Faced with this reality, Dan says the government needs to decide whether Australia is for sale or not.

One thing for certain, as emerging giants like China and India increase their per capita income, the chase for global resources will become more intense. And Australia will be in the thick of the action…

Now that the Olympics are over, let the real games begin. All the medals have been handed out. No more swimming, diving, juking and jiving. We can finally get back to the real international competition that matters: the race for ownership of the world’s tangible assets.

This is a multiplayer game, being played at the highest and humblest levels. It’s played in Melbourne boardrooms, Beijing backrooms, and even in your living room! Big fish chase big fish. Sharks circle in the water. And the little fish watch it all hoping to catch a wave, and not get eaten.

Australian Treasurer Wayne Swan announced this weekend that Chinalco is more than welcome to 11% of Rio Tinto (ASX:RIO). He made it sound like there were some caveats, provisos, and addendums. But at the end of the day the Treasurer said, “I have decided to raise no objections under Australia’s foreign investment policy.”

Okay. There are just two conditions that apply, though. Chinaclo has to reapply for Federal permission if it wants more than 15% of Rio and Chinalco said it won’t ask for a seat on Rio Tinto’s board. Does it even need one?

It depends on what Chinalco (and China Inc.) wants from the whole deal. Does Chinalco simply want to own a big enough stake in Rio Tinto that it can block the merger with BHP Billiton and prevent the formation of an Asia-Pacific iron ore titan? Or does it reckon that in order for the merger to go through with the regulators, Rio will have to carve itself up into various base metal pieces, aluminium being the juiciest?

Besides, there’s always the chance that a Rio Tinto – BHP Billiton merger will be thwarted right here at home by the Australian Competition and Consumer Commission (ACCC). On Friday the ACCC raised some doubts about the whole OPEC-of-Iron-Ore vision.

The ACCC said that, “To the extent the proposed acquisition lessens the competition in the global seaborne supply of iron ore, it would be likely to have the effect of increasing global iron ore prices, which would in turn increase prices paid by steelmakers in Australia.”

Hmm. Well, isn’t that the whole point? BHP Billiton wants to shift pricing power in the resource sector away from the consumers (China) and towards the producers (Aussies). Global ore prices are going up because steel production and consumption are going up. Does the ACCC want to favour Australian steelmakers over ore sellers? And if so, on what grounds?

And another thing. Has the Treasurer really sorted out what’s in Australia’s best interests? For example, he delayed by 90 days a ruling on Sinosteel’s bid to takeover Murchison Metals (ASX:MMX) in the Midwest. While delaying a takeover, the inaction also pummeled Murchison’s share price, not exactly a desirable result for Murchison shareholders.

And what was the point of the delay anyway? Was it to hope that Sinosteel would somehow change its strategic objectives by sending it to the corner for 90 days? Or does the Federal government have any idea how to confront the reality that many foreign interests are keen to take ownership of Aussie mineral deposits and are willing to pay for it?

Is Australia for sale or not? And if not, who’s going to develop all those mineral deposits and turn them into wages, income, capital, and rising standards of living? If not now, when? We’re headed out to Geraldton tomorrow to give a speech on the state of play in the Midwest. We’re also sticking around for a day to hear from miners who have projects in the region. We’ll let you know what we find.

As you can see, we have more questions than answers this morning. But now that China has emerged onto the global stage with a splash, the simple question is “what next?” One way of looking at it is that you’re seeing what happens when demography and geology collide.

China’s extraordinary growth rates have thus far been driven by a huge advantage in cheap labour. But that growth is resource intensive. If China (and India, and Brazil and other emerging economies) keep increasing per capita incomes, they’re going use more energy and resources than ever.

For example, today’s Wall Street Journal reports that the average American consumes the equivalent of 7.82 tonnes of oil per year to meet his energy requirements. By comparison, a single Chinese man uses just 1.4 tonnes of oil per year to meet his total energy requirements.

Rising standards of living are resource intensive. One good thing is that more developed economies tend to use energy and resources more efficiently. But is there enough oil in the world for six billion people to live at the same energy intensity as homo Americanus? We doubt it, which will make watching geopolitics and the great contest for energy very interesting over the next ten years.

