Michael Kiernan (MK) created the original Consmin powerhouse (like a phoenix from the ashes), only to depart after making some ambitious profit forecasts (that may still be achieved, just on different timing due to the vagaries of the manganese price) and disagreeing with a few institutions over his future remuneration package.

The possible Consmin outcomes were one of the most discussed subjects at the recent Diggers and Dealers Conference in Kalgoorlie in August 2007. One of the surprises was the apparent strained relationship between Consmin and Pall that was evident at the pre-conference Sunday dinner given by Consmin, mainly attended by brokers, instos and the media.

Rod Baxter (RB, the MD of Consmin) read a letter from Brian Gilbertson (BG) as to why he (BG) could not attend the dinner. This was followed by RB stating that a film would probably be made of the events, with BG played by Ralph Fiennes (as the [Dark] Lord Voldemort), and MK played by Marlon Brando (who is deceased, but……….continuing in the same vein could be [White] Dumbledore, who dies at the end of Volume 6, but is still “present” in Volume 7).

MK has certainly been the “White Knight” in all of this, (with his) Territory’s (TTY’s) behaviour raising the trading value of CSM on the ASX from $2.80 to $3.80 per share, and resulting in two higher bids from Pall. Up until then, Pall had been exerting a “pall” or “dark cloud” over CSM preventing it from rising with the rest of the resource sector to June 2007. If CSM had then started promoting what potential impact the higher manganese prices could have on its profitability (should be greater than A$100m in y/e June 2008), it could be trading closer to $5.00/share if the whole “Pall” deal had not been considered – but, alas it has.

So what happened to manganese (Mn) prices. Well, in no particular order, CVRD was using rail to transfer its Mn and iron ore to port, and switched to just railing iron ore (and was not expected in the near future to switch back again). The supply shortage that CVRD created was exacerbated by Privat taking over Ghanaian Mn and directing Ghanaian Mn to only produce cons for its requirements, with the result that demand from China used up all the stockpiles increasing underlying Mn y-o-y demand by ~11% (compared to the usual 7%).

That pushed the Mn prices up to the unprecedented levels shown in figure 1, and CSM has locked in a selling price from August to October 2007 of US$7.25/dmtu to US$7.50/dmtu CIF (pron sif, meaning cost+insurance+freight), which becomes as shown in the figure, about A$6.50/dmtu FOB (free on board, meaning once it is on the ship, there are no further costs). Assuming an exchange rate of US$85c, this could be US$5.50/dmtu FOB, which seems to be a high discount (from US$7.50) for the “I,F”, and may be conservative. A dmtu is a dry metric tonne unit of 1%Mn, and needs to be multiplied by 48 to get Woodie Woodie lump prices.

CSM’s Woodie Woodie operation achieves about a 65% recovery of its treated ore being ~52% (can be up to 54%) lump at ~48%Mn and ~12% to 13% fines at ~45%Mn to 46%Mn. That 65% totals about 900,000tpa (from 1.4mt treated, and plant capacity is possibly ~2mtpa). CSM has stated that it expects to increase its Mn production by ~10% in the coming year to June 2008.

With breakeven about US$2.30/dmtu to US$2.50/dmtu, the effect of receiving an additional US$3.00/dmtu on 1.0mtpa is about 1m x 3.00 x say 47 = an additional ~US$140m (or A$165m at US85c) in pre-tax annual profit per year. And Woodie Woodie ore usually trades at a ~US50c premium, but has been trading at a ~US50c discount to the benchmark rate during the oversupplied period (earlier profits in figure 1 at higher dmtu prices by CSM were before the additional 50% plant expansion). Woodie Woodie’s life at 1mtpa is expected to be >20 years.

Privat is the Privat(bank) group of Ukraine which controls steel, oil, chemical, energy, food, media and mining companies mainly in the Ukraine, but also in Russia, Romania, the US and Ghana. In the Ukraine, it has interests in the three ferroalloy mills, controlling two of them, including the world’s second largest (Nikopol). Its interests in Russia, Romania and the US are mainly ferroalloy mills.

Privat uses its own Ukrainian Mn with Ghana Mn and CSM’s Woodie Woodie Mn to make “black gold” – a situation that it clearly does not want to change. The media comments by BG that Pall would build up its own fully integrated Mn company with smelters etc was interpreted as a direct threat to Privat’s Mn ore supply from Woodie Woodie, and consequently Privat has built up a position of ~13.5% in CSM (it would need FIRB approval to go beyond 15%, but that has already been granted to the first Pall scheme, so it should not be an issue).

Being a mega-US$bn company Privat easily bought out Ghana Mn and could do the same with CSM. Hence, although not stated by RB, Privat could be Harry.

It would appear that there are 4 possible outcomes for CSM, depending on your viewpoint. The first is that CSM remains as is. This is the ideal (in our opinion) and unfortunately probably most unlikely, and requires CSM’s shareholders not selling >50.1% of their shares to Pall. That being the case, the Pall and TTY offers both fail and CSM continues as is. CSM shareholders score, with the shares trading initially closer to $5.00 per share, and potentially $8.00 to $9.00 per share (just on its existing assets).

