Transacting in the new global landscape: A look at what’s driving mergers and acquisitions
(As originally appeared in Canadian Mining Journal, December 2010)
By Richard Crosson, Senior Partner, Transaction Advisory, Ernst & Young LLP and Mike Michael Samis, Vice President, Valuation and Business Modelling, Ernst & Young LLP
2010 witnessed a strong rebound in transactions in the global mining and metals industry. In fact, during the first nine months of the year, the value of deals increased by 87% to $78.9 billion year-on-year. The more traditional players in the market, namely companies in Canada, Australia and the United States led activity, as improved earnings raised confidence in the market.
Three key elements have come into play, and together are enabling the return of deals in the sector: growing confidence; increased cash flow; and an unfolding world of opportunity.
An industry regaining confidence
When our company surveyed clients in major companies (mining included) in April 2010 to get a sense of their outlook, 86% said they were more optimistic than the previous year (2009).
Strong earnings over the last six quarters have balance sheets in a healthy position – better than expected – which has led to metals prices bouncing back and a renewed sense of confidence in the industry. When the market caps of the majors increased, companies were able to make significant repairs to their balance sheets and build up their cash reserves. They were able to refinance their debt and look to the equity markets.
A world of opportunity unfolding
Now, as companies reap higher returns from stronger prices, they are demonstrating a willingness to take on greater political risk and share the upside with local governments.
As larger companies sit on their growing cash reserves, the pieces are in place for both opportunistic and hostile approaches. The majors are making a number of bolt-on acquisitions to diversify their geographic reach and product portfolios.
For those who haven’t secured new financing or refinanced debt, the prospect becomes more difficult as capital becomes increasingly scarce and expensive. These are the companies who could end up as targets for acquisition.
In the coming years, developing markets like China and India are expected to become even larger consumers of steel, iron, coal and other resources as their population increases and grows wealthier. The growing resource demand is causing mining companies to venture internationally, often further than ever before.
In the first nine months of 2010, Asia Pacific was the preferred destination, attracting $29.9 billion in deals, up 168% year-on-year, followed by North America with $28.5 billion in deals up 190% over the same period. Asia Pacific also led in terms of acquisition activity, with $34.4 billion worth of deals undertaken in the first nine months of the year, followed by North America with $26.8 billion and Latin America with $9.9 billion.
Last year, transactions activity was dominated by Chinese investment, mainly into Canada and Australia. This year, while we didn’t move away from these markets, we also saw greater geographic diversification, particularly into Latin America, Africa and Asia.
A revival in cash flow
Many mining and metals companies are finding access to debt easier as $78 billion of loans closed in 3Q 2010. In fact, the value of closed loans is up 184% year-on-year. While the debt burden has not gone away, it is being managed on more attractive terms. “Yield chasing” investors areopening up the bond market to new players. Equity is now funding growth, rather than repairing balance sheets.
With access to capital in equity markets and debt available for the very best assets, growth is the name of the game and there are only two ways to do it: organically or by acquisition. Many companies have decided that the best way to allocate capital is to grow by acquisition. In fact, almost 50 per cent of the majors in mining describe inorganic growth as a focus.
However, with capital allocation still a primary risk for mining and metals companies, they are often faced with one of three choices. The first is to pursue friendly acquisitions (for example Kinross/Redback). However, this option can be challenging because it has to be recommended by both parties. The other option we’re seeing is more joint ventures, although they can be a cumbersome environment to work in and are not necessarily company-transforming transactions. The third option is strategic partnerships, where we’re seeing a significant appetite from sovereign wealth funds – in particular China – to help fund transactions.
Next year will undoubtedly bring opportunities to make game-changing strategic moves in the global mining and metals industry. While the risks may be high, so too are the rewards. How these companies manage their capital today will ultimately define their competitive position tomorrow.