Source: Wayne Swan Approves Chinalco Investment in Rio Tinto (ASX: RIO)

Dan is referring to the Australia’s decision to postpone for 90 days the takeover of iron ore miner Murchinson Metals LTD (MMX) by Chinese firm Sinosteel.

Australia’s natural resources are attracting considerable attention from Asia’s emerging economies. But this has set off some political alarm bells about handing control over the country’s best assets to a foreign government.

But, says Dan, junior mining companies need access to foreign capital. Without it, they’ll won’t produce iron ore anyway…

Foreign Investment in Australia, How Much is Too Much

By Dan Denning

What is the Australian Federal government’s position on Chinese investment in Australian resources?

Yesterday the Foreign Investment and Trade Board told Sinosteel to cool its heels for 90 days while the government figures out how much of Australia it will sell to foreign investors. Sinosteel, which, as you might guess, is a Chinese steel company, already owns 43.6% of iron ore junior Mid West (ASX:MIS) and was given permission earlier this year to buy all of the company.

Sinosteel also owns about 2.4% of Murchison Metals (ASX:MMX). Sinosteel applied to buy Murchison as well. It wasn’t rejected. But as you can see from the official looking note below from the Treasury, published yesterday in something called the Government Gazette, the government basically told Sinosteel to go away for 90 days while it figures out what to do.

You can’t have the benefits of foreign capital without giving up some ownership. The whole development of the Mid West region WA will depend on foreign capital and joint venture partnerships. Sinosteel is active there because all the good ore in the Pilbara has been locked up by BHP (NYSE: BHP), Rio Tinto (NYSE: RTP), and Fortescue (ASX: FMG).

If the Mid West is to emerge as an ore producer at all, it will need Chinese investment. The government probably knows this. But it’s nervous about how things will look to the public. After all, Sinosteel is owned by the Chinese government. You would have the most promising non-Pilbara ore project in the country owned lock, stock, and barrel by a foreign government.

So what’ll it be Wayne Swan? Matthew Stevens reports in today’s Australian that the government may set a 49.9% ownership ceiling on how much a foreign entity can own of an Aussie share. While mathematically pleasing because it suggests a foreign investor would not own a majority of shares in any Aussie company, in practical terms it’s not a large limitation on how much influence foreign investors would have on the locally-listed firm.

The concern is that if state-backed Chinese firms take a controlling interest in Australian mining companies, those companies will no longer be run for the benefit of shareholders, but will be used to deliver raw materials at low prices to industrial consumers in China. Is that a valid concern? If China Inc. really runs like a vertically integrated manufacturer, it probably is a valid concern.

But perhaps the Rudd government should ask Australian companies what they think. In our investigations at our small cap letter, and in Al Robinson’s research at Diggers & Drillers, we’ve talked to plenty of small mining executives who have made access to foreign investment part of their business plan. Many small Aussie miners will not get their projects off the ground without importing capital and even labour from abroad.

The government hasn’t done anything stupid yet. But give it time. It seems to be an unofficial law in human affairs that people find a way to deliberately sabotage their own success. Governments, being large institutions, are especially good at this. The U.S. government, standing unchallenged militarily at the beginning of the millennium, found precisely the way to get involved in two costly wars and simultaneously drive up the price of energy from historic lows.

Maybe nature abhors a surplus. Until recently, most human beings went through their whole life with very little margin for error. Prior to the twentieth century, most people worked growing food and scratched out a living as best they could. It wasn’t until labour-saving devices and cheap energy allowed people to move off the farm and into the city that real abundance became possible for ordinary people.

Now, 150 years into the world’s energy revolution, all that abundance and surplus is being challenged by massive demand growth in the developing world. More people want more calories, more leisure, and climate control. Australia looks like it’s in the position to ride this boom until something derails it…or until the country finds a way to shoot itself in the foot. We wonder which will come first.

But wait! Have we gone all soft in the head here at the Old Hat Factory? A reader quotes Sir John Tempelton over at our website, “Bull markets are born on pessimism, grow on scepticism, mature on optimism, and die on euphoria.” “You’re in there hard,” the reader says.

We have no idea what that means. But we think he means that we took a rather bullish tone in yesterday’s letter. He would be right about that.

