Analysis Of A "Hijacked" Deal: Will Leviev Group Assume Control Of Trans Hex?

The boardroom drama that took place last week at Trans Hex was stuff of which movies are made of. What was seen as an exciting and done (!) deal was "hijacked" by a third party that now is trying to gain entry into Trans Hex by bringing itself in with the goods of an earlier deal.

When early in the year the Trans Hex Group published a "cautionary" to the effect that negotiations of a material nature were taking place, the financial markets quickly concluded that it must be talking to De Beers - and that some mega deal was in the making. Wrong, dead wrong! Trans Hex was talking to the Odebrecht mining company, which had offered to sell its 16.4% interest in Angola's Catoca Mine. Actually, Odebrecht had been offering its shareholding in this open pit mine (that is producing some $170 million annually) to quite a few major players - but, so far, there had been no takers. Catoca was just the right thing for Trans Hex.

In a way, it is surprising that there were no other candidates, though one party to which Odebrecht had offered the deal told us "there is little attraction in owning a small stake in a mine as one can hardly exert any influence." Catoca (officially: Sociedada Mineira de Catoca) was established in 1993 to exploit the Catoca kimberlite pipe near the town of Saurimo. It is not only the largest diamond operation in Angola, it is also expanding meteorically. It started production in 1997, produced 1.8 million carats in 2000, some 3 million carats in 2001 and is expected to produce 5 million carats by 2005. The present expansion may, when completed, boost the company's diamond output by $325-375 million a year. It has 2,000 workers (of which 222 are expatriates) in a project covering an area of 66 hectares with a 900-meter diameter pit.

Shareholders in this mine are Angola’s government owned Endiama (32.8%), Russia's mining conglomerate Alrosa (32.8%), Brazil’s Odebrecht (16.4%) and Israel's Lev Leviev controlled Daumonty Financing (18%). As is customary in joint ventures, each of the partners in Catoca holds pre-emptive rights (a right of first refusal) when one of the shareholders wishes to sell its holdings. Odebrecht assured the board of directors of Trans Hex, that the other shareholders had declined to make an offer and were not interested in acquiring the Odebrecht block of shares. With these assurances, the Trans Hex board authorized the company's CEO Calvyn Gardner to negotiate a purchase price of the Odebrecht share package and, rather quickly, a price of some $105 million was agreed (other sources say it was only $70 million).

The Trans Hex board then decided to finance the transaction through borrowings. The company was fortunate. A consortium of South African banks had agreed to extend to it the financing to enable the acquisition. Last week Monday, the day before the publication of the annual results, a board meeting was held to approve the deal with Odebrecht. Then the surprise came. It turned out that one of the existing shareholders of Catoca, Lev Leviev's Daumonty Financing, had suddenly decided that it wanted to exercise its pre-emptive right and purchase the available Odebrecht shares. This would give Lev Leviev a 34.4% share in Catoca and would make it the company's single largest shareholder.

However, as Leviev seems to be interested in the marine mining expertise of Trans Hex and as he apparently needs another public diamond mining company (after Namco went into bankruptcy) he is willing to put his entire Catoca shareholding in the Trans Hex company in return for a stake in Trans Hex. The representatives of Trans Hex's single largest shareholders, the Rembrandt Group (which holds 42% of the voting rights) were fuming. They felt that Leviev had "hijacked" the original deal and was presenting now an unacceptable option to Trans Hex. Moreover, Rembrandt would lose its control over the company.

The Rembrandt board members let it immediately be known that if a deal with the Leviev Group were to be struck, it might immediately consider selling all its holdings in Trans Hex. (Within hours after the board meeting, rumors were floating around with names of potential purchasers of the Rembrandt package, including enlarged black empowerment participation. If Rembrandt acts in accordance to its own traditions, it will only sell at a significant premium above market price.) The board was reminded that, last December, Leviev had put Namco in liquidation, just after publishing positive corporate results for the preceding quarter. Leviev had bought the company in April 2001 for $15 million, entitling it to 39% of the shares and to a 15-year exclusive marketing contract.

Leviev has always seen himself as the "white knight" that tried to salvage a bankrupt company - but failed. However, the fact that representatives of the Leviev Group had informed Trans Hex that the Namco marine concessions in Namibia, plus the remaining vessels and equipment, had been purchased back from the liquidator (except, of course, for the tool and ship that De Beers had acquired for $20 million) gives rise to many questions. The bankruptcy is seen in the market as a successful attempt to disenfranchise all other shareholders of their shares and to get rid of a banking indebtedness of some $50 million that had burdened the company. If it weren't a good company, why would Leviev want to buy it back? It may well be a shrewd and legitimate exercise, but this precedent doesn't inspire confidence among existing shareholders of Trans Hex. There are certainly great hesitations on the possible market reactions and therefore the discussions are held in the greatest of secrecy.

