Streetwise Professor

December 7, 2016

Ivan Glasenberg’s Shock and Awe: But There Has to Be More Than Meets the Eye

Filed under: Commodities,Derivatives,Economics,Energy,Russia — The Professor @ 8:25 pm

Today saw a major surprise. I mean a major surprise. The Russian government announced that a consortium consisting of Glencore and the Qatar Investment Authority had purchased a 19.5 percent stake in Rosneft for €10.5 billion. (Glencore said the price was €10.2 billion.)

The major surprise was that outside investors were involved at all at this time. For weeks the story had been that Rosneft itself would buy back the shares from the Rosneftgaz holding company, and then sell them to a private investor at a later date. This looked like a sham privatization, which fit in with the idea that Igor Sechin was less than enamored with the idea of selling equity to outsiders.

Also a surprise was Glencore’s participation. Qatar’s name had been floated as a possible buyer, but not Glencore’s. And no wonder. The firm is just recovering from a near death experience, has been feverishly de-leveraging, and only a few days ago announced it would pay $1 billion in dividends next year. So it hardly looked like a firm that would have the cash to pay out of pocket, and was not a candidate to borrow a lot.

But it appears there is some financial engineering going on here. A Glencore-QIA joint venture will buy the Rosneft shares, and the two investors will put up a mere €300 million each in equity. The remainder will be financed (according to Putin) by one of “the largest European banks.” Furthermore, the debt is supposedly non-recourse to Glencore or QIA. This means that the loan is essentially secured by the Rosneft shares.

This would allow Glencore to keep the debt off its balance sheet, and skirt sanctions by not having an equity stake in Rosneft.

If those numbers are right, the deal will be leveraged 17.5-to-1. That reminds me of a real estate boom SPV–except that the underlying asset here is even riskier than subprime. Given the riskiness of the underlying asset (Rosneft shares) that gearing seems unsustainable to me. What bank would take that risk?: the bank owns all the downside, and the JV partners get all the upside.

You can bet that any bank wouldn’t let you buy Rosneft shares on that geared a margin loan–and a non-recourse one no less. So I am guessing that there is some other part of the deal that passes the equity price risk back to Glencore and QIA. For instance, a total return swap between the JV and its owners. Or a put (which would make it unnecessary for the JV to make payments to the investors in the event Rosneft stock rises in value, as would be the case in a TRS.) If that, or something like it, is going on here, this is a cute way to keep investment off Glencore’s balance sheet, and also may be a way to work around sanctions, because derivatives on Rosneft debt (e.g., CDS) and equity are not subject to the sanctions. I cannot believe that any bank would lend so heavily based only on the security of Rosneft stock. So there must be a part of the deal that hasn’t been disclosed yet. (This may also involve an arrangement between Qatar and Glencore that limits the latter’s exposure.) There is more here than meets the eye, at least from the initial reporting.

Speaking of sanctions, the fact that a European bank (who?–reportedly Intesa Sanpaolo) is stepping up suggests that they believe the structure is sanctions-proof. This may also be a Trump effect: banks may have less concern about aggressive sanctions interpretation and enforcement in a Trump administration.

If it is Intesa Sanpaolo–that’s also rather interesting. Italian banks aren’t exactly in great shape these days, and are particularly shaky in the aftermath of the rejection of the referendum on Sunday. It is one of Italy’s healthier banks, but like saying someone is one of the healthier patients in the oncology ward. (Its equity is about 7 percent of assets.) Normally a loan of this size would be syndicated to spread the risk. If it isn’t, the loan represents more than 20 percent of Intesa’s equity and almost a quarter of its market cap. That’s insane.

All the more reasons to think that the bank has to find a way to lay off the price risk in the deal. (All the ways I can think of would expose it to the credit risk of Glencore and QIA. The latter isn’t an issue . . . the former could be. All the more reason to consider the possibility of QIA providing some credit support in the deal even if it is formally non-recourse.)

Another interesting aspect to the deal. Trafigura has been an important bulwark for Rosneft in the last two plus years. It dramatically stepped up its pre-pay deals with Rosneft, thereby providing vital (though very short-term sanctions compliant) funding when the Russian company was cut off from the capital markets. Moreover, Trafigura’s participation was a linchpin in Rosneft’s acquisition of Indian refiner Essar. As a result of these deals, Trafigura had nudged out Glencore as Rosneft’s biggest Russian partner. Now Glencore owns a major equity stake, and as part of the deal gets a 220,000 barrel-per-day off-take agreement with Rosneft. This gives Glencore 11.5 million tons/year of oil. Trafigura has been doing about 20 million tons of crude and 20 million tons of product from Rosneft. (Glencore also has off-take volume stemming from a 2013 pre-pay deal.)

Perhaps Trafigura did not have an appetite or capacity for doing much more volume with Rosneft, but it must be disconcerting to see Glencore take such a large equity stake. That undoubtedly has implications for Rosneft’s future dealings.