There are still plenty of risks to the boom. Being too casual about them would be a mistake. Let’s say industrial production declines world wide as energy prices bite into globalisation. At some point, reduced industrial production leads to lower commodity prices and lower earnings for Aussie producers. Perhaps the revaluation of BHP and Rio from cyclical stocks to growth stocks gets undone if there’s a major global contraction.

We may also be overestimating the ability of Asian consumers to replace American consumers on the world stage. It’s clear it won’t be a seamless transition. But an increasing amount of Asian exports go within the Far East. Losing America as the big customer will hurt. But it will not be a deal breaker for the region’s development.

We are also trying to keep things exceedingly simple from an investment perspective. It was complexity and derivative value on financial instruments that undid so many people on Wall Street in the last ten years. By comparison, the resource industry is a breath of fresh air.

The value of projects is a function of costs and commodity prices. Companies can be held accountable for how well they execute strategies. Smart people don’t usually get involved in dumb mining projects. So following the smart people isn’t a bad start.

Are we overly euphoric? Nope. But there is a certain relief that comes when you have a clear investment strategy. Your strategy has to adapt to changing conditions. But the long-term conditions we see driving the resource boom (and the deflation of the global real estate bubble) are pretty favourable for Aussie investors.

Nothing is risk free. But Australia is on the right side of what we called “The Money Migration” a few years ago. It is the vast transfer of wealth, incomes, savings, capital, and standards of living from the West to the East. Maybe it’s overly simple as a metaphor. But for some reason-usually because it’s right in front of their face-people often miss the most obvious explanation for events.

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Source: Foreign Investment in Australia, How Much is Too Much

So, this morning, we write to you in a puddle of our own regret. We lacked foresight, and water-proof pants. We’ll try to exhibit a bit more of it as we map out where the money is today (foresight, not water-proof pants).

Foresight, of course, is a quality everybody wants and nobody has. Who couldn’t do with a little more of it? It’s one of those constants that you always need to constantly invest well…foresight, hard work, patience, a bit of luck here, some good timing there.

Meanwhile, the only news that matters in Australia today seems to be takeover-related…

Western Juniors Could Create 4th Biggest Iron Player in Australia

Here’s some foresight. Investors who jumped on the iron ore train are getting their dividends. Yesterday Murchison Metals (ASX:MMX) gave iron cousin Midwest (ASX:MIS) an all-share merger offer worth . The market loved it. Midwest leapt 12.3%. Murchison flew 8.3%.

Everybody won, except Sinosteel. The Chinese giant was closing the net around its prey, Midwest. The nerve of another prey to go and outdo it.

Together, the two iron diggers would have a market cap of AU$3.2 billion. That’s bigger than Portman (ASX:PMM), Mount Gibson (ASX:MGX) or the other second-tier contenders. It’d leapfrog the companies up to fourth place in the industry, behind Fortescue (ASX:FMG).

The structure of the deal, though, tells you a little more about the whole matter.

Sinosteel already has 19.9% of Midwest. That’s the maximum you can own without bidding.

In a direct response to the stake, Murchison has proposed a reverse-takeover. It has offered itself up as a sacrifice to the deity of iron ore. Under Australian corporations law, a reverse-takeover means the deal only needs 50% acceptance from Midwest shareholders to go through. Otherwise, a standard takeover would’ve meant a minimum of 75%.

Ergo…the two do not want to be bought. Not by China. Not at any price near what Sinosteel is offering. The Australian iron sector is combatting external consolidation with internal consolidation. Both mean share prices are going up. Here the five top juniors’ performance this year. They’ve made gains of between 21% and 65%.

Midwest’s management has recommended that shareholders accept the deal. You’ll find out in the next three months what they think of it.

You’ll also find out exactly how desperate China is to get its paws on our iron. The ball’s in your court, Sinosteel. The company will most likely withdraw, and reassess. Perhaps it’s content to pay huge spot and contract prices for iron in Asia. Or perhaps it’d like to own the next best producer after Fortescue.

