Tom Archer • 15th March 2018
Is a ‘resources boom’ around the corner? Healthy balance sheets, high
commodity prices and hospitable equity markets have sparked hopes that the
sector is about to experience a huge upturn.
At what point does
a recovery become a resurgence?
We’ve seen
the mining sector make a steady recovery in the last three years. Companies
survived the recent slump by spending cautiously, with the result that they
begin 2018 with reduced debt, record dividends and substantial cash reserves.
“Anglo
[American] is set to make its first annual dividend since 2015. Rio Tinto … is
forecast to make its highest ever full-year dividend and buy back $1.9 billion
of stock. Even Glencore, which usually favours deals over dividends, in
December promised to double its payout this year. Still, even after those
distributions to shareholders, the industry will have $80 billion in excess
cash over the next three years, according to Macquarie Group Ltd.” Bloomberg
[i]
One might
think that the sector’s renewed vigour would have heralded a resumption of
spending. But this has not yet occurred. Not wanting to repeat their past
mistakes of borrowing and over-investing, the majors have remained reluctant to
funnel their cash into new projects.
“Mining
companies have spent the past few years retrenching and getting their financial
houses in better order, rather than spending on development and exploration.”
Brian Milner, Special to the Globe and Mail [ii]
“No
one wants any new mines, but you have to use this money for something, and it’s
not all going as dividends.” Ben Davis, Analyst at Liberum Capital Markets (via
Bloomberg) [iii]
Despite
this reluctance by the majors, the sector is still gathering momentum, as
investors are comfortable to return to a more disciplined industry.
“The
rising number of exploration projects, equity and debt financing, and mergers
and acquisitions indicates a renewed confidence in the sector, while an overall
more cautious approach to spending cash suggests a more disciplined industry
than before the downturn.” PwC: Junior Mine 2017 [iv]
Junior
explorers and developers, no longer struggling to raise capital, have been able
to finance and advance projects once again and present the majors with viable
ways they might responsibly utilise their cash reserves.
“There
will be a lot of mergers in the next 12 to 24 months. The market is pretty
desperate for new exploration. That will change the strategies of the majors.
They are struggling because they have to buy in, do joint ventures and have a
look at companies at a way earlier stage.” Tobias Tretter, MD of Zurich-based
Commodity Capital AG [v]
Battery metals leading the charge
The area
that has gathered the most investor attention in 2016-17 has been battery
metals (copper, nickel, lithium, zinc, cobalt), as companies seek to take
advantage of high commodity prices and hurry to anticipate the market
penetration of electric vehicles (EVs).
“The quest for capital is being fuelled in
part by a strong recovery in base metals such as copper, zinc, cobalt and
lithium. The sales pitch centres on demand for electric vehicles, whose
batteries are made with the latter two metals.” Brian Milner, Special to the
Globe and Mail [vii]
Cobalt in
particular has received the greatest hype. It is a key ingredient in the
current design of Lithium-ion batteries (the type used in EVs), but current
supply mainly originates in the Democratic Republic of the Congo, a very
unstable jurisdiction. This has opened up an opportunity to find diverse
sources of Cobalt while global demand remains ahead of supply.
“Because
cobalt is a by-product of copper and nickel [mining], these higher prices don’t
tend to stimulate new supply like other markets would. And so there isn’t
necessarily groups that are going out or majors that are going out and looking
to build out their projects based on cobalt alone. […] So this gives an
opportunity for the junior market to go out and discover some of these projects
and advance some of these cobalt-rich deposits.” Mitchell Smith, President and
CEO of Global Energy Metals Corp [viii]
But as ever
the usual caveats should be borne in mind. With literally hundreds of battery
metal focused juniors vying for assets, not all can be winners.