During the meeting of the Trans Hex board it was not suggested that Leviev intended to put his newly reacquired Namco assets in the Trans Hex company, but it was clear that the reborn Namco would welcome the know-how and expertise of Trans Hex. During the rather stormy board meeting, it became apparent that there were two options: (1) forget the original deal that had been negotiated and for which financing was in place and let's continue business as usual; or (2) go to Tel Aviv and see what deal can be struck with Lev Leviev, risking a "walk away" from the company by Rembrandt. [And such a deal might conceivably include Namco as well.] Only hours after a presentation of the splendid annual results to analysts and journalists, the company's CEO Calvyn Gardner and board member Tokyo Sexwale were on their way to Tel Aviv to salvage some kind of deal – or to meet their new controlling shareholder? The very fact that the board authorized this negotiating round in Israel implies agreement to having Leviev become the dominant and controlling shareholder in Trans Hex.

Calvyn Gardner is believed to strongly favor joining up with Leviev. After all, Trans Hex has embarked on an ambitious Angola strategy, and for the company to become the single largest shareholders in one of the world's major kimberlite mines seems exceedingly attractive as well as consistent with the direction of Trans Hex growth. Tokyo Sexwale, whose Mvelaphanda Resources holds some 26.3% of Trans Hex (but, if I am not mistaken, less of the voting shares) was believed to favor teaming up with Leviev; it opened also a possibility for Mvelaphanda Resources to increase its share in Trans Hex. There are some reports that he was less enthusiastic on his return trip back home.

Last year Trans Hex secured two Angolan diamond concessions, Luarica and Fucauma, that have the potential to produce more than 400,000 carats a year. Gardner told the annual results meeting in Capetown last week (a meeting this writer attended) that Luarica has so far produced 5,000 carats. It is a world-class deposit. As Leviev's Ascorp partnership (with governmental Sodiam) still holds (apparently until August) the exclusive rough buying rights of the entire Angolan production, Gardner was asked "how much the Trans Hex shareholders lost by the fact that Trans Hex cannot presently sell its production independently." On the larger stones (which is where the money is), Gardner felt that he "could generate 15%-20% higher revenues if the goods could be sold through Trans Hex's tender system." Indeed, teaming up with the Leviev Group could provide Trans Hex with considerable synergies.

Looking at the arithmetic, Leviev would fully control Trans Hex. Expressed in dollars, Trans Hex's present market capitalization is some $220 million. The 34.4% in Catoca is worth a similar amount. So even without bringing in the remnants of Namco (probably worth some $12-$15 million at best), Leviev would be entitled to about half of Trans Hex. The black empowerment requirements would probably request ceding a part of these new Trans Hex holdings to Mvelaphanda Resources, but, at the end of the day, Leviev would assume control of the company. Unless, of course, the Rembrandt shareholders will block the deal - something which, at this point, seems almost inevitable. Rembrandt favors purchasing the Odebrecht share; it simply doesn't want the Leviev Group involved in Trans Hex.

At this point in time, many options still seem to be open. Odebrecht has basically two possible buyers: Leviev or Trans Hex. And, maybe, a third party may still be forthcoming - De Beers may suddenly recognize opportunities here. If the Rembrandt Group insists on keeping Leviev out, this may cause Trans Hex to up its offer. For Trans Hex to approve a deal with Leviev, an Extraordinary Meeting of Shareholders must be convened, which must pass a Special Resolution with a 75% majority. That majority is clearly not there. Will Leviev still be interested in the Odebrecht shareholding if it becomes clear that it cannot be used to attain a dominant position in Trans Hex? He probably will be. And, if Leviev is denied access to the marine expertise, will he still be interested in finalizing its Namco repurchase? This remains to be seen.

Then there is the question of De Beers. It seems that this conglomerate has been sleeping. The last thing De Beers would want is for Trans Hex to pass into Leviev’s hands. As Alrosa and De Beers have a long-standing relationship, it shouldn’t be ruled out that De Beers might swing into action and, through Alrosa (which also enjoys pre-emptive rights) acquire the Odebrecht part of Catoca. Alrosa is making huge investments in Catoca and it also has to decide with which company it feels it has the greater level of comfort as partner in Catoca.

The Namco deal is of little consequence to Trans Hex. However, it had believed that the repurchase by Leviev of Namco was final. Then it learned that the Leviev offer is presently still conditional. Until the end of June, there is still room for various Namco scenarios.

Trans Hex advised the markets a few days ago "it was still in talks that could result in an announcement which might affect its share price." That statement is correct - but it has now become apparent that these present talks are quite different from the early talks. When the (three-weekly) cautionaries were initially published, Trans Hex was solely considering the purchase of the Odebrecht shares in Catoca. That deal is off. Now it is engaged in discussing the terms of entry of the Leviev Group in Trans Hex. Each scenario may affect the share price in quite a different manner. But some of my sources have already reached the conclusion that there will be no deal. Let's wait and see.