This transaction says a lot about Ivan Glasenberg. Given the experience of the last two years, one could have understood if he had been risk averse. This shows that his legendary appetite for risk remains. (And the more of the equity risk that is passed back to Glencore through financial engineering, the bigger that appetite will be shown to be.) This was shock and awe.

This deal is a boon for Russia and Putin, who can really use the money, and outside money especially. I wonder if Sechin is all that pleased, though. As noted earlier, he has been dragging his feet on privatization. Earlier this year a Rosneft analysis said the company would only be able to raise $1-$2 billion: obviously this was intended to convince Putin that a privatization would be a giveaway that he should take a pass on. But I’m sticking with my earlier guess that going through with the privatization was the quid pro quo for Putin allowing Rosneft to buy Bashneft. And again, Vlad really needs the money.

One last thing to put this all in perspective. Yes, €10 billion seems like a lot, but that values Rosneft at around $55 billion. The company’s reserves are about 34.5 billion barrels of oil equivalent (BOE). Its output is around 1.75 billion BOE per annum. For comparison, ExxonMobil is worth ~$350 billion. Its reserves are a third smaller than Rosneft’s: 24.8b BOE. Its output of 1.43 billion BOEPA is about 80 percent of Rosneft’s. So on a dollars per unit of reserves or output basis, XOM is about 8-9 times as valuable as Rosneft. That speaks volumes about Rosneft’s inefficiency, and the political risks that go along with the normal commercial risks inherent in an oil company. Keep that in mind when evaluating Putinism.

 

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10 Comments »

  1. I hope Italian banks aren’t going to be like the Italian tanks of the old joke.

    Comment by dearieme — December 8, 2016 @ 9:13 am

  2. I have read that Glencore is only putting up 300 million in cash, but that the rest is coming from QIA and financing (likely the Italian bank). That is quite different from your statement that both QIA and Glencore are putting up 300 million each, with the rest coming from financing. Since Qatar is Glencore’s largest shareholder, it is likely that Qatar is arranging to include Glencore in the deal, which will benefit Qatar’s investment in Glencore. This is typical of investments by Gulf states, in which they often invest in related businesses through and with entitities in which they already have large stakes. Qatar has the cash to do so, and makes sense for them. Not nearly as mysterious or surprising when you realize that the European (Italian?) bank’s risk is actually likely much less than 9 billion.

    Furthermore, we don’t know if or how Qatar may be involved with the Italian bank as an investor or major client that makes it worth their while to help Qatar.

    Finally, a default here that would give the bank 20% of rosneft is a much better scenario for a bank than ending up with a bunch of houses that they must maintain and offload as quickly as possible. Rosneft will continue to operate, and the shares are fairly liquid. The bank may even see it is a possibly good asset. And, again, if Qatar has an interest in the bank–which no one would know about through a maze of investment entities, as is common for them–a default would keep the investment in Qatar’s reach.

    There are other geopolitical and strategic implications that also make this valuable, in addition to the consolidation and rearrangement of resources that is always happening in the energy industry.

    But the low price of teh sale really is the most interesting part.

    Comment by S — December 8, 2016 @ 10:22 am

  3. Looking at this I agree -either the Italians are taking acid or ther is some off balance sheet set of guarantees or some sort of revenue (of Rosneft) or factoring of receivables. Could this deal be backed by some sort of trade finance, with the equity position being the beard?

    Comment by Sotos — December 8, 2016 @ 10:48 am

  4. […] Пирронг из Хьюстонского университета предполагает в своем блоге, что катарский фонд внесет тоже только €300 млн […]

    Pingback by 5 вопросов по сделке «Роснефти» — Российские СМИ — December 8, 2016 @ 6:50 pm

  5. […] Пирронг из Хьюстонского университета предполагает в своем блоге, что катарский фонд внесет тоже только €300 млн […]

    Pingback by Какие вопросы остались к приватизации «Роснефти» | — December 8, 2016 @ 7:12 pm

  6. […] Пирронг из Хьюстонского университета предполагает в своем блоге, что катарский фонд внесет тоже только €300 млн […]

    Pingback by Какие вопросы остались к приватизации «Роснефти» | TRC - Новости сегодня — December 9, 2016 @ 5:46 am

  7. Professor, did you hear about the secret CIA assessment that Russia tried to influence the US elections? These guys would make Inspector Clouseau blush with their secret reports saying what’s been public knowledge for months.

    Comment by aaa — December 9, 2016 @ 11:33 pm

  8. Is that “public knowledge” in the sense of hysterical conspiracy theory?

    Comment by dearieme — December 10, 2016 @ 9:44 am

  9. It’s public knowledge in the sense that Putin admitted it.

    Comment by aaa — December 10, 2016 @ 10:49 am

  10. @aaa-Just posted on it.

    The ProfessorComment by The Professor — December 10, 2016 @ 12:25 pm

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