Conditions ripe for an increase in M&A activity in Australian mining

Consolidation in Australian mining has been subdued in recent years, but market conditions may have now reached a point where a revival in mergers and acquisitions (M&A) activity is set to emerge.

Last year there was a 25 per cent increase in the number of mining deals that were announced, research by Herbert Smith Freehills found.

Key deals that were announced included South32’s acquisition of Metropolitan coal in New South Wales from Peabody Energy (which has since been abandoned), and EMR Capital’s purchase of the Golden Grove zinc-copper mine in Western Australia from China’s MMG.

However, the value of the reported M&A deals was lower than 2015 by a third.

The volatile state of commodity prices over the past year, including for metallurgical and thermal coal, and iron ore, is viewed as a key reason for the continued lull in the M&A marketplace.

But with the value of these bulk commodities rallying in the second half of 2016, it has created a positive outlook that the industry has not seen for several years.

The rapid rise in the value of metallurgical coal in the second half of 2016 was the leading example of this surge, with prices more than tripling to $US300 a tonne at one point, before falling back to below $US200 in January 2017.

Herbert Smith Freehills partner Jay Leary said the market volatility made it difficult for deals to be executed in the second half of 2016, but with commodity prices improving and more positive sentiment appearing it could lead to an increase in M&A activity.

“With such a volatile market, it is difficult, particularly for listed entities to sell or buy in that environment,” Leary told Australian Mining.

“The price of commodities like iron ore and metallurgical coal will be a bit more stable this year. There will be some volatility, but I think there is a floor in the market now, and also a noticeable change in confidence around the sector, whether you are in gold, copper, iron ore or mineral sands.

“There is opportunity out there. That confidence I think will drive more transactions but fundamentally I think there is going to be a greater ability to set a price on a transaction.”

In addition to the rally in commodity prices, lower production costs and the Australian dollar have also increased confidence in the mining sector, according to Herbert Smith Freehills.

With mining companies achieving significant cost and debt reductions, as well as improved profitability, the company noted it would provide an opportunity for them to refocus on growth plans.

However, Leary believes that M&A in 2017 will also continue to be driven in part by the divestment programs of major companies, such as Rio Tinto, as these initiatives address long-term strategic goals of streamlining and allowing re-generation of asset portfolios.

One major deal proposed so far this year is Rio Tinto’s plans to sell its Hunter Valley thermal coal subsidiary Coal & Allied to China’s Yancoal for $US2.45 billion ($3.23 billion).

Rio Tinto described the proposed deal as another step in the company’s strategy to reshape its asset portfolio. The company has announced or completed at least $US7.7 billion of divestments since 2013.

“I don’t think Rio Tinto has finished their sale project yet,” Leary said. “I think it is also possible that Anglo American will look at selling some of their assets – there will be some refinement of their portfolio.”

Coal – both thermal at metallurgical – are regarded by Herbert Smith Freehills as the commodities to watch in the M&A space.

Leary believes metallurgical coal will be the most likely of the pair to feature in transactions, while M&A opportunities in iron ore will remain limited as the sector is already consolidated and quality assets are unlikely to be put up for sale.

He added gold and copper to the list of commodities where there would likely be activity.

“The whole of the mid-tier coal, gold and copper will be the changing face of the mining industry,” Leary said.

“If we move forward two years I expect there will be some decent sized mid-tier mining companies that have close to a global presence. The mid tiers are likely to be more aggressive in their risk profile.

“It is an exciting time for the industry – a real period of transition. I don’t mean it’s boom time – not at all – but I think it is a period of more than optimisation…there will absolutely be growth in it and it will be really successful for some companies.”

Collaborative transactions may also be a key strategy behind upcoming deals, with Herbert Smith Freehills predicting that joint ventures involving arrangements relating to specific aspects of mining operations, such as infrastructure or marketing and blending, are likely.

“Something I see as a real possibility is joint ventures between companies at different parts of the supply chain,” Leary explained.

“It is possible we will see a company that provides transportation of bulk commodities entering into a joint venture agreement with a mining company.”

The company expects to see innovative deal structures employed to bridge the price expectation gap between buyers and sellers.

This article also appears in the May edition of Australian Mining.