Half of Canada's mining companies could go bankrupt after dismal year: analyst

1 day ago

TORONTO — Few Canadian resource industries fared well in what turned out to be a dismal year for commodities, but base metal miners were hit particularly hard as credit markets tightened, global demand slumped and prices for everything from zinc and copper to iron ore and aluminum plummeted.

And one analyst predicted some of Canada's big mining companies will go bankrupt before conditions start to improve.

"I think you'll have five bankruptcies before the second quarter (of 2009) ends, and some of them will be sizable entities," predicted Andrew Martyn, a vice-president at Toronto-based investment adviser Davis-Rea Ltd.

"The metals side is just on the edge of apocalyptic. It looks horrible."

Several Canadian companies - from Vale Inco, Xstrata Canada, Rio Tinto Alcan and others - have scaled back expansions, cut jobs and shut down unprofitable mines to conserve cash and get through one of the industry's most difficult periods in decades.

There's also talk of further consolidation in the sector, especially of cash-rich companies that are prized by bigger but financially troubled suitors. But as long as credit markets remain volatile, financing any big merger or acquisition is difficult.

The past year showed how quickly a boom-and-bust industry can see its fortunes turn around. Earlier, Australian giant BHP Billiton proposed a hostile takeover of Rio Tinto that would have created the biggest miner in the world. Meanwhile, Swiss-based Xstrata planned to acquire Lonmin, a platinum producer.

In late fall, hHowever, Xstrata cancelled its Lonmin deal and BHP abandoned its $68 billion takeover of rival Rio Tinto, blaming lower commodity prices and the worldwide economic slump. Three weeks later, Rio announced it was cutting 14,000 jobs at its global operations, including scaling back projects in Canada, where it controls Alcan and Iron Ore Co.

Prices for copper, nickel and zinc soared in recent years amid skyrocketing demand from surging economies like China and India, which use the metals for steel and capital projects. But as the global financial crisis deepened through the fall, many miners took a beating on two fronts.

First, the realization that emerging economies weren't immune to the global economic slowdown sent prices plunging.

"The concept of China slowing down and having a problem with its continuous growth has been a major factor in undercutting sentiment for commodities and has kept a lot of the commodities and the corporates uneasy," explained Peter Hickson, an analyst with UBS Investment Bank.

Second, as credit markets became virtually inaccessible through September and October, many miners couldn't get the financing they needed to keep less profitable mines open and share prices were smacked down as investors bailed into safer havens.

Teck Cominco Ltd. (TSX:TCK.B), Canada's largest base metal producer, saw its share price decline from a 52-week high of $52.90 on May 21 to as low as $3.35 on Nov. 20 before it rebounded slightly.

Prices for zinc and copper, both of which Teck Cominco mines, were also down sharply in the same period. Copper prices are down to approximately US$1.50 per pound after reaching above $4 per pound in the summer, while zinc prices are approximately 50 cents US per pound after reaching above $1.20 per pound in February. Nickel is approximately US$4 per pound after hitting $15 per pound in February.

Hickson said that with prices that low, a staggering number of metal producers are no longer profitable. He estimated that between 60 and 70 per cent of zinc producers are no longer making money, while 40 to 50 per cent of nickel producers and 30 to 40 per cent of copper producers are in the same boat.

Many base metal miners - including Lundin Mining Corp. (TSX:LUN), First Nickel Inc. (TSX:FNI) and FNX Mining Co. Inc. (TSX:FNX) - responded to the slump in prices by temporarily shutting their less profitable mines, a move that some analysts say could lead to a supply shortage and a sharp rebound in prices in 2009.

"The indications are the fourth quarter (of 2008) will see a fairly dramatic cutdown," said Hickson.

"So we get into the new year and all of a sudden people start to see a modicum of improvement in demand ... and therefore you get back into the situation where the supply-demand balance is tightened again and supports conditions."

Hickson predicted both commodity and share prices will start to rebound in early 2009 but Martyn took a bleaker view.

"I think what's going to happen is some of these companies that are marginal producers will go into continuous starvation phase and finally succumb to the reality that lower prices over a long period of time will finish them off," he said, adding that base metal prices will only rebound when mines begin to close permanently.

Given this, it appears that 2009 could be a banner year for potential mergers and acquisitions in the industry as struggling companies put out feelers for buyers.

But none of the base metal companies are in a position to buy anything right now, which could mean the smaller companies will be left to die, Martyn said.

All is not doom and gloom in the mining industry, however. The one bright spot of late has been gold, which is often treated as a safe-haven investment in times of economic uncertainty.

Gold prices weren't immune to the financial crisis and experienced at times gut-wrenching volatility in the last third of the year. But they have fared relatively well compared to their base metal peers, with prices hovering between US$700 and US$800 an ounce in December after trading as high as US$1,000 an ounce earlier this year.

Gordon Miller, CEO of First Uranium Corp. (TSX:FIU), said his company's gold mines have helped protect it from the financial crisis that has hit other mining companies so hard.

Uranium, which the company also plans to produce, was hit harder by the commodity price slump - the spot price plummeted from a high of US$137 per pound in mid-2007 to as low as $44 per pound in October. However, it has rebounded slightly in recent weeks to $55 per pound.

Uranium mining is considered a relatively recession-proof venture, as nuclear plants require uranium to operate regardless of demand for electricity. The price slump is the result of a massive selloff by hedge funds looking to make some cash as markets seized up, and most analysts predict it will bounce back in 2009.

"Both (gold and uranium) have performed relatively well in the context of base metals, so from that perspective we are in a slightly better position than our colleagues in the base metal sector," Miller said in an interview.

However, Miller said it's impossible to be too careful in the current financial climate, and First Uranium has been working to reduce its production costs as much as possible.

"The ultimate hedge against ... metal price volatility is a low cost structure," he said.

But base metal prices have slumped so much that it's virtually impossible for some companies to reduce costs enough to survive at this point. And Martyn said things will get far worse before they get better.

"Get ready for lower and get ready for longer," he said. "I think we're in real deep trouble here."

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