St George Accepts Westpac Bid…Almost

A much bigger takeover is slowly plodding towards the finishing line. St George (ASX:SGB) signed a scheme of agreement with Westpac yesterday. It had prudence enough, though, to add some fine print to the contract. We’ll do a deal you, Westpac. As long as your shares stop dropping

So far, Westpac’s bid is 10% smaller than when it came into the world. The stock is at a year-low. If the fall that began last week in the All Ordinaries accelerates, Westpac’s shares may continue to erode. Maybe the finishing line is a little further away than we thought.

Two takeovers are evolving parallel to each other. There’s the iron story in the hard-asset market, and the banking story in the financial sector. Both are mergers, involving shares only. No cash. Analysts tell us that the prices are good. Yet the parties involved have reacted entirely differently.

Midwest said “Yes” and left it that. St George said “Maybe. Just don’t let your share price fall.”

Sadly, Westpac doesn’t have a lot of control over that. And those two reactions might reflect the underlying businesses, we reckon. Iron ore miners are willing to jump on the front foot. They’re merging to create more scale in a growing industry. Banks are on the back foot. They’re merging as a defense against falling earnings margins.

Westpac’s interest margin has fallen from 2.6% in 2003 to 2.25% last year. It won’t have improved since the last report, filed in November. Bankers aren’t making as much as they used to. That’s the bottom line. There are better companies to invest in.

Al Robinson
The Daily Reckoning Australia

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Source: The Fourth Biggest Iron Player in Australia

–The Fed is trying to soften the blow of falling asset prices by making it possible for homeowners to refinance into longer-term loans at lower rates, and then ride out the bear market in housing and credit. In other words, the Fed has kicked the dollar to the curb. It’s on its own now.

–That doesn’t mean the dollar won’t really from time to time. As a proxy for economic growth, there will be times in the coming years, let’s call them false dawns, where the U.S. economy appears to be emerging from the slump, or is at least growing faster than Europe’s sluggish economy. But the long-term trend for the dollar index is lower highs and lower lows. For gold and oil, it’s just the opposite, higher highs and higher lows.

–Speaking of highs and lows, our friend Dr. Joanne Nova at GoldNerds.com read our note yesterday about the challenges of deep-water drilling. But drilling deep is a challenge anywhere, even on land.

–”Here’s another perspective on the difficulty of drilling Brazil’s new oil field a full 10km below the surface,” Joanne writes. “Did you know the deepest hole ever dug reached down to 12km, but it took 19 years to get there? The Soviets started planning the Kola Superdeep Borehole in 1962 and began drilling in 1970 reaching the record depth in 1989.

–”They initially aimed to reach 15km, but were forced to give up a few years after they set the record. Things were too hot, too strange, and too expensive. And this was not a hole designed to produce anything except interesting scientific papers. Twelve kilometers down, the rocks were under so much heat and pressure they behaved more like plastic than rock. The hole apparently kept flowing closed whenever they had to replace a drill bit. Makes production hard if the hole keeps disappearing.”

–Yes it does.

–Incidentally, Australia’s deepest on-shore drilling effort doesn’t have anything to do with oil, gas, or mining. It is energy related though. Geothermal hopeful Geodynamics (ASX:GDY) finished drilling its Habanero 3 well in early February to a depth of 4,221 metres.

–Even if you don’t get all the way through the Earth’s crust at that depth, it’s still pretty hot down there, which is the whole point. Geodynamics hopes to be operating Australia’s first commercial geothermal electric generating plant by the end of this year, with a capacity of 50 megawatts per year.

–We know a bit about the project and the share because we tipped it in the Australian Small Cap Investigator. The credit crunch has not been kind to small-cap stocks in general or alternative energy stocks in particular. But if you look at these stocks in terms of their ability to generate future earnings, there is a lot to like. The assets should produce growing cash flows, and who doesn’t like that?

–We showed a chart a few weeks ago demonstrating that GDP growth and electricity are pretty well correlated. A growing economy needs its energy doesn’t it? Australia’s economy is growing and so are its energy needs.

–Perhaps that’s why Citigroup reckons Origin Energy (ASX:ORG) will grow its earnings by 16% a year for the next five years, according to Rebecca Keenan at Bloomberg. And perhaps that’s why Britain’s BG Group Plc. offered to buy Origin for $12.9 billion. That represented a 40% premium on yesterday’s closing share price of $10.47. Proving that markets can sometimes be pretty darn efficient, Origin is up 37% in early trading.