It really depends on the instos, parallels have been drawn between the takeover of CSM and those of MIM and WMC. Can you imagine what MIM and WMC would be trading at if they had not been taken over for the cash accepted by the instos for them.

The second is that Privat slaps the money ($4.00? per share) on the table and tries to take the whole or most of CSM. A possible scenario that results in Privat keeping control of Woodie Woodie for its own interests. It could result in Mn prices soaring even higher, but most CSM’s shareholders will not be there. Privat would probably sell the Jabiru and BCIron investment holdings, and maybe the nickel.

The next 2 outcomes depend on Privat, which is why both MK and BG have gone to the Ukraine for the week beginning 13 August 2007. We doubt if Privat would accept either bid (Pall or TTY) as it would want to keep its place at the table.

So the third outcome is that TTY wins (with possibly an even higher offer, than the current A$2 plus 1.5 TTY shares). For this to happen Lehman Bros have to change their minimum acceptance level to say 80%, or even lower as compulsory acquisition is no longer possible unless Privat accepts the TTY offer.

The TTY offer is backed by DCM and the Noble Group (who hold ~12%CSM shares) in the form of US$150m from Noble, US$50m from DCM, and US$25m equity, US$75m in convertible bonds and a US$320m bridge facility from Lehman Bros (provided more than 90% is acquired). DCM and Noble apparently have no acceptance limits, only Lehman Bros.

TTY have stated that they expect to sell CSM’s listed investments (Jabiru [possibly to OXR, due to the blended ore selling agreement – but there could be other competition] and BC Iron) for ~A$200m, and the Nickel Division for ~A$275m (possibly to BHP Billiton [as it is the only producer threatening to break away from the fold and build its own concentrator or other nickel cathode producing facility and appears to be realising significant exploration upside potential] - or others). (Note that BHP Billiton recently acquired the Harmony ground north of Otter Juan to drill for nickel).

The final and fourth outcome is that Pall wins with its A$3.30 offer. Should Pall win, then what happens after is open to speculation. BG has reputedly stated that he plans to redomicile to London (though the Perth office may remain for at least the first year). CSM may be renamed Pallinghurst Resources Australia Ltd or PRA (after all they are the company making the bid), and PRA sits at the bottom of a >15 company pyramid as shown under 1.2 of the PRA Bidder’s Statement.

PRA is wholly owned by Pallinghurst Investor (Dutch) which is owned 20.833% by Pallinghurst Consolidated (Dutch), which is owned 100% by Pallinghurst Consolidated (Lux), and that is owned 100% by Pallinghurst Consolidated (Cayman), who finally are owned 100% by the Pallinghurst Resources Fund.

BG has stated in the media that Jabiru and BC Iron are probably going to be sold, while the nickel division could be used to take over the Australian nickel sector, starting with the small nickel producers (in our opinion a disaster scenario as the small nickel producers have been successful through hands-on management, not mega mining house mentality).

The main holder in Pallinghurst Investor (and hence PRA) is in fact the coal company AMCI Consmin (Dutch) with a majority controlling 54%, (similarly there is AMCI Consmin (Lux) and AMCI Consmin (Cayman), and it may be transferred to AMCI Capital).

Hence Consmin is expected to diversify into coal (a high risk strategy – remember Gympie, anything goes wrong in the coal division and all the potential profits go to propping up the coal). There have also been media comments along the lines of South African Mn production becoming part of the “new” CSM (another high risk strategy with all the Black Empowerment (BEE) rules and regulations, water restrictions and wage rises [as illustrated by Gold Fields’ offer of an 8% increase in wages this year compared to the unions’ demand of a 15% increase]).

How Consmin is going to pay for its new acquisitions has not been mentioned, but could be through CSM scrip, gradually diluting out the remaining shareholders until compulsory acquisition can be attained. Alternatively it could be through that favourite of the private equity companies (stated at an SDIA Conference addressed by a private equity company in June 2007) – namely, leveraged debt. As for CSMs management, expect big changes, especially after the first year, private equity companies appear to be convinced that anything they take over has weak management that needs to undergo a major transformation.

So, Consmin did set the ball rolling at the beginning of 2007, but a very different phoenix appears likely to rise from the ashes than perhaps the one envisaged.

Disclosure and Disclaimer : This article has been written by Keith Goode, the Managing Director of Eagle Research Advisory Pty Ltd, (ERA, an independent research company) who is an Authorised Representative with Taylor Collison Ltd, and with his associates, may hold interests in some of the stocks mentioned in this article. The opinions expressed in this article should not be taken as investment advice, but are based on observations by the author. The author does not warrant the accuracy or completeness of any information and is not liable for any loss or damage suffered through any reliance on its contents.

Figure 1. CSM’s Average Annual Manganese (Mn) Lump Prices (Source : DnD 2007 CSM Presentation)