By Camilla Palladino,
Hugo Dixon
How do you finance a €21 billion transaction with only €60 million to €70 million of your own money and still keep control? That's what Marco Tronchetti Provera, the Telecom Italia boss, has achieved with his take-out of the minority investors in Telecom Italia Mobile.
Securing leverage of more than 300:1 is quite a feat, even in a country that is known for its capitalism without capital. Moreover, Tronchetti has done this while simultaneously shoring up his empire's rickety financial structure. He has achieved it by borrowing a large chunk of debt, feeding cash through a complex chain of Chinese boxes and calling on powerful allies.
A chain reaction
The TI/TIM takeover has triggered a chain reaction through Tronchetti's cascade of companies. Start with the bottom of the chain: TI itself. It is financing €14.5 billion of the cost of the deal with new debt on extremely good terms and a bit of its own cash. Tronchetti's good connections with Italian bankers must have helped. The fact that Italian prime minister Silvio Berlusconi is an indirect investor in one of his box companies can't have hurt either.
What this means is that TI only has to issue €6.5 billion in new shares to make up the rest of the €21 billion consideration. But €6.5 billion is still quite a lot of new shares. If Tronchetti did nothing, Olimpia, the Chinese box sitting immediately on top of TI, would be diluted from 17% to 14%. That would threaten his control of the group.
The solution is for Olimpia to spend e2 billion to get its stake back up again, to 19%. Add in stakes held by Tronchetti's allies such as Mediobanca and Generali and he will still be able to count on 26% of TI's votes. That's a pretty impregnable position.
Of course Olimpia needs to find €2 billion. Fortunately for Tronchetti, though, he is not Olimpia's only shareholder. When you work through the numbers, he has to put in about €1.3 billion to cover the share held by his Pirelli group and the share held by two banking allies, Intesa and UniCredito, which are not contributing to this part of the deal.
These transactions at the Olimpia level, incidentally, somewhat shore up its previously wobbly finances. The group, which is just a leveraged holding company for TI shares, previously had about €5.4 billion of assets as against €3.3 billion of net debt. In future, it will have more like €7.4 billion of assets against the same €3.3 billion of debt. What's more, because Olimpia will hold more TI shares than it used to, its dividend stream will be bigger. That should allow it to earn a surplus after paying its interest bill.
But the story doesn't stop at Olimpia. Pirelli, another heavily indebted group, needs to find the €1.3 billion to inject into Olimpia. That, in turn, is being financed by raising €1.3 billion – partly via a rights issue and partly by a conversion of warrants.
In the process, Pirelli's finances are also being shored up. The story is fairly similar to what is going on at Olimpia. Debt will remain roughly constant but the value of its assets will be up by by €1.3 billion. That's important because UniCredito and Intesa have the right to sell their Olimpia shares to Pirelli for €1.2 billion in 2006. That's about €800 million more than they are worth.
By getting in cash now, Tronchetti is positioning Pirelli to pay off the banks in two years – if need be. He is also making sure he doesn't look desperate as he tries to sell off most of Pirelli's cable business, which could be worth another €1.2 billion.
But Pirelli still has to raise €1.3 billion. How does Tronchetti get his share down to €60 million to €70 million? The answer is yet more Chinese boxes. Tronchetti owns 56% of a company called GPI that owns 58% of Camfin. This company, in turn, owns 27% of Pirelli. Tronchetti's effective interest in Pirelli is 8.8%. There are capital increases right the way up the chain.
Working through the numbers might suggest Tronchetti would still need to put in €114 million of his own capital. But he has cut four of his closest banking allies – Mediobanca, Intesa, Capitalia and Generali – into the action at Camfin and Pirelli. The result is that he gets diluted by a small amount. GPI's stake in Camfin will drop to 51%; while Camfin's stake in Pirelli will fall to 25%. But Tronchetti's position is still pretty solid. And by cutting in these allies he only has to put up €60 million to €70 million – and complete his magic multiplier.