–As a trade, we might even consider shorting or buying puts. After all, Origin hasn’t accepted the bid yet. But our interest isn’t in trading these events, it’s in anticipating them. BG’s bid is based on asset quality and earnings growth. It’s a stock picking story, not a China narrative, although the two are related. Take iron ore.

–”Right now, I think this is the best stock picker’s market in resources that we’ve seen for quite some time,” says fund manager James Bruce in today’s Financial Review. He could not be more right.

–He was referring to today’s breaking news that China’s first-ever hostile takeover of an Australian company-Sinosteel’s $1.37 billion bid for Midwest (ASX:MIS)-looks like it will go through. Midwest is in a trading halt this morning, suggesting an announcement could be forthcoming.

–Sinosteel raised its bid for Midwest from $5.60 a share to $6.38 a share. This seemed to please the board of Midwest, which had been holding out for $7 a share. It probably doesn’t hurt that, as Michael Vaughan reports in today’s Financial Review, Sinosteel agreed to support the issue of 15 million options to two Midwest directors.

–The exercise price on the options is $1.46. With the bid at $6.38, that means those 15 million options are worth about $73.8 million. That’s a nice pay day, if you can get it. We’ve always said that owning your own business is the only real way to get wealthy.

–”China was busy last night,” writes Diggers and Drillers editor Al Robinson. “It closed the net around one little iron miner, and took stakes in a couple of others. It looks like Chinese steel mills are focusing on the leaders in the second tier of iron companies. By that, we mean the companies outside of BHP, Rio Tinto and Fortescue who have the best-developed assets.

–The “other” company which Sinosteel appears to have set its sights on is Murchison Metals (ASX:MMX). Al has more details over at Money Morning. The entire mid West region of Western Australia is ripe for this sort of Sino-Japanese financing and takeover. The ore in the region is a little lower quality than the famous hematite of the Pilbara. The infrastructure doesn’t exist yet, either, to move that ore from mine to port and on to points North.

–On that score, keep your eyes on May 9th . That’s the deadline for proposals to be submitted to the WA government for building out the iron ore infrastructure in the mid West. There are two major proposals, one backed by China and one essentially backed by Japan.

–In the meantime, if you want to catch up on who the junior producers are in the mid West, you may want to introduce yourself to the Geraldton Iron Ore Alliance. Don’t be shy. She’s friendly.

–There are seven firms in the alliance. Mount Gibson (ASX:MGX), MidWest (ASX:MIS), Gindalbie (ASX:GBG), Murchison (ASX:MMX), GoldenWest Resources (ASX:GWR), Royal Resources (ASX:ROY), Asia Iron Holdings (not listed), and Atlas Iron Limited (ASX:AGO).

–Who will win? This is where we reach the limits of the free security analysis we provide in the DR. The heavy lifting and deeper digging goes on at Diggers and Drillers. We will tell you that valuing the companies comes down to looking at the quality of their assets and their ability to finance projects without a lot of debt.

–Better hurry, though. “The Chinese invasion of corporate Australia is continuing apace with Chinese Iron and Steel Group announcing plans to lift its stake in outback prospector Apollo Minerals to 19.9pc, just short of the 20pc level that would require it to mount a full takeover under Australian law,” according to David Litterick in Britain’s Telegraph.

Take bananas a few years ago. One day you could walk into a store and buy them cheap. A few cyclones in Queensland later, and banana prices were through the roof. For most share investors, this wasn’t an opportunity. It just made bananas and banana bread more expensive.

But in other markets – especially resource and energy markets – a sudden change in the availability of basic resources can change everything. A commodity can go from abundant to scarce relatively quickly. Its price can go from cheap to expensive quickly as well. Naturally, the share prices of companies that produce volatile commodities can change quickly too. We’re counting on that this month.

The Leading Edge of the Energy Storm

The high cost of energy – especially coal and oil – is directly impacting resource production in two countries: South Africa and China. As energy prices grind higher – or even hold where they are – this will force the production of certain base metals to lower-cost countries. It will also change the supply-demand dynamic for these base metals, creating new investment opportunities in the process. A good example is South Africa.

