The “independent expert report” is quite possible the greatest anachronism in modern finance and corporate governance. The notion of a third party passing judgment on the merits of a corporate transaction in a very short time is itself dubious — that the third party is paid by the very corporation it is assessing is utterly absurd.
It is virtually unheard of for an independent expert to provide an opinion on the merits of a transaction which differs from that of the recommendation of the board which is paying its multi-million dollar fee. Cynics would suggest that an independent expert who provides a view in contrast to management wishes may find themselves preparing very few independent expert’s reports in the future.
The superfluousness of the process has been neatly proved in the disaster which is Oxiana-Zinifex-Oz Minerals.
Grant Samuel (which is generally considered the leading “expert” in Australia) provided an expert’s report for Zinifex in its scheme of arrangement with Oxiana in May 2008. Grant Samuel was paid $1.5 million for the report (which was ostensibly prepared for Zinifex as the company conducting the scheme of arrangement). Using a discounted cash-flow model, Grant Samuel determined that Zinifex was worth between $6.1 and $6.9 billion, while Oxiana’s net assets were valued at between $5.9 billion and $6.7 billion.
The key to determining an accurate valuation for mining assets is correctly forecasting the movement in commodity prices — in this regard, Grant Samuel (like many others it should be said), failed to forecast the slump in metals prices. For example, Grant Samuel assumed that zinc prices would average US$1.00 to US$1.20 per pound while copper would average US$2.50 to US$3.25. Even after the recent commodity rebound, Zinc is trading at around US$0.72 per pound and copper at US$2.35 per pound. It was these incorrect assumptions which led to Grant Samuel’s “expert” opinion on the value of the merged entity being somewhat higher the subsequent market capitalisation of the merged entity.
The Oxiana-Zinifex merger was an unmitigated disaster. The merged entity, flush with cash, embarked on a spending binge shortly before the global financial crisis took hold and commodities slumped (in addition to the woeful $888 million acquisition of Allegiance, Oz Minerals also saw fit to pay former Oxiana CEO, Owen Hegarty, an $8.35 million ex gratia payment). Oz Minerals was close to death until Chinese-owned Minmetals made an offer for a cash scheme of arrangement which valued Oz Minerals at $0.825 per share.
While that proposal was rejected by Treasurer Wayne Swan on national interest grounds, Minmetals quickly launched a fresh offer worth US$1.2 billion cash for all of Oz Minerals’ assets except the Prominent Hill copper/gold mine, the Martabe gold project (which is being sold separately) and some other minor assets.
Oz Minerals commissioned an independent expert’s report to assess Minmetals offer which was prepared by none other than Grant Samuel — the very same expert who previously over-stated future commodity prices the prior year. For its second report, Grant Samuel was paid a further $1.25 million.
Perhaps unsurprisingly, Grant Samuel stated that while the consideration under the proposed deal “is below the full underlying value of the Sale Assets” it found that “on balance, shareholders are likely to be better off if the Proposal proceeds than if it does not. In Grant Samuel’s opinion, in the absence of a superior proposal, the Proposal is in the best interests of OZ Minerals shareholders”. (This view was again in accordance with the recommendation of the Oz Minerals board).
As a post script, last night, Minmetals increased its offer to US$1.386 billion, at the bottom of Grant Samuel’s range. Oz Minerals shareholders vote on the deal today.
In a sign of how times changed, on 5 May 2009, Grant Samuel valued the assets to be acquired by Minmetals at between US$1.385 billion and US$1.6 billion. On 6 May 2008, less than a year earlier, that very same expert deemed those very same assets to be worth between US$5.9 billion and US$6.6 billion.
While no doubt, commodity prices fell in the past year — as an expert, Grant Samuel’s role was to correctly determine those future commodity prices and the impact on the value of the underlying assets. In that regard, Grant Samuel, like most others, was unsuccessful.
With the exception of perhaps Warren Buffett, Charlie Munger or Jim Rogers, very few mortals are able to correctly determine the intrinsic value of companies with any sort of accuracy. To demand a report be prepared by a conflicted third party effectively seeking to determine the value of a company in a very limited time is a complete waste of shareholders’ money.