Potash Corp. /BHT Billiton: Could They Fit?

Rumours have emerged in recent days that mining giant BHP Billiton Ltd. (BHP) could take a run at Potash Corp. of Saskatchewan (POT). Yes, it's far-fetched, and it is hard to imagine any scenario where the Canadian government would approve such a deal (especially following the "hollowing out" debate). But RBC Capital Markets analyst Fai Lee ran the numbers anyway, and he thinks that the merger would make strategic sense.

"We view Potash Corp.'s potash assets as long-life, low-cost assets that can be expanded and are largely export-oriented. As such, we believe Potash Corp.'s potash business would represent a good fit with BHP Billiton's stated business strategy," he wrote in a note to clients.

BHP has stated that it wants to be a "major" player in the potash industry in the next decade, and it is already hard at work on a potash greenfield project in Saskatchewan. But to be a top producer of potash, Mr. Lee believes the company would have to do an acquisition.

He thinks a BHP-Potash Corp. combination could be accretive, depending on the premium paid to Potash Corp.'s shareholders. He assumed just US$25-million of synergies and a transaction financed with 65% debt and 35% equity. He used a potash price of US$625 a tonne in his analysis. If prices are 25% lower, he wrote that BHP could pay a premium of up to 45% on Potash Corp.'s current share price.

However, Mr. Lee also pointed out the obvious: BHP would have to face serious regulatory and financing hurdles to do a transaction like this. BHP would also likely want to retain the management team, he noted. That would make it important to get management's support for a merger, and it is no secret that Potash Corp.'s management thinks the stock price is grossly undervalued at these levels.