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First Quantum’s successful campaign to win over Inmet’s shareholders could be a sign that smaller mining companies may be starting to recognize the benefits of being part of a bigger group.
After resisting for months, on Monday, Inmet Mining’s (TSX:IMN) board recommended that shareholders accept First Quantum Minerals’ (TSX:FM) $72-per-share offer. The recommendation followed First Quantum’s announcement last week that 85.5 percent of Inmet’s shares had already been tendered. The acquisition, while an outlier in terms of size, could be a harbinger of increased deal activity among miners trying to control costs and bring new projects online amid difficult funding conditions.
First Quantum dismisses concerns
First Quantum’s Inmet acquisition was the second-largest mining deal announced in 2012, behind Glencore International’s (LSE:GLEN) acquisition of Xstrata (LSE:XTA), and it has raised concerns that the company has bitten off more than it can chew.
The company has rationalized the acquisition by stating that following a “comprehensive review” of publicly available information, it should be able to substantially improve the execution and operation of Inmet’s Cobre Panama copper project, which is considered the second-largest undeveloped copper deposit in the world. In May last year, Inmet raised the estimated cost of the project to $6.2 billion from the March 2010 estimate of $4.3 billion.
First Quantum has noted that its project costs are “well below industry norms.” Specifically, it has compared Cobre Panama to its own Sentinel copper project in Zambia, which is expected to produce slightly less copper, but will cost about a third to bring into production.
Inmet has already contracted out $4.1 billion of the costs associated with Cobre Panama, but First Quantum’s president, Clive Newall, has dismissed concerns that existing contracts may have locked in high costs, according to Reuters. However, Newall noted that it could be “several months” before the company can publish specific targets and its own plan for the mine.
Time will tell if First Quantum can put its cost-efficient fingerprints on Cobre Panama. Regardless, the acquisition will catapult the company into the league of larger copper producers, such as Teck Resources (NYSE:TCK,TSX:TCM.B), Antofagasta (LSE:ANTO), Southern Copper (NYSE:SCCO) and Freeport-McMoRan Copper & Gold (NYSE:FCX). It will be the fifth-largest copper producer in the world, with an estimated output of 1.3 million tons of copper per year by 2018.
An outlier acquisition?
Acquisitions like First Quantum’s are not currently the norm: according to Pricewaterhouse Coopers’ (PWc) Global Mining Deals report from earlier this month, 2012 saw the lowest number of mining transactions since 2005, in part because major miners are putting projects on hold to control costs.
“It’s an unusual time for the mining industry,” Teck Resources’ CEO, Don Lindsay, told PWC. “It’s challenging to get projects built because of issues with permitting and concerns in the market around rising costs. At the same time it is challenging to buy existing assets as the market is concerned about over-paying.”
For example, PWC notes that large companies such as Rio Tinto (LSE:RIO,ASX:RIO,NYSE:RIO), Anglo American (LSE:AAL), Barrick Gold (TSX:ABX,NYSE:ABX) and Kinross Gold (NYSE:KGC,TSX:K) have all had to take multi-billion dollar write-downs of acquisitions they made in the past. Junior miners, who are struggling to raise funds, are reluctant to sell to rivals at depressed stock prices.
However, project delays — such as those affecting BHP Billiton’s (ASX:BHP,NYSE:BHP,LSE:BLT) $20-billion Olympic Dam copper-uranium project — along with declining ore grades, may result in a supply shortage in the longer term, making the case for acquiring near-term production projects.
That means deal making could be poised to make a comeback. In fact, such activity is anticipated to be “way more than mildly interesting” in 2013, although “mega-mergers will be placed on the shelf while executives seek to prove they are being prudent,” PWC said.
The consulting firm predicts that 2013 will be characterized by senior miners looking to divest non-core assets and reduce the risk on projects by entering into joint ventures. Middle-sized companies may be able to make strategic “tuck-in” acquisitions of juniors, while junior miners may find opportunities for value creation in combining their forces.
More smaller deals a boon for investors?
If the number of smaller-sized deals increases, that could translate into a financial windfall for investors, Seeking Alpha contributor Leia Toovey said earlier this month. Indeed, the price of Inmet stock hadn’t exceeded $72 per share since April 2011, and First Quantum’s offer was 33 percent higher than Inmet’s closing price on November 23, the day before First Quantum made the bid.
“It takes such a long time to find something, then permit it, then build it, then ramp it up and it’s still much cheaper to buy existing production rather than try to build it,” Toovey noted.
One company that may follow this logic is Chile’s Antofagasta. In a recent interview, CFO Alejandro Rivera told Dow Jones Newswires that the company could spend up to $10 billion on acquisitions, and said that it is looking for copper-producing assets or projects that are under development, foregoing its previous strategy of acquiring early stage exploration assets. Rivera noted that copper disposals remain scarce due to constrained supply and strong demand outlook and said that the company is interested in projects in “stable regions,” such as North America, Australia and some parts of Africa.
And, like Rivera, Toovey said that “good acquisition targets” are companies that own near-term production projects and are located in geopolitically stable regions. She named three companies that may be prime targets: Capstone Mining (TSX:CS), with two producing copper mines, cash on hand and no long-term debt; Mercator Minerals (TSX:ML), which is trading near a 52-week low, and in which Nevada Copper (TSX:NCU) bought a 17.8-percent stake last year; and Copper Mountain Mining (TSX:CUM), with a fully operational mine in British Columbia and a gross profit in 2012.
Securities Disclosure: I, Ragnhild Kjetland, hold no investment interest in any company mentioned in this article.
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