Identifier
Created
Classification
Origin
07BEIJING7362
2007-12-05 09:35:00
CONFIDENTIAL
Embassy Beijing
Cable title:  

CHINESE STEEL FIRM MAY BID $200 BILLION FOR MINING

Tags:  ECON ENRG EINV ETRD EFIN PREL CH 
pdf how-to read a cable
VZCZCXRO3962
OO RUEHCN RUEHGH RUEHVC
DE RUEHBJ #7362/01 3390935
ZNY CCCCC ZZH
O 050935Z DEC 07
FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC IMMEDIATE 3827
INFO RUEHOO/CHINA POSTS COLLECTIVE
RUEHBY/AMEMBASSY CANBERRA 9573
RUEHLO/AMEMBASSY LONDON 3237
RHEHNSC/NSC WASHDC
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHDC
C O N F I D E N T I A L SECTION 01 OF 03 BEIJING 007362 

SIPDIS

SIPDIS

STATE FOR EAP/CM AND EEB
STATE ALSO FOR INR
USDOC FOR 4420
TREASURY FOR OASIA/ISA - DOHNER/HAARSAGER/WINSHIP/CUSHMAN
NSC FOR TONG/SHRIER
STATE PASS USTR FOR STRATFORD
STATE PASS CEA

E.O. 12958: DECL: 12/05/2017
TAGS: ECON ENRG EINV ETRD EFIN PREL CH
SUBJECT: CHINESE STEEL FIRM MAY BID $200 BILLION FOR MINING
GIANT RIO TINTO

Classified By: Econ M/C Rob Luke: Reasons: 1.4 (b/d)

SUMMARY
-------

C O N F I D E N T I A L SECTION 01 OF 03 BEIJING 007362

SIPDIS

SIPDIS

STATE FOR EAP/CM AND EEB
STATE ALSO FOR INR
USDOC FOR 4420
TREASURY FOR OASIA/ISA - DOHNER/HAARSAGER/WINSHIP/CUSHMAN
NSC FOR TONG/SHRIER
STATE PASS USTR FOR STRATFORD
STATE PASS CEA

E.O. 12958: DECL: 12/05/2017
TAGS: ECON ENRG EINV ETRD EFIN PREL CH
SUBJECT: CHINESE STEEL FIRM MAY BID $200 BILLION FOR MINING
GIANT RIO TINTO

Classified By: Econ M/C Rob Luke: Reasons: 1.4 (b/d)

SUMMARY
--------------


1. (C) China's top steel maker, Baosteel, is considering a
$200 billion bid for Rio Tinto, the UK-based mining giant
currently targeted in a $134 billion offer from Australian
mining firm BHP Billiton. Rio is among a handful of Western
firms that dominate trade in the increasingly expensive iron
ore that China needs as the world's largest steel producer.
Any move to acquire Rio would likely spark political
controversy in numerous countries -- especially Australia and
the UK -- at a time when China's new sovereign wealth fund is
promoting itself as a responsible new actor on the financial
world stage. A well-connected economist contact assesses it
would take strong central government backing and coordination
for there to be further movement in putting forward a bid.
In the mean time, rumors about plans for Rio will make it
more difficult for Australia's BHP to continue its own
takeover efforts -- and anything that prevents a BHP-Rio
tie-up is likely to be seen by China as in its own economic
interest. The Financial Times reported that "senior
executives of China's largest energy and mineral companies
are understood to have held talks on the fringes of (China's
annual high-level Central Economic Work Conference) about how
to respond to a possible BHP/Rio merger." END SUMMARY

THINKING ABOUT A $200 BILLION SPLURGE
--------------


2. (U) Xu Lejiang, Chairman of Baosteel, China's largest
steel maker, told Chinese media on December 4 that his firm
is considering a bid for Rio Tinto, the UK-based mining giant
currently targeted in a $134 billion offer from Australian
mining firm BHP Billiton. Xu suggested that Baosteel would

have to offer over $200 billion, which would make this the
largest corporate takeover in history (eclipsing Vodafone's
$190 billion takeover of Mannesmann in 2000). Separately,
the Financial Times reported that "senior executives of
China's largest energy and mineral companies are understood
to have held talks on the fringes of (China's annual
high-level Central Economic Work Conference) about how to
respond to a possible BHP/Rio merger."

