Fortescue Metals Group Limited (ASX: FMG) has been one of the best shares to own in 2020. Whilst the S&P/ASX 200 Index (INDEXASX: XJO) is still down around 10.7% year to date, the Fortescue share price is actually up nearly 30% since 1 January.
High iron ore prices, a supply squeeze in Brazil and an ultra-low-cost basis have all helped Fortescue achieve multiple all-time highs in a year where most ASX shares have tanked.
When a company is flush with cash and surrounded by potentially distressed competitors, the merger and acquisition (M&A) rumour mill often go into overdrive. And that's what we are being treated to a slice of today.
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A Fortescue merger down south?
According to reporting in the Australian Financial Review (AFR), analysts at Citi Bank have been running the numbers on a potential merger of Fortescue Metals with South32 Ltd (ASX: S32).
South32 is a ~$10 billion diversified ASX miner that was spun out of BHP Group Ltd (ASX: BHP) back in 2015. Back then BHP's management restructured the businesses to focus on its 'core' assets of oil, coal, copper and iron ore.
Everything else was shunted off into the newly-formed South32, which became a separately listed entity in its own right. Today, that 'everything else' includes metallurgical coal, lead, alumina, aluminium, nickel, zinc and silver operations.
Fortescue gets more than 95% of its earnings from purely iron ore mining. Citi Bank analysts clearly see South32 complementing Fortescue, diversifying the company away from iron ore.
Would Fortescue shares benefit from a merger?
In a sense, this could be a great move by Fortescue in my view. You have to make hay while the sun shines. Right now, Fortescue is getting so much sun it'll soon have the best winter tan in Australia. The company is cashed up and is benefitting from the highest iron ore prices in years.
Iron ore is also a highly volatile commodity. It has whipsawed between US$40 and US$120 a tonne over the past 5 years. Diversifying through M&A right now makes great sense from this perspective.
However, South32 has had problems of its own in recent years. Its shares are sitting not too far from 4-year lows right now. The company is not benefitting from the same kind of commodity pricing tailwinds as Fortescue. It's coal mines in South Africa have also faced significant production issues in recent years and the company is now trying to exit the market completely.
Foolish takeaway
Fortescue is one of the best ASX miners in the country in my view, and I think that its shareholders would benefit enormously if this rumoured acquisition comes to pass. Andrew Forrest, Elizabeth Gaines and the rest of Fortescue's management team have almost as many runs on the board as Sir Donald and would bring some fresh energy to South32 in my view. But we'll have to wait and see if Fortescue acts on this idea or looks for greener grass elsewhere.