You have no doubt read about the power crisis in South Africa. South Africa has a booming resource economy like Australia’s. It’s driven by gold, palladium, platinum, coal, diamonds and other resources.

The trouble is, South Africa’s economy is growing faster than its electrical industry. Contrary to all the gloomy reports, we found the place pretty positive when we visited in late February (mostly Johannesburg). Like any fast growing country starting from widespread poverty, you’re going to have a lot of chaos, crime and uncertainty.

But one of the few things you want to be able to count on is the power. You flick a light switch, the lights go on. That’s so basic that you and I take it for granted. Not so in South Africa. The folks who run South Africa’s only large power company told the government years ago that it would have to invest more in power to keep up with the economy’s growth. The government didn’t listen.

The result is what you have today: rolling blackouts and “load shedding” by the power provider. Demand for power has grown much faster than the available supply. This is not make-believe land. When demand exceeds supply something has to give, and in South Africa, that means power must be cut to someone.

Energy-Intensive Industrial Users on the Chopping Block

The government’s first response to the power crisis was to cut supply to the places that used the most of it, namely the suburban business parks where most of Johannesburg’s business community has relocated in the last yen years. That makes sense. You can only cut power to people who are using it. But cutting power during the middle of the business day unexpectedly is not exactly good for business, or for people’s state of mind.

The government decided to look at industrial users of power. And once it did that, it wasn’t going to be long before South Africa realised – like China is now realising – that there is one particular industrial process that uses much more energy than any other: aluminium.

You make aluminium in several steps. First, you have to refine bauxite ore into alumina. Then, you turn alumina into aluminium by adding generous amounts of electricity in an established process. I won’t go into the details. But the basic ingredients are what we want to focus on: bauxite and energy.

Bauxite is plentiful. You can find it all over the world. Australia happens to have plenty of the stuff. But it is not alone.

Australia is the Saudi Arabia of Bauxite

“Is China preying on BHP Billiton (ASX: BHP)? Or is BHP preying on Rio? Who are the barracudas and who are the minnows?” asks Dan Denning of the Daily Reckoning Australia.

Steel prices are up by about 10% this year already.

First, the big fish. “With iron ore prices rising explosively,” says China’s National Development Reform Commission (NDRC), “many domestic firms are very enthusiastic about investing in overseas mines, which needs strengthened macro guidance from the country.”

Macro guidance is about what you’d expect from a nation that has methodically and with stunning success, pulled itself from centrally planned poverty to centrally planned prosperity (at least for some). But what does ‘macro guidance’ mean? GPS? RFID?

–Today’s Australian has all the intriguing details on China’s Grand Strategy towards Australia in a story titled, “Beijing takes over BHP raid plans.” The comments from the NDRC are a fascinating take on how at least some Chinese officials think capitalism works. “Globally, iron ore mines that are of high quality and easy to exploit are basically in the hands of major multinational companies. Our firms need to pay a high cost to mine iron ore resources abroad. Their exploitation risks and costs are increasing.”

–Is it really ‘exploitation’ to pay the market price for natural resources? Or is that just the language of socialism? Perhaps a crash course on free market economics is in order for the NDRC.

–Not to sound too condescending (this coming from someone who uses the royal We), but you have to wonder if there is some wishful thinking going on in Beijing. Or maybe, after having lost money in Blackstone and Bear Stearns, state backed firms are wary of buying equity chunks in public companies. Maybe they want a different arrangement.

–Either way, it is clear the Chinese have woken up to the fact that the century is theirs for the taking. But there seems to be some confusion about what rules the century is going to operate under: will it be mostly free market rules…or other rules. The market price for the resources China wants is rising. So it would prefer to not pay the market price.

–By the way, we reckon free markets are headed for a bit of a bear market. Globalisation, in the bastard form we find it (where trade isn’t really free and currencies are manipulated regularly) has produced US$114 oil, massive inflation, the worst credit crisis since 1929, food riots, and a growing popular backlash. Expect more direct government intervention and regulation in financial markets and, perhaps, resource markets. That should play right into China’s hands, actually.

