U.S.-based activist investor Elliott has proposed three initiatives with the goal of unlocking value for BHP Billiton (BLT) shareholders. First, Elliott urges BHP to collapse the dual-listed structure and replace it with a new U.K.-incorporated company. The dual listings would be replaced by a primary listing in London and a secondary listing in Australia.
In collapsing the dual-listed structure, one share class will lose
Second, Elliott wants the onshore U.S. and Gulf of Mexico petroleum assets hived off into a separate New York-listed entity. Third, Elliott advocates an initial off-market buyback of at least $6 billion followed by a series of buybacks at a prescribed debt ratio - Elliott suggests net debt/EBITDA of 1.3.
The proposal is unlikely to benefit BHP shareholders and we make no change to our AUD 19.00 per share fair value estimate. We think the shares are overvalued. As China’s stimulus from 2016 wanes and its economy transitions away from investment, BHP’s share price should fall.
Collapsing the dual-listed structure will inevitably disadvantage one shareholder class, most likely the ASX-listed BHP Billiton Limited shares, which trade at a premium to the London-listed BHP Billiton PLC shares. Distributing franked dividends to all shareholders, rather than just the ASX-listed shareholders, would likely waste the value of franking credits. In addition, it’s unlikely the Foreign Investment Review Board would agree to a new U.K.-incorporated holding company as the assets and the company are strategic.
Should BHP Retain its Petroleum Assets?
There is some benefit to BHP retaining its U.S. petroleum assets. We think the commodity price diversification benefit is minimal but as China’s demand for steel wanes, a ready option to invest in oil and gas is valuable. BHP overpaid for its U.S. onshore assets, but that’s an unfortunate sunk cost. We have reservations about proposed mechanistic buybacks. As earnings are cyclical, a formulaic approach to buybacks could see BHP buying back shares at the top of the cycle, only to be overgeared in a downturn.
The difficulty in collapsing the dual-listed structure is that, inevitably, one share class will lose. The ASX-listed BHP Billiton Limited shares have traded at an average 10.3% premium to the London-listed BHP Billiton PLC shares since the inception of the merger in 2001. More recently, on a rolling one-year basis, the ASX-listed shares have traded at an average 13% premium. We think this primarily reflects the value of franking credits to Australian investors, and local market valuation differences.
The dual-listed structure allows the franking credits to be distributed solely to the ASX-listed shares where they are most effective and most valued. Currently, those who value franking credits can buy the ASX-listed shares, and those that don’t can buy the London-listed PLC shares more cheaply. Also, we think all BHP shareholders benefit from being able to buy back the cheaper PLC shares at a discount to the ASX-listed shares, and buy back the ASX-listed shares off-market, at a discount to the prevailing ASX-listed price, using the franking credits.
The proposal also looks costly. Unification of the dual-listed structure would represent a taxable event for South African shareholders, which own 17% of BHP Billiton PLC shares. BHP says direct costs to collapse the dual listing would be $1.3 billion with a further potential $1.7 billion of tax-related costs triggered by the transaction, with the total equating to approximately AUD 0.75 per share. BHP says the direct costs in maintaining the dual listing are just $2.4 million per year.
