8 minute read 25 Feb 2020
Water truck dampens road Kalgoorlie Gold Mine Western Australia

Why miners focus on optimizing for today while building for tomorrow

By

Paul Mitchell

EY Global Mining & Metals Leader

Experienced mining and metals leader. Contributing insightful points of view to the market around productivity and digital.

8 minute read 25 Feb 2020

Miners are focusing on optimizing their portfolios and exploring new options for growth while maintaining capital discipline.

Global M&A deal value increased 5% year over year (y-o-y) to US$81.1b, while deal volume declined 4% y-o-y to 438, with the top five deals accounting for 42.6% of the overall value during 2019. M&A increased in all categories of deals, small (less than US$10m), medium (US$10m to US$200m) and large (greater than US$200m), indicating capital is available for the right investment opportunities.

For the majority of companies, the focus of M&A was to replenish portfolios that shrunk as mining and metals companies worked to restore balance sheets and focused on shareholder returns. In parallel, there has been mounting pressure on technology and automotive companies to secure the necessary supply of new world commodities, such as lithium and cobalt, which has opened another avenue of potential disruption to current business models. 

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Gold and steel led deal activity in 2019

Gold deals increased significantly to US$31.1b in 2019, compared with US$6.5b in 2018, as gold companies consolidated operations to realize synergies and reduce overhead burden. The acquisition of Goldcorp by Newmont to form the largest gold company in the world will generate significant operational synergies and immediate cost savings. And, gold M&A activity as a vehicle for pipeline growth is back on the capital agenda, with companies looking to acquire quality assets and Newmont and Barrick looking to divest non-core assets after their megadeals.

Steel M&A increased by 62% y-o-y to US$19.1b, in an effort to expand geographical presence and product mix while improving operating costs. Capital discipline and portfolio optimization are key priorities for steel producers, with companies looking for strategic partnerships with investors that can provide short- and long-term capital.

Conversely, coal deals declined in 2019. We believe that public perception and the global push for decarbonization will be key drivers for M&A activity as miners consider divesting coal assets.

We believe that public perception and the global push for decarbonization will be key drivers for M&A activity as miners consider divesting coal assets.

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Battery minerals transactions increased as companies diversify supply away from China

Strategic growth, diversification and securing supply have been the key drivers for M&A activity in the battery minerals sector. While deal value more than doubled to US$2.5b in 2019, deal volume increased by 3.8% to 27 deals. Other sectors, such as oil and gas and automotive, have shown increasing interest in battery minerals as they seek to diversify or enter long-term supply agreements. One of the key highlights in 2019 was the acquisition of Kidman Resources by Wesfarmers to benefit from increased global demand for electric vehicles. 

The mining sector is playing a vital role in the transition to clean energy, and investment in battery minerals will play a large role in the next wave of M&A.

Continued investment is expected as players diversify the sourcing of battery minerals from countries other than China. For example, companies globally are looking to acquire cobalt and lithium mines in Australia and South America to secure supply of strategic minerals. In addition, players are diversifying intermediate cobalt products, as manufacturers are trying to reduce the amount of cobalt used in batteries and focus on developing more nickel-intensive ones. While the recent decline in lithium prices is likely to deter industry players making near-term investments, financial investors may see this as a buying opportunity, particularly as investment in the industry remains low compared with other sectors.

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Mining services companies are expanding offerings and geographical reach through strategic deals

Mining services M&A activity is focused on increasing service offerings, as well as geographical reach, to cater to the increasingly complex needs of the mining sector. For example, Metso and Outotec merged to access more markets across the mining, metals and aggregates industries. With declining ore grades, mine electrification and increased digital solutions, mining services companies will need to increase investment in technology to remain competitive and meet the needs of miners. In addition, acquisitions may represent the most effective way for mining services companies to gain access to skilled labor and digital solutions.

As access to capital remains challenging for mining companies, and with significant investment required to develop mines in the future, we believe miners will increasingly collaborate with mining services to gain access to advanced technology. 

