Botswana, will only be willing to invest if they can get coal exports to the coast.  

* These are the views of Professor Roman Grynberg and not necessarily those of  the Botswana Institute for Development Policy Analysis where he is employed.