VIEWS OF A CONNECTED ECONOMIST
--------------


3. (C) Standard Chartered's Senior China Economist Stephen
Green routinely talks to Chinese Government officials
involved in investment issues. He told us that the China
Investment Corporation has been resisting a bid for Rio and
lacks sufficient financing. (Note: The CIC was recently
formed using $200 billion of foreign exchange reserves. Most
of these initial funds are being used for activities related
to the domestic banking system, and the CIC appears to be
moving slowly as it gears up to make investments abroad. The
most notable investment to date has been a $3 billion stake
in Blackstone. End Note.) Green noted Baosteel's low
profits (for its listed division),implying that this casts
doubt on the firm's ability to make such a play. In Green's
view, "the State Council would have to bang a lot of heads
and then involve the China Development Bank in financing an
offer, perhaps off a special bond issue," to take a bid for
Rio forward. Green speculated that Baosteel is probably also
looking for offshore partners to spoil the BHP-Rio bid.

OTHER CHALLENGES TO A CHINESE BID
--------------


4. (C) China's steel makers do not have a history of acting
in concert. It has required central government intervention
to get them to negotiate in tandem with the big three iron
ore "cartel" over the past couple of years. Price
negotiations in 2006 ran several months longer than expected,
and in 2007 it was widely rumored that several steel
enterprises signed interim side-deals with iron ore producers
before official price negotiations concluded. Also of note,

BEIJING 00007362 002 OF 003


for Beijing to pursue a hostile takeover of Rio using
government resources would likely be politically sensitive
for numerous countries, both those with large steel sectors
(e.g., Korea, India) and those which house the major mining
companies (especially Australia, where much of Rio's iron ore
is located, and the UK, where Rio is headquartered).

WHY CHINA CARES SO MUCH
--------------


5. (C) Western firms may be losing their relative position to
state-owned firms in the global oil business, but in mining
and other commodities, the situation is different. Mining
resources are concentrated in countries like Australia and
Canada, and widely controlled by the world's top four mining
companies: BHP (Australia),Rio Tinto (UK),CVRD (Brazil)
and Anglo American (UK). BHP, Rio, and CVRD control 75
percent of the international trade in iron ore and are major
players in copper and coal (also important to China) as well.
China's own resource companies remain small in volume by
comparison.

LOOKING ABROAD FOR IRON ORE SUPPLIES
--------------


6. (U) China is now the world's leading steel producer, with
a production capacity greater than 500 million metric tons.
It is also the largest producer and consumer of iron ore, the
primary raw input needed to make steel. China's domestic
iron ore supply is of very low quality, its mining industry
highly fragmented, and the infrastructure needed to move this
resource to market overstretched. This has led to a reliance
on imports to meet around half of the country's iron ore
needs in 2007. More than 40 percent of China's 370 million
metric tons of iron ore imports this year will come from BHP
and Rio alone. Overseas mines owned by Chinese steel and
mineral companies will only produce around 50 million metric
tons of iron ore in 2007.


7. (C) China's leading steel enterprises are some of the
country's largest consumers of imported iron ore. China's
flagship steel enterprise and rumored Rio takeover candidate,
Baosteel, imports 90 percent of the iron ore it uses.
Another influential Chinese steel enterprise, Beijing's
Capital Steel, imports around 70 percent. These companies,
together with Angang Steel and Wuhan Iron and Steel, formed a
joint venture mining enterprise earlier this year to explore
development of overseas iron ore resources. The company,
Beijing Steel Industry United Mining Resources, has invested
in a mining operation in Cambodia and is exploring investment
options elsewhere, according to public statements from
Chinese steel executives. Despite the headline grabbing
formation of the new company, China's appetite for foreign
company supplied imports will likely continue to grow.
Overseas production of iron ore and other natural resources
by Chinese companies so far is routinely sold abroad rather
than sent back to China. Meanwhile, acquisition of Rio by a
Chinese commercial entity would secure iron ore supplies and
enable China to be more influential in future price
negotiations with all firms.

FEELING IT WHERE IT HURTS THE MOST, THE WALLET
-------------- -


8. (C) In 2005, iron ore producers raised prices by over 70
percent, and they are expected to boost them a further 25-50
percent next year, in the view of industry analysts. The
China Iron and Steel Association (CISA) estimates that
Chinese steel mills' raw material costs, including iron ore,
have risen on average by 12 percent so far this year. This
cost increase is being largely borne domestically since China
consumes some 85-90 percent of the steel it produces. A
BHP-Rio merger could put China's steel sector (and other
commodity dependent sectors) at the mercy of a large
privately-held corporation that might have an incentive to
keep prices high over time -- or might at minimum not want to
expand capacity too rapidly from an investment standpoint.
Chinese firms that are direct competitors of BHP and Rio,

BEIJING 00007362 003 OF 003


like state aluminum company Chalco, have also expressed
concern.

RANDT