The law of unintended consequences is always worthy of consideration when market disruption of one form or other enters the fray. Looking at this year’s minerals sector landscape, the new-found austerity and cost-focus rhetoric emanating from the major miners is one such ‘market disruption’ that looks certain to play out in future. The majors are determined to lift margins and shareholder returns. In the absence of commodity price increases, this translates to a search for operating cost efficiencies accompanied by major capital project deferrals.
The intended winners from this renewed capital-efficiency drive are the respective shareholders of the likes of Barrick Gold, BHP Billiton and Rio Tinto.But the benefits from heightened capital discipline and project restraint could spread far wider than just the bottom line of the majors themselves. Arguably, the majors may even shift the leverage in the industry away from themselves towards their smaller counterparts. How is this so?
The first element is that a pull-back in the advancement of large new projects by the majors could open the door for smaller miners. How exactly?
The removal of a potential ‘supply wave’ originating from the majors into commodity markets as projects are deferred is good for commodity prices (while in the process further strengthening the balance sheets of majors themselves of course as supply tightens). The former point is critical. Using copper as an example, surplus markets are already being forecast from 2014 – even with a number of major copper projects having already been held back. Projects held by majors comprise over half of the project pipeline in tonnage terms across copper – so any hesitation when it comes to future development timelines by the larger supply-side players is significant. Delays will nudge price expectations higher – making the financing of those projects held by companies willing to proceed easier.
Next, the project capital markets, including debt capacity, that would have potentially formed a part in facilitating large projects held by the majors now becomes available elsewhere - with the rider of course that the next tier of projects (those not held by the majors) must be bankable.
Who stands to gain? The smaller players once again.
Finally, the EPCM “A-Teams” become more available too – so delivery risk is lessened – as is the likelihood of capital cost overrun when the project development market loses heat.
All the above plays into the hands of smaller miners, being those seeking to develop projects of significant scale - but not quite of the scale of Tier 1 mega-projects. In the copper space this equates to projects in the 50,000 tonne per annum to 150,000tpa range – where the output is material on a global scale – but with a capital price-tag not beyond a well-supported mid-tier miner. Such projects are very significant to the next tier of miners and, once established, could also appeal to majors in the fullness of time.
So the likes of PanAust, Sandfire Resources and OZ Minerals may be given a clear line of sight to grow, free from the attention of the majors in an M&A context, to develop new projects. Smart boutique fund money is already placing bets on those development projects which they believe to be among the better assets held by emerging miners.
Eventually the capital restraint will abate – and the coast clears for the majors to once again indulge in incremental M&A mopping up the better-placed of the mid-tiers. Majors can afford to wait and see who does well, and who stumbles, and the whole cycle starts over again.
How long will this process take? Your scribe’s guestimate is about five years – being the typical tenure for a major company MD. The clock has just started ticking.
The opportunity to become a true mid-tier is there. Will anyone take it?
Good Hunting
Allan Trench is a professor at Curtin Graduate School of Business and professor (value & risk) at the Centre for Exploration Targeting, University of Western Australia, a non-executive director of several resource sector companies - and the Perth representative for CRU Strategies, a division of independent metals and mining advisory CRU group (allan.trench@crugroup.com).
