CWT Ltd - Making a big wave in metals (DMG)

Event

 CWT announced yesterday its biggest acquisition to date, agreeing to pay US$94m (S$116.5m) for a 73.8% stake in MRI Trading AG, a Switzerland‐based commodity trading house. This highly‐accretive investment dovetails with our postulations about the company’s strategic move from commodity logistics to commodities trading. Maintain BUY.

Our View:

 MRI is ranked among the world’s top 3‐4 players in base metals trading (mainly copper, zinc and lead), behind Glencore International but larger than Noble Group. In recent times, it has generated revenue in excess of US$2b and average profit of about US$20m. We estimate the earnings accretion to CWT is substantial, at 40‐45% of current year core earnings.

 At about 6x PER and 1.5x P/B, the purchase valuation seems fair and we believe there are sufficient mechanisms to align all parties. CWT has had dealings with MRI for several years and has been monitoring the firm as an M&A target for about a year. During this time it has built up rapport with MRI’s key personnel/traders, most of whom have agreed to stay on.

 CWT is trying to break into commodities trading and MRI represents the best fit possible. Management will be consolidating the MRI team with its existing coal trading team and a metals team it recently hired from Louis Dreyfus. We believe there will be sufficient buy‐in from all parties to make this acquisition a success. We also expect to see revenue and cost synergies, given MRI’s strength in physical trading and CWT’s forte in logistics as well as market knowledge of places such as China.

Action & Recommendation

The transaction is expected to be completed in three months and MRI will contribute fully to earnings in FY12. CWT has a net cash position of $120.6m and can comfortably pay for this acquisition, which will change its earnings and ROE profile substantially. We factor this development into our numbers but keep our target price based on FY11F unchanged for now. Maintain BUY.

Biggest acquisition to date

Upon closing of the MRI transaction, CWT will make an initial payment of US$60.8m (S$75m). This will comprise a cash portion of S$63m and a placement of 10m CWT shares. Subsequently, an additional US$33.2m (S$41.5m) will be paid in three equal annual cash installments. This will make up the total purchase consideration of US$94m (S$116.5m) for a 73.8% stake in MRI.

Based on MRI’s last year’s earnings, we estimate the purchase valuation works out to about 6x PER and 1.5x P/B. MRI is an asset‐light trader and its balance sheet would consist mainly of retained earnings and working capital.

The remaining 26.2% stake in MRI will be held by key personnel/traders who can encash them only when they retire from the company. This is an industry practice to ensure that interests are aligned. Outgoing CEO Ashwath Mehra, a majority shareholder, will remain as an advisor to CWT.

Global leader in base metals trading

MRI stands for Marc Rich and Co Investments. It was founded by Mr Marc Rich, the legendary trader who established Glencore in 1974. After being forced out of Glencore through a management buyout in 1993, he set up MRI but sold it in 2003.

Today, MRI is a global leader in base metals trading, moving about 1m tonnes annually. It is especially strong in copper trading. The company is based in Zug, Switzerland, with representative offices in various parts of the world. It currently has 78 employees worldwide.

Synergies between MRI and CWT

MRI is an asset‐light trader and does not actively seek to take price positions. It tries to hedge as much price risk as possible, making a profit through volume. The company comes with a strong trading team that has a deep understanding of the base metals market.

CWT, on the other hand, is strong in commodity logistics. It has physical assets like warehousing, which can undertake the necessary work for MRI who will otherwise outsource it. CWT can also add value by leveraging its deeper knowledge of key markets such as China, where an understanding of local regulations goes a long way towards extracting profitability.

CWT has plans to restructure its commodity trading businesses to bring them all under one team for better scalability. This will include its coal trading business, MRI and a new base metals team recently hired from French commodities group Louis Dreyfus. Mr Mark Lowe will be the overall CEO. He brings with him massive experience and reputation, having started the metals trading arm for Louis Dreyfus and running it for 10 years.