Mining companies have been in survival mode, walking a tightrope on the slump in commodity prices and demand.
Commodity producers across the board are all feeling the pinch. Copper and platinum prices are at a ten-year low, iron ore continues to fall and other bulk commodities are following a similar track.
Adding to the pressure is the slowdown of China’s economy on the back of the country’s ailing manufacturing sector, which has prompted jitters in global markets.
The commodities slump has hit SA particularly hard, with the impact exacerbated by local factors such as government’s interventions in the mining sector, labour instability and erratic power supply.
This precarious environment is set to see distressed miners emerge not only in SA but globally, paving the way for an uptick in mergers and acquisitions (M&A) activity.
The mining sector hasn’t seen much M&A activity in the past year relative to other sectors. Supporting this view is London-based law firm Allen & Overy in its latest M&A insights and outlook report, showing that 2015 was a record-breaking year for deal flow.
The mining sector does not feature in the top five sectors that have amassed the highest values in M&A activity. The telecoms, media and technology sector saw US$735 billion (R12 trillion) worth of M&A activity followed by life sciences with US$599 billion (R9.8 trillion); energy and infrastructure at US$536 billion (R8.7 trillion); consumer-facing recording US$491 billion (R8 trillion); and financial services at US$407 billion (R6.6 trillion).
Partner at Allen & Overy Dominic Morris says the number of distressed deals in recent months have been relatively few and far between in the mining sector. “What you have seen in the last three to four months is that commodity prices have dropped significantly and you are now seeing some companies in significant distress and that will drive the M&A activity,” says Morris.
Industry players anticipate that the current commodity cycle might turn the fortunes of the mining sector. With the balance sheets of mid-sized mining companies under pressure, larger counters might see this as an opportune moment to acquire them to build scale.
In reality though, most activity in the mining sector in SA and globally has been dominated by bigger companies disposing of non-core assets to raise cash and subsequently shore-up balance sheets, rather than the reverse, which would see large companies preying on smaller ones.
In fact, some of the bigger mining companies have also been in the same distressed boat as their smaller counterparts, spurring them on to consolidate assets. Among the recent asset disposal activities was that from one of the largest miners, BHP Billiton, spinning off its smaller assets into its new entity South32.
In its report, Allen & Overy says Glencore has suffered more than most, with its shares losing a third of their value in September amid fears that the slump in commodity prices may put its investment grade credit rating at risk. Glencore’s counterparts have fared only marginally better, given that the market values of Anglo-American, BHP Billiton and Rio Tinto have also suffered steep declines.
Mining companies (those in a better financial position) looking to pick up assets, might rate the timing as good and take a long-term view for their investments, says Morris.
With more bearish sentiments besetting the mining sector, banks seem to be determined to hang on for as long as possible before impairing loans. “They [banks] seem loathe to withdraw their backing from projects, clearly recognising that with the market in its present parlous state, it’s better to hang on in the hope that commodity prices will recover,” the report reads.
Players tipped to conclude deals are largely private equity funds, and Chinese and Middle Eastern sovereign entities. But this is all speculation. What is certain for now is that the boom years when commodity prices were rocketing, unending demand for commodities and the fast expanding Chinese economy are seemingly over.
Rand/US dollar: R16.35 at 15:35.