A number of high-cost mines are high cost because they have been starved of capital in recent years. As a result, Ernst & Young expects “a good number of these mines to be divested by the majors to owners with capital available for acquisition and reinvestment.”
In their report, Mergers, acquisitions and capital raising in mining and metals, 2012 trends, 2013 outlook, When opportunity knocks, who answers?, Ernst & Young observed that a key characteristic of last year’s deal activity was the increasing number of state-backed and financial investors funding the growth of mining and metals through mergers and acquisitions.
As traditional capital providers have reduced their mining exposure, a funding gap has opened which has increasingly been filled by a new class of investor, operating in the gray area between M&A and finance. The share of mining deal value by these non-traditional acquirers have grown year-on-year to account for 31% of total deal value, up 10% from 2011.
This group includes state-backed entities (SOEs) including Japanese Trading Houses; financial investors such as sovereign wealth funds; commodity traders; and acquirers from other sectors, such as automotive, technology, fertilizer and utility companies, and industrial conglomerates.
STATE-BACKED ENTITIES (SOES)
In spite of state-backed investors typically being perceived as a common group with single purpose, bottomless pockets, and the unquestioning patronage of all-powerful shareholders, E&Y suggests SOEs have an increasingly commercial focus.
For instance, SOEs seek to buy at a price that reflects their shareholders’ best interests. They use their investments for knowledge and skill transfer benefitting their local workforces. SOEs also stress their intent to invest in local stakeholders, knowledge and social development, E&Y observed.
However, despite the SOEs’ good intentions, drawn out regulatory processes could mean the timing of a deal that looked like an attractive investment at the point of the initial offer “may look very different a year later.”
“There is concern by vendors that doing a deal subject to SOE regulatory approval has provided the acquirer with a free option to renegotiate the deal if commodity prices fall,” E&Y noted.
In their report, E&Y observed that last year financial investors “were predominately looking to secure toehold positions in listed mining and metals companies in order to generate investment returns. Nearly 80% of deals by this group were for minority (non-controlling) stakes at the company level, with average stake sizes of 12%.”
Gold, coal and copper were the most targeted commodities.
Private capital stepped in to fill the funding gap encountered by junior companies last year. “We expect an increase in activity by private equity in 2013 as firms opportunistically acquire assets that present the prospect of relatively quick returns as commodity prices begin to recover,” E&Y predicted. “However, without some visibility over near-term future returns, it is difficult for traditional private equity to manage their risk of exit in three to five years.”
In their analysis, E&Y noted that the traditional commodity trading model of securing raw materials supply through off take and source agreement is changing, “with traders seeking greater integration and operational influence through direct ownership of producing assets for commercial long-term benefit.”
For instance, Trafigura’s increase to 100% of its holding in Iberian Minerals represented its own efforts to building strategic holding in mining assets that complement its trading activities—“building a ‘standalone mining concern’ to improve market access,” said the report.
OTHER SECTOR INVESTORS
Price and supply volatility drove mining investment deals by acquirers from other industries, similar to what has taken place in the steel industry.
“Coal, rare earths, lithium, iron ore and copper were targeted with buyers from the power, automotive, chemicals and renewable energy sectors, among others, acquiring stakes through company (rather than asset-level) takeovers,” E&Y observed.
For instance, state-backed South Korean energy company KEPCO acquired a 14% stake, including an off take provision, in uranium explorer and miner Strathmore Minerals to secure a future supply for South Korea’s nuclear power industry.
“We expect to see a continued and growing role for strategic and financial buyers in the years ahead,” said the report. “Many of the characteristics that have driven or facilitated this growth in 2012 are likely to continue in 2013, not least the overarching need to secure long-term sources of mineral supply.”
“The real question is whether such deals would have been consummated had traditional debt or equity capital been available to the host investee,” E&Y pondered.