–This latest line of probing rhetoric coming from China is not exactly a new line of attack. After all, the resources are there for the taking on the public markets. There’s no need to attack at all. But it does feel like an attempt to flush out Australia’s politicians and get them more involved in China’s plans for Australian resources. The government is already involved, of course, with the Takeovers panel quashing the bid by Shougang Steel and APAC resources to take a 40% stake in iron ore up-and-comer Mt. Gibson (ASX:MGX).

–Let’s put this whole affair in the context of steel and GDP. We found the chart below yesterday while preparing for a radio interview with a Canadian business show. The host wanted to know how steel companies could afford to pay a 300% increase in coking coal prices and a 75% increase in iron ore prices. We asked him to picture the chart below.

Steel and GDP, Marching Hand in Hand

Source: Mining and commodities exports, Angelia Grant,
John Hawkins and Lachlan Shaw, 2006

–The chart shows that world steel production leapt ahead of GDP growth during the two big periods of Asian industrialisation of the last 50 years, in Japan and Korea. With China now industrialising, and coming off a much lower base in steel production, a period of growth in steel production that exceeded world GDP would be quite the spectacle. It would also mean China’s consumption of base metals is just now hitting high gear.

–From an Australian perspective, what’s so flabbergasting about the chart is that both Korea and Japan have been devoted customers of the black coal from the Bowen Basin that is so well suited for coking. They’ve also been tied up for years as customers of Rio Tinto and BHP for the iron ore that comes from the Pilbara. Now you add China to the queue.

–Despite its surge to the top in terms of global steel production, China’s individual steel firms are still smaller, at least according to the latest figures from the International Iron and Steel Institute, than Japan and Korea. Nippon Steel, Posco, and JFE are all bigger producers than Baosteel. Keep in mind, however, that as recently as 2002, China was a net steel importer. It’s now a net exporter.

Source: International Iron and Steel Institute

During much of 2006 and 2007, it was the steady stream of private-equity buyouts and corporate mergers and acquisitions (M&A) deals that propelled the key U.S. stock indices to one record high after another.

When the deals are flowing, investors are willing to pay more for their shares, figuring the odds for a nice payday are higher. And the deal market was white-hot through the middle half of last year. Private-equity firms had amassed huge war chests. They were buying stakes in big companies and were buying smaller companies outright.

But when the subprime-mortgage crisis morphed into a credit crisis, the financing spigot for private-equity funds was largely turned off. And the deal flow slowed to a trickle.

The tepid deal-making market has carried over into the New Year. Recent data from Thomson Financial (TOC) suggests that worldwide M&A deals slumped by nearly one third in the first quarter of 2008. But that doesn’t mean the M&A market is dead in the water.  Instead, it means that cash-laden corporations will be taking the baton from the private-equity firms and will re-ignite the buyout binge.

The one caveat: Companies, buyout firms and banks are being more selective about picking partners, and are looking for comprehensive, “perfect-fit” deals.

Louis Basenese, editor of The Takeover Trader, an investment newsletter dedicated exclusively to buyout deals, says the recent falloff in M&A activity is merely a shift in the balance of power.

In recent years, private equity firms have practically defined the M&A market by outbidding companies for assets. But it was those same buyout firms that led the collapse in first quarter deals, with a 77% drop in acquisitions.

“What few realize is that M&A doesn’t need cheap financing to continue. Corporations are sitting with almost near record amounts of cash on their balance sheets,” Basenese said. And with all that capital, they can “take advantage of the depressed stock prices of competitors without the fear of being outbid by overly aggressive private equity shops.”

New Research Report

Thomson Financial said Friday that global M&A volumes plunged 31% to $661 billion in the first quarter of 2008. But that drop off comes after a banner year for M&A activity. Total global deal volume checked in at $4.5 trillion in 2007, up 24% from the previous high-water mark set in 2006. U.S. deal volume also hit record levels last year, jumping 9% to reach $1.61 trillion, Thomson said.

Since then, credit conditions have tightened significantly as many banks were burned badly by credit defaults. But while an era of “easy money” has come to an end, there is still ample opportunity for takeovers and tie-ups.