As access to capital remains challenging for mining companies, and with significant investment required to develop mines in the future, we believe miners will increasingly collaborate with mining services to gain access to advanced technology. 

Mining companies explore alternative sources of funding

Capital-raising activity remained relatively quiet in 2019, as access to equity markets was difficult and many miners were able to self-finance on the back of strong free cash generation. Aggregate capital raised was up only 1.5% y-o-y to US$276.3b, while deal volume increased by 4.3%. The biggest movers were debt, which increased 2.9% y-o-y to US$261.7b, and equity proceeds, which fell by 18% to US$14.7b. 

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China, the US and Canada accounted for half of all capital raised, with the remaining proceeds evenly distributed across the world. The UK emerged as a preferred destination, with companies seeking a London listing to gain access to potential investors. Conversely, miners are struggling to raise capital on African exchanges.

Equity markets remain difficult for mining businesses, particularly exploration companies. In addition, lenders are still reluctant to finance long-term projects due to the inherent risk of exploration in mining and metals and the perceived lack of returns in the sector. Mining companies are therefore increasingly using alternative financing options, such as commodity traders, royalty deals and customer offtake agreements, to gain access to capital. Other sources of capital include sovereign funds, investment from original equipment manufacturers and downstream industries.

While we have seen many players opting for debt to fund projects, mining and metals companies are also looking to balance risk by opting for JV agreements with strategic players and resource funds, reducing the financing risk and diversifying capital across a greater number of investments. Increasingly, these JV partners will come from a greater pool of participants and will most likely include technology manufacturers. For example, Bolivia is looking to partner with firms to seek more investment to develop its lithium reserves.

LTO is increasingly impacting the ability to raise capital, as investors see it as a key risk factor. Risks associated with environmental policies and safety, as well as decarbonization, will play a greater role in the diligence undertaken around capital investment decisions. For example, BlackRock announced a number of initiatives to focus on sustainability in their investment approach such as exiting investments that present a high sustainability-related risk, such as thermal coal producers and launching new investment products that screen fossil fuels. 

LTO is increasingly impacting the ability to raise capital, as investors see it as a key risk factor.

What to expect in 2020?

  • Pipeline growth back on the agenda

    A focus on growth avenues after years of restructuring will lead to deals shifting from divestment-led to investment-led. Dwindling pipelines and reduced exploration spend over the past few years will also lead to increased M&A activity. Copper is likely to remain a key focus for M&A and arguably the most strategic M&A driver. But, with limited options available, copper deals may demand significant premiums to reach agreement.

  • Geopolitical factors

    Civil unrest in many mining countries around the world, the coronavirus outbreak and presidential elections will create market uncertainty and impact commodity prices. The virus outbreak in particular has resulted in a decline of metal prices amid weaker demand, delayed production restarts and uncertainty on trade flows. However, the decline in metal prices may pose an attractive position for investors seeking exposure to the sector. Moreover, despite the availability of growth assets in jurisdictions that are perceived as high risk, investors are increasingly looking to secure long-term growth options in low-risk areas.

  • LTO

    As the No. 1 risk in our Top 10 business risks and opportunities 2020 report, this will remain front of mind for investors when performing due diligence on potential acquisition targets or making capital deployment decisions on new projects. A focus on LTO and rising environmental, social and governance concerns will likely lead to changes in ownership via further divestments or spin-offs to reduce dependence on fossil fuels. 

  • Alternative sources of capital

    With access to capital remaining a challenge, miners are likely to continue seeking alternative sources of financing, such as production-based financing, private equity or supplier funding.

Mining companies need to think more broadly about how to maximize their returns and adopt new approaches that may be radically different from those of the past. Companies will also need to re-evaluate their appetite for risk to make sure they are not missing out on new growth opportunities by taking a complacent or old-fashioned approach when allocating capital.

Summary

Strong earnings growth, reduced debt and stronger balance sheets are providing mining and metals companies with the opportunity to optimize portfolios and consider new options for growth.