Now that after long last the market has turned its attention not only to Glencore's mining operations, which as we have repeated said are a secondary aspect to the company's business model, the key being its trading operations which transact in billions of commodities every single day, and the stocks just plunged to fresh intraday lows down a historic 30%, here is a quick pointer at what traders should be looking at next: the company's own disclosure on counterparty risk from its most recent annual report [10].
But before we get into it, here is a reminder of Glencore's most recent disclosed financial situation: $30Bn net debt on $6.5bn in EBITDA. EBITDA, which as a reminder, drops by $1.2BN for every 10% drop in copper prices [11] according to the company itself.
[12]
So here is what "could go wrong" form the horse's mouth. First on counterparty credit in a world of plunging commodity prices:
That's the big picture; here is the drill down on where GLEN has non-current receivables as of Dec. 31, 2014:
[13]
The Company's approach to "credit risk":
[14]
A breakdown of Glencore's "fair value" breakdown in Level 1 through 3 assets, which amount to $4 billion in total.
[15]
The offseting liabilities:
Perhaps the punchline: $19 billion in derivative liabilities. As a reminder, every collateral netting chain (this is for the very confused "gross is not net" punditry out there) is only as strong as the weakest counterparty. Should GLEN fail, those gross liabilities become net.
[16]
And as reminder, GLEN has $30 billion in net debt.
Finally, here is Glencore's core value proposition: arbitraging everything in the commodity "value chain"
[17]
The question is what happens when the "value" chain - after suffering a depression-like collapse - goes into reverse? Simple: the arbitrageurs turn against the "arbitrageur" itself.
Because while Glencore is very eager to discuss others' counterparty risk, it - as expected - has little to say when it, itself becomes the counterparty risk itself. In fact, the only real mention of the all-important Investment Grade rating that GLEN must keep is the following:
In light of the Group’s extensive funding activities, maintaining strong BBB/Baa investment grade ratings is a financial priority/target. The Group’s credit ratings are Baa2 (stable) from Moody’s and BBB (stable) from S&P.
And this:
Glencore’s objectives in managing its “capital attributable to equity holders” include preserving its overall financial health and strength for the benefit of all stakeholders, maintaining an optimal capital structure in order to provide a high degree of financial flexibility at an attractive cost of capital and safeguarding its ability to continue as a going concern, while generating sustainable long-term profitability. Paramount in meeting these objectives is maintaining an investment grade credit rating status. Glencore’s current credit ratings are Baa2 (stable) from Moody’s and BBB (stable) from S&P.
Actually, Glencore does hint at what the next step most likely will be once the rating downgrade headline hits:
Glencore actively and continuously monitors the credit quality of its counterparties through internal reviews and a credit scoring process, which includes, where available, public credit ratings. Balances with counterparties not having a public investment grade or equivalent internal rating are typically enhanced to investment grade through the extensive use of credit enhancement products, such as letters of credit or insurance products.
So to all of Glencore's counterparties, good luck "ringfencing" the trillions in transactions that end up with a $19 billion liability exposure, and that's just on the book. And how fast before the market starts looking at the counterparties themselves...
[18]
The only question now is "when" does the junking hit. The answer, as far as we are concerned, whenever Goldman Sachs is ready to pull the plug [19].