Glencore Xstrata Posts $8.9 Billion Loss

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Glencore Xstrata (LSE:GLEN) share price tumbled this morning after the mining behemoth reported a first half loss of $8.9 billion.  The share price had dropped 1.49% and 4.20 pence by 1:00 pm, falling from 301.95 to 297.45.  This is a far cry from last year when pre-Xstrata-acquisition Glencore reported a $2.3 billion profit.  In fact, Glencore Xstrata’s  share price has fallen by 11% since the Xstrata acquisition on 02 May 2013.

Headlines everywhere are proclaiming that the loss is due to $7.7 billion in write-downs.  That is simply not true.  It it the magnitude of the $8.9 billion loss that is a result of the $7.7 billion worth of write-downs.  I’m not an accountant, and I don’t have a degree in mathematics, but I can still subtract a $7.7 billion loss from an $8.9 billion loss and come up with a $1.2 billion loss.  And I can also figure out that, not only is a $1.2 billion loss unacceptable if I am a shareholder, it is a P&L performance that is $3.4 billion worse than the previous year.

I have no personal ax to grind with Glencore Xstrata, except that “Xstrata” is the most difficult of all words for me to type.  I want people to know the truth that is obscured by some of the current headlines.  That truth is that the company lost money regardless of the write-downs.  Now that we have clarified that, let’s move on.

It is no secret that mergers & acquisitions are one of the leading ways to grow companies.  However, that does not mean that M&As don’t have their problems.  This particular acquisition was long and drawn out, so there was more than enough time to Glencore to perform adequate due diligence.  However, it is my humble opinion that, although their investigations were thorough, they may not have been thorough enough.  It wouldn’t be the first time that has happened.  The reason I say that is that Xstrata itself had a long history of acquisitions.  In my experience, whenever one company acquires another, it also acquires at lease some assets that are not really what the books say they are.  If that surprises you, you had better go back to business school.

Having said that, my guess is that the magnitude of the write-downs is not simply a result of Glencore acquiring Xstrata.  It’s more likely a matter of Glencore acquiring Xstrata after Xstrata had acquired so many other companies  and failing to adjust the value of the assets they had gained multiple times over. I’m not pointing a finger.  I’m just saying that, “It is what it is.”  It happens on a regular basis.  There are two basic reasons that it does.  The first is “out of sight, out of mind.”  The second is that some CFOs, CEOs and others do not want to write down assets because of the negative effect on the balance sheet.  I have seen it done – and so have you.

To Glencore’s credit, “They’re trying to focus on where they see the value and write down assets that they don’t see having value going forward.”  And, in Glencore’s case, most of the asset write-down was relative to intangibles, or goodwill, that have a lower book value they did pre-acquisition, some of which was a result of withdrawal from selected activities.

Still, there remains the other, ugly $1.2 billion.  At least some of that was due to a 15% reduction in metal prices.  That overriding issue helped to cause a 9% reduction in operating profit this year.  In fact, “In absorbing the impact of a drop in commodity prices during the time it took to close the marathon takeover, Glencore wiped out all the goodwill value it had provisionally allocated to Xstrata’s mines at the time of the merger.”

Looking beyond the numbers, the consensus seems to be that Glencore is doing all the right things to maintain long-term profitability and increase the return on shareholder investments.  Space does not permit going into more detail today, so, perhaps, we may have a chance to address what the company is doing  to streamline its operations later this week.

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