E&Y says 2009 ‘extraordinary' for mining with changes to resonate for years

Ernest & Young's Tom Whelan suggests Canadian mining's openness to foreign investment has put Canadian miners in a unique position on the international stage this year.

Author: Dorothy Kosich
Posted: Tuesday , 09 Mar 2010

TORONTO -

As the global credit crisis choked off access to debt and capital for many mining and metals companies and metals prices plummeted, mining companies made cost reductions their mantra.

Western Canadian mining and metals giants made few deals and suspended many of their exploration and new production plans in 2009.

Meanwhile, Chinese investors emerged as the new buyers as valuations dropped and companies were targeted by bargain hunters.

In a report issued Monday Ernst & Young asserted that the credit crisis has fundamentally changed how Canada's mining and metals companies and their transactions will be financed going forward.

"We believe this swing in the economic cycle will be governed by companies taking a conservative approach to debt in combination with a return to equity," E&Y noted. "And that equity will likely come from new sources such as Chinese investors and sovereign funds."

Several global trends emerged from the challenges of 2009 including a fundamental shift in mining project financing, the emergence of China as a global player, and a widening gap between supply and demand, the report suggested.

Because most mining and metals companies placed their exploration and production on hold due to the global economic crisis, supply is now scare. This increased need for minerals and metals bodes well for the investment outlook of the sector this year, E&Y advised.

The top 100 TSX mining companies found their aggregate market value increased 64% to $325 billion by the end of last year. To be included on the TSX 100 companies had to achieve capitalization in excess of $430 million up 230% from last year's $130 million requirement,

GOLD

Of the top 100 TSX mining companies, 50 were gold companies as of December 2009, E&Y determined.

"The broad base of support from both the supply and demand side provides an impact cushion against shocks and is therefore, a key source of stability to the gold price," E&Y said. "As a result gold spot prices are expected to remain strong in the medium term, and should continue to outperform the general equity markets."

In their research, E&Y found that 75% of the top 100 companies thrived , increasing their market capitalization by as much as 500% "with a remarkable 20 companies seeing an increase of over 500%."

The top 100 also rewarded investors, E&Y suggested. "Over two-thirds of the companies saw their stocks rise by up to 300% and 13 saw an appreciation in excess of 500%."

CASH IS STILL KING

The aggregate debt held by the top 100 decreased by more than 11% from $40.8 billion in 2008 to $36.2 billion in 2009. "Many companies have been focused on debt restructuring and securing new sources of financing," the consultants said.

"The significant decrease in debt and, conversely, increase in cash confirms that mining companies have been successful in their efforts to reduce overall leverage and implement more conservative capital structures."

E&Y found that cash-to-market capitalization improved "dramatically' in 2009, "with not one of the TSX top 100 reporting cash reserves in excess of market capitalization versus five companies reporting those reserves in 2008."

Average ratios for debt-to-equity have increased from 27% to 23%--while the number of those companies holding in excess of 100% debt-to-equity decreased to three due to more conservative credit markets.

Three companies - PotashCorp, Goldcorp and Sherritt International -increased debt levels by over US$500 million. E&Y noted that Goldcorp's total debt increase by more than 100 times although the company's debt-to-equity ratio remained below 5%.

"The message here is that debt, while still not easily available, is available to companies with solid balance sheets and well-established assets," the report said.

M&A-HEIGHTENED ACTIVITY, LOWER VALUE

Deal values and numbers were predictably down in 2009, E&Y said.

Canadian companies conducted deals to the value of US$10.2 billion. In 2009, 442 mining and metals transactions were completed domestically or by Canadian firms internationally.

The two largest domestic deals included Pan American Silver's US$469 million for Aquiline Resources and New Gold's takeover of Western Goldfields for US$277 million. These were both share to share transactions.

Canada's largest off-shore deal was achieved by Eldorado Gold, which acquired Sino Gold Mining for US$1.4 billion in a stock-swap transaction that makes Eldorado the largest foreign gold producer in the world's largest gold producing nation.

"The strong growth in transactions volume reflects the consolidation of many of the junior mining companies-as limited cash flow in 2009 drove the need to streamline their businesses to focus on core operations," E&Y said. The total value of these transactions plunged 70% from 2008 values, reflecting fewer megadeals and generally lower average deal values.

NEW BREED OF INVESTORS

During 2009 China became a major investor in Canadian mining, accounting for 34% of all activity.

"China focused on stockpiling commodities in 2009, establishing inventory reserves in anticipation of continued economic recovery and fuelled by state backing exceeding US$2 trillion in reserves," E&Y noted.

Notable Chinese investment included China Investment Corp.'s US$1.5 billion in Teck Resources and US$500 million investment in Consolidated Thompson Iron Mines.

In their analysis, E&Y asserted that the international appetite for Canadian resources is sustainable. "Canadian companies have been open to foreign investment, and there has been no foreign limits placed on investments in domestic commodities by other countries."

"We believe this opens up opportunities for Canada in 2010," the consultants added. "Canada's low-risk investment environment also makes it an attractive investment decision."