Is This Latest Acquisition a Step in the Right Direction?

Naomi is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

It is no longer news that Freeport McMoRan (NYSE: FCX), a power-player in the copper and gold mining industry, recently acquired two companies at the same time. This is a company that has over the years maintained a strong balance sheet, positive growth, a strong-hold in the industry, and safe dividends. That's why this news sets analysts and investors wondering why it chose to diversify into a sector that has little or no synergies to offer it. Investors could not help asking if this decision is informed by the fact that the company no longer has confidence in the copper sector or if there is a market risk that the investors are yet to know about.

Whatever the reason could be, I doubt if it could justify Freeport’s acquisition of Plains Exploration (NYSE: PXP), an oil and natural gas producing company, and McMoRan Exploration Company (NYSE: MMR), a deep sea drilling company, at a combined rate of $10.3 billion--Plains Exploration at $6.9 billion and McMoRan at $3.4 billion. What baffles me most is that Freeport paid up to a 39% premium on Plains Exploration, which recently took out an $8 billion debt that was channeled towards the acquisition of BP’s (NYSE: BP) deep water assets in the Gulf of Mexico. The company also paid an over 70% premium for McMoRan Exploration. Coupled with the debt inherited from the two acquired companies, no less than $20 billion was actually expended on this deal for reasons investors are still baffled about

This “shrouded in mystery” transaction has invariably pushed Freeport’s almost zero net-debt status to $16 billion net-debt status and subsequently diluted the company’s market value. All these have led to negative reactions from shareholders of the company. The words of the portfolio manager of T. Rowe Price Global Metals and Mining Fund (which owns shares in the company) Rick de los Reyes, that Freeport “never really indicated that they had an interest in diversifying into other metals, much less into oil and gas,” goes a long way to show the dissatisfaction of shareholders as far as this acquisition is concerned.

As for a managing director of BlackRock, another top shareholder in Freeport, Evy Hambro, said that those three companies have no business being together. To worsen the situation, during a conference call held last week, the CEO, President, and Co-Chairman of McMoRan and Co-Chairman of Freeport, Jim Bob Moffett said nothing to justify why a premium of over 70% was paid on McMoRan, a company with a recent record of continuously declining revenue. All he could say was that the acquisition was cheap and would help Freeport reap profits from low natural gas prices.

According to Citigroup, this recent transaction will dilute the company’s earnings by 3.2% come 2013. Standard & Poor’s, on its part, rated the company’s debt as negative in comparison to its stable rating, all as a result of the debt it inherited from the acquisition of McMoRan and Plains Exploration. Nomura had a price target of $40 on the company, but after the acquisition it has cut down the price to $36. UBS had a price target of $47 on the company, but with this acquisition, it has also cut down its price target to $40. According to a research note published by analysts at Goldman Sachs, Freeport’s stock is predicted to “remain in the penalty box for the foreseeable future and multiples will remain depressed on the back of these acquisition announcements, given investor uncertainty on the strategic merit.”

In the face of all these factors, there are lots of questions that are yet to be answered by the management of Freeport. Of course, the most important one is if this acquisition was moves the company in the right direction or not.

Chizy has no positions in the stocks mentioned above. The Motley Fool owns shares of Freeport-McMoRan Copper & Gold. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus