Potash: There are many good reasons why the world fertilizer industry should consolidate. But the way two major Russian potash players have embarked on a probable merger is an illustration of why foreign investors should stay out of Russian-style mergers and acquisitions.
Suleiman Kerimov, a secretive oligarch known for often doing the Kremlin's bidding, is in the process of bringing together Uralkali, a potash producer he controls, and local competitor Silvinit, in which he also owns a sizeable stake.
There is no doubt that a merger makes serious industrial sense. Russia, together with former satellite Belarus, produces a third of the world's potash, a key chemical component used in fertilizers. The industry is bouncing back from the 2009 recession, and will be boosted by this year's crop shortages as farmers use fertilizer to compensate for the terrible weather.
Ironically a merger of its two potash giants into a player with stronger pricing power would help exports, enabling Russia to partially make up for the wheat shortages caused by this summer's wildfires.
But a look at Kerimov's methods shows why foreign investors should stay away. Kerimov first gained control of Uralkali two months ago by acquiring a 53 per cent controlling stake along with some friends. But he only bought 25 per cent himself, allowing him to avoid making a formal bid for the whole company. Shares in Uralkali, which are also listed in London, barely moved on the transaction. The stake in Silvinit was part of that deal. Kerimov denied he was trying to increase his holding in Silvinit. But this week, the company said that 44 per cent of its shares had been acquired by two mysterious funds. As it happens, they are both headed by acquaintances of Kerimov.
There are other oddities in the mooted deal. Silvinit has as much revenue as Uralkali, and is significantly more profitable, with operating margins topping 50 per cent, compared to margins of around 40 per cent at its rival. Yet Uralkali's market capitalisation is $10 billion while Silvinit's is just $6 billion. Why one potash company trades at 14 times expected 2011 earnings and the other at just eight times cannot be explained by usual market metrics or logic. The reason for the difference is also probably the reason why the merger should remain a strictly Russian game.