The mining industry in Australia in 2015 is likely to be marked by divestment programs, force asset sales and a pick-up in the pace of private capital investment.
The bottom of the cycle is often when longer-term value is created, according to Paul Murphy, EY Australia and Asia Pacific Mining and Metals Transactions Leader.
His comment follows the release of EY’s report, Mergers, acquisitions and capital raising in mining and metals, 2014 trends, 2015 outlook.
Deal volume in the Australian mining and metals sector declined for the fourth consecutive year to 144 deals in 2014, down from 178 in 2013 and the lowest since 2003.
Overall deal value in the Australian sector also reached a 10-year low of $US4.7 billion in 2014, down from $US5.5 billion in 2013 and the lowest since 2004.
Global deal volumes and value also hit 10-year lows in 2014, with 544 deals and overall deal value of $US44.6 billion.
Murphy says standing still is not an option for the sector.
“We expect to see mining companies continuing to review their portfolios and capital allocation with regard to growth options,” he says.
“As the sector enters the latter stages of a global supply rebalancing and new mining industry participants jockey to stake their position, companies are juggling shorter term financial performance with longer term value drivers to take the necessary capital decisions to optimise value creation.”
Murphy says the current sector focus on return on capital employed lends itself to short-term decision making.
“But given the cyclical characteristics of the sector and the need to invest significant capital many years ahead of production and earnings, a longer term perspective must be overlaid,” he says.
“Following the cost reduction programs, internal capital allocation and productivity measures of the past few years, the really successful management teams will be those that have a broader focus on total shareholder return and take the necessary capital decisions today to support long term value creation.”
EY established three groups of companies, according to their relative spend on “buy” (acquisitions), ”build” (capex and exploration) and ”return” (share buybacks and dividends, less equity issues) as a proportion of market value.
EY analysis of capital allocation trends of 30 of the largest listed mining companies globally between period 2003-2013, showed a clear underperformance by those companies which invested primarily in a “build” strategy over the time period, while “returners” outperformed, with “acquirers” not far behind.
“Acquisition options have often been taken off the table because of the significant impairments that have followed deals in recent years, and the stigma attached as a result,” says Murphy.
“This overlooks the huge returns that some acquisitions created earlier in the cycle, and the short payback that a deal, if executed well, may generate overall compared to investing in a portfolio asset. Given the sector is now back to the lowly M&A levels of 10 years ago, the question is when to move, as the rule of thumb tells us that the early movers will create the most value.”