LONDON BRIEFING:Things are not going smoothly in the Xstrata and glencore deal despite expensive advice

WHEN A deal’s been years in the planning and you’ve hired some of the best brains in the City to execute it – at an estimated cost of $150 million in advisory fees – you expect things to go smoothly.

And so they did yesterday, for a couple of hours at least, as Glencore and Xstrata unveiled terms of their $90 billion mega-merger, the biggest deal ever seen in the mining sector. Billed by both FTSE 100-listed companies as “a merger of equals” it will create the world’s fourth-largest natural resources company, bringing together the huge mining business of Xstrata with the powerful commodity trading operations of Glencore.

The two have been courting for years – Glencore already owns a 34 per cent stake in Xstrata and has made no secret of its desire for the two companies to combine into a global resources powerhouse. But even as the new partners were extolling the virtues of the deal in a conference call with analysts, Edinburgh-based Standard Life popped up to spoil the celebrations.

It may have been billed as a merger of equals but some, it seems, are more equal than others. Rather than a 50:50 division, the deal will leave Xstrata shareholders owning 45 per cent of the combined company and Glencore’s investors with 55 per cent. The share swap terms (2.8 new Glencore shares for each Xstrata share) “clearly undervalue” Xstrata, said Standard Life, which owns around 2 per cent of the mining group. Although David Cumming, head of equities at the fund management firm, said he saw “some merit” in the merger, Standard Life will vote against it unless the terms are “materially improved.”

Another leading shareholder, Schroders, which holds 1.5 per cent of Xstrata, swiftly echoed his views. It was, said head of UK equities, Richard Buxton, a “fabulous” deal for Glencore, “probably a great deal” for the Xstrata management but a “poor deal” for Xstrata’s majority shareholders. The premium offered to Xstrata is a less-than-generous 15 per cent, according to the merger announcement, but shrivels to a single digit if the terms are calculated using February 1st closing prices (the day before the talks were first announced) for both companies. Approval of 75 per cent of the shares will be required for the deal to go through in its current form.

However, as Glencore will not be allowed to vote its stake, holders of little more than 16 per cent of the shares could block it. With a deal of this scale, and given all the preparation that’s gone into it, it’s really quite astonishing that Glencore and Xstrata and their huge team of advisors didn’t see this coming. If they had, they surely they would have headed off what looks set to become a very public showdown with shareholders.

Some of the City of London’s most powerful, and certainly most expensive, advisors are acting for the two companies – Citigroup and Morgan Stanley for Glencore and, on Xstrata’s side, Deutsche, JP Morgan, Goldman Sachs and Nomura. And, unusually, the two sides shared the services of Michael Klein, one of the City’s top rainmakers, described in the merger documents as “strategic consultant”.

Klein, a former Citigroup executive, is understood to have played the role of “honest broker” between Glencore’s billionaire chief executive Ivan Glasenberg and Mick Davis, his opposite number at Xstrata. Sometimes described as “frenemies”, the two company bosses know each other well, having gone to the same school in South Africa, but are staunch business rivals.

Klein’s services won’t have come cheap – past assignments include advising Bob Diamond on Barclays’ takeover of the Lehman operations and he was also brought in by the then prime minister Gordon Brown to advise on Britain’s £400 billion bank bailout. In total, the banks are expected to reap fees of $150 million on the merger.

Those highly paid advisors will now be working on a new strategy to sell the deal to the City, where there’s an uncomfortable feeling that it’s all a little too cosy. Xstrata supplies the bulk of the assets, and its senior team is set to take the top jobs at the enlarged entity, which is to be called Glencore Xstrata International (GXI). Thus Mick Davis will be chief executive of GXI with Ivan Glasenberg as his deputy, and Xstrata will also take the top finance role.

Would Xstrata directors have been so swift to approve the terms had they not been granted the top jobs? And where will the real power lie within the new company anyway, with Glencore’s key executives continuing to control a substantial stake in the merged group? Shareholders are looking for some answers – and some more money. Those advisors had better start earning their fees.

Fiona Walsh writes for the Guardiannewspaper in London