BHP Billiton and Rio Tinto's decision to combine their West Australian iron ore operations in a 50-50 joint venture is a shock for Asia's steel industry, which had hoped to prevent the creation of a major market force with the power to control prices for the ore.
Rio has also abandoned a $US19.5 billion ($24.3 billion) tie-up with Chinese government-controlled Chinalco and is instead seeking $US15.2 billion from investors through a rights issue.
''It's a happy ending for Rio shareholders, or BHP shareholders, but it's not a happy ending for the Chinese,'' said Gavin Wendt, head of mining and resources research at Fat Prophets. ''Their worst possible nightmare is BHP and Rio teaming up with their Pilbara iron ore operations.''
Steelmakers not happy
Facing the prospect of dealing with just two suppliers controlling 70 per cent of global iron ore trade, steelmakers are grumbling.
"It means we have to deal with fewer miners and a mega one with a bigger market share. This is not something we'd want to see," said a senior official at a leading Asian steelmaker, declining to be named.
The Rio/BHP combination would supply around 270 million tonnes of ore a year, while the world's top producer, Brazil's Vale, supplies around 240 million tonnes a year.
"It's definitely negative news to steelmakers as big miners, who already have bigger bargaining power thanks to their sizable market share, will further raise their leverage to control raw material prices," said G.J. Kim at Samsung Securities.
"While the deal may cause no material changes in iron ore talks this year, it could have a longer-term impact as big miners' monopoly will be tightened."
Relief for Government
The deal takes pressure off the Australian Government, which had been sandwiched between Rio Tinto's need to lower its debt levels and concerns over national interest issues arising from a Chinese state-owned company taking a huge slice in Australia's number two miner.
The Rudd Government has been hammered by criticism and voters' concerns about the Chinese government, via state-owned Chinalco, taking a stake in the Anglo-Australian icon.
Prime Minister Kevin Rudd said he would meet with the president of Chinalco later today.
Mr Rudd stressed that the decision to scrap the deal was a commercial one for Rio Tinto, and the Australian Government retained an open attitude to Chinese investment.
The Prime Minister also said the proposed joint-venture between Rio Tinto and BHP's iron ore assets was likely to need approval by the Foreign Investment Review Board.
Asked about the potential for a sour response from Beijing to the failure of the Chinalco bid, Mr Rudd said the decision was entirely Rio Tinto's.
"And I think it is very important that we our friends in China recognise that fact,'' Mr Rudd said.
Push for pricing power
Mr Wendt said BHP and Rio's desire to reinforce their marketing and pricing power was the real driver behind today's joint venture.
''They'll never admit it of course because it's politically incorrect (to say).''
''I think the ramification of the joint venture ... is that independent players in the iron ore space are going to be in favour,'' Mr Wendt said.
The capital raising will reduce Rio Tinto's debt, racked up through its acquisition of Alcan to $US23 billion from $US38 billion.
''Under the terms of the joint venture, the companies won't merge their sales and marketing operations. BHP will pay Rio $US5.8 billion ($7.2 billion) to raise its interest in their Pilbara joint venture to 50 per cent from its current 45 per cent.
Changing market
''The Rio situation is tremendously significant,'' Mr Wendt said, ''reflecting the changing financial landscape of the past couple of months.''
''While China might have been unpalatable to some, it was a deal that could have provided a life line for Rio.''
When Chinalco came forward as a potential investor in Rio, the Australian company was struggling under the debt it amassed buying Alcan at a time of peak aluminium prices.
The global financial crises wrecked commodities prices, while hampering Rio's ability to raise more capital.
''The world markets have moved in Rio's favour,'' said Mr Wendt. ''The ability to go out there and raise $15 billion in cash wouldn't have been possible a few months ago.''
Investors have warmed to the capital raising, which on current prices, is offered at a 60 per cent discount. Rio shares were recently at $73.39.
''It's a huge discount to current market price,'' said StockAnalysis director Peter Strachan.
''Since it is available to all shareholders equally, it should not be inequitable nor too value destroying, so long as they all take it up.''
czappone@fairfax.com.auBusinessDay, with Jacob Saulwick, SMH, and Reuters