“With
the number of cobalt miner ‘wannabees’ on the ASX approaching 100, not all
these bees attracted to the cobalt ‘honey pot’ are equal, and many will fall by
the wayside.” Bob Kohut, www.thebull.com.au [ix]
Any future ‘boom’ will be vastly different to
previous years
External
market trends and the tighter spending habits of the majors have changed the
landscape for the entire sector, as outsiders such as car and technology companies
are increasingly cutting out the middle men and making supply deals directly
with mining companies.
“In
2015, Tesla signed early stage agreements with junior mining companies to
supply their new ‘gigafactory’ in Nevada with lithium.” PwC Future of Mining
[x]
BMW
is seeking to secure their supply of cobalt and lithium for EV batteries: “The
aim is to secure the supply all the way down to the level of the mine, for 10
years. The contracts are ready to be signed.” Markus Duesmann, BMW’s head of supply
chain [xi]
“Apple
Inc. is in talks to buy long-term supplies of cobalt directly from miners for
the first time.” Bloomberg [xii]
The appeal
of this strategy is clear for EV companies whose audience is
environmentally-conscious consumers. But more broadly, the pressure to have a
transparent supply chain and to avoid supporting unpopular regimes (e.g. the
DRC) could mean that other technology companies follow suit.
“In
this future, big brand technology businesses acquire diversified mining
portfolios to deliver on a brand promise that the minerals that go into their
products are produced in the most responsible way.” PwC Future of Mining [xiii]
Importantly,
technology is changing the sector in ways beyond setting new commodity trends.
The recent rise of blockchain could revolutionise how commodities and assets
are traded, affecting in turn the way mining companies seek to generate value
and market interest.
“In
this future […] Fintech companies use blockchain technology to create
marketable parcels in mineral reserves and mining outputs that are measured in
kilograms rather than tons and contracted years in advance of actual
production. Mining assets change hands faster than ever imagined. Some precious
ore bodies are kept in the ground, never mined but still traded, effectively
securitizing reserves.” PwC Future of Mining [xiv]
Our View
Renewed
potential in the mining sector could trigger a resurgence in 2018. How
will the old guard adapt to the challenge of outsiders entering the sector, who
will come out on top, and how can junior companies make the most of the new
landscape?
SI
Capital believes the sector currently sits in a unique position and we see an
opportunity for investors to take advantage of low valuations.
Sources:
[i] Thomas Biesheuvel and Thomas Wilson,
Bloomberg.com, 5th February 2018, Pile-of-Cash Dilemma for
Mining Industry Once Crippled by Slump
[ii] Brian Milner, Special to The Globe And
Mail, 27th February 2018, Revived mining industry attracts ‘smart
money’
[iii] Thomas Biesheuvel and Thomas Wilson,
Bloomberg.com, 5th February 2018, Pile-of-Cash Dilemma for
Mining Industry Once Crippled by Slump
[iv] PwC Canada, PwC Junior Mine
2017: Confidence Rekindled
[v] Susanne Barton, Bloomberg.com, 29th
December 2017, Year’s Best Commodities Fund Is Betting on 2018 Mining
M&A
[vi] Graphic from FT, Neil Hume and Henry
Sanderson, 21st December 2017, What to watch in metals
market in 2018
[vii] Brian Milner, Special to The Globe And
Mail, 27th February 2018, Revived mining industry attracts
‘smart money’
[viii] MidasLetter Podcast: Global Energy
Metals Corp. CEO Mitchell Smith on the Cobalt Demand Curve, 1st
March 2018
[ix] Bob Kohut, The Bull, 5th
February 2018, Newcomers cashing in on the cobalt boom
[x] PwC Canada, We need to talk
About the future of mining
[xi] Fred Lambert, electrek.co, 12th February
2018, BMW is trying to secure a 10-year supply of cobalt and lithium
for EV batteries
[xii] Jack Farchy and Mark Gurman,
Bloomberg.com, 21st February 2018, Apple in Talks to Buy Cobalt
Directly From Miners
[xiii] PwC Canada, We need to talk About
the future of mining
[xiv] PwC Canada, We need to talk About
the future of mining
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