In fact, now that stock valuations have plummeted, many larger, blue-chip operations are using the opportunity to bargain hunt. A rush of opportunists such as Microsoft Corp. (MSFT), Time Warner Inc. (TWX) and JPMorgan Chase & Co. (JPM) have already taken advantage of market value and secured some heavy acquisitions.

Deals On The Docket

For instance, Microsoft made its move with an unsolicited $44.6 billion bid for Internet portal operator Yahoo! Inc. (YHOO). So far, Yahoo has done its best to thwart Microsoft’s advances, but most analysts believe Microsoft will get its way if it ups its $31 a share offer.

“We believe that a Yahoo sale to Microsoft – at a price likely higher than the initial $31 bid – is the most likely outcome,” Citigroup Inc. (C) analyst Mark Mahaney wrote in a note to clients.

Yahoo has suffered eight straight quarters of declining profits, struggling to compete with Internet-search rival Google Inc. (GOOG). Microsoft and Yahoo considered various avenues of cooperation a year ago, but Yahoo rejected the notion of a takeover. Now, desperate to not let Google run away with the market, Microsoft has made its move.

If the buyout goes through, it will be the largest-ever acquisition in the high-tech sector, exceeding Kohlberg Kravis Roberts & Co.’s $26 billion buyout of First Data Corp.

However, Yahoo’s explicit opposition to the takeover makes it impossible to rule out a narrow escape.

“While we continue to see no other competing bidders, we believe Yahoo is aggressively pursuing strategic alternatives. One possibility is a tie-up with Time Warner, whereby Time Warner would contribute its online content assets to Yahoo in exchange for a stake. We believe this could serve as a forcing function to a higher Microsoft bid,” Mahaney said.

Time Warner’s AOL recently made a move of its own, with its $850 million acquisition of Bebo Inc., a popular online social network. The San Francisco-based Bebo has 40 million members around the world and an especially strong presence in Britain. While social networking sites like Facebook and MySpace have the American market locked up, 60% of Bebo’s traffic comes from Europe and 16% from Asia.

A recent article in BusinessWeek, suggested eBay (EBAY) may be the next tech company to make a move in the M&A market. Lorraine McDonough, eBay’s mergers chief, told the magazine that her company is in a “good position to make acquisitions.”

The company kicked off 2008 with a hasty purchase of payment-security firm Fraud Sciences for $169 million. And eBay isn’t stopping there. The company expects to make eight or nine more acquisitions this year.

Despite stagnating economic growth and abysmal credit conditions high-tech mergers and acquisitions have surged 132% this year through March 25. And the tech sector isn’t the only sector abuzz with M&A activity.

Deals are also taking off in the finance and steel industry.

BHP Billiton Ltd’s (BHP) attempted takeover of rival Rio Tinto PLC (RTP) in 2007 got the ball rolling in raw materials. The company’s revised $147 billion offer sent other smaller industry players scurrying to find deals of their own.

Aluminum Corp. of China (ACH) and Alcoa Inc. (AA) surprised BHP by snagging a 12% stake in Rio Tinto. Another major player, Anglo American PLC (AAUK), responded by selling off gold, steel and paper assets and expanding in copper and iron ore. Several Latin American sources revealed that Anglo is looking to acquire a sizeable stake in Brazilian mining and metals company MMX Mineracao e Metalicos SA.

Earlier this month, the U.S. Federal Reserve had a huge assist in JPMorgan landing The Bear Stearns Cos. Inc. (BSC) for a bargain basement price of $1 billion. Now rumors are circulating that Lehman Bros. Holdings Inc. (LEH) could be next.

Lehman stock closed down more than 9% last Thursday after rumors that the fourth-largest U.S. investment bank could face a run similar to that of Bear Stearns surfaced.

Declines in Lehman’s shares on Thursday were “all being tied to fears of Bear Stearns,” Robert Bolton had trader at Mendon Capital Advisors told Reuters. “Does another broker dealer go the route of Bear Stearns with regard to their solvency and the like”

Lehman responded, saying the rumors were “totally unfounded.”

Regardless of whether Lehman is the next domino to fall, asset prices are plummeting in every sector. And with each dip the market takes those assets become even more enticing to hawkish industry leaders.