Takeover bids for Warrnambool Cheese & Butter and Commonwealth Property Office Fund have hogged recent headlines. Less considered have been a few resource deals, and whether a rush of mergers and acquisitions (M&A) activity among junior miners is imminent.
Portfolio investors, of course, should never buy stocks on the basis of a takeover alone. Newspaper stories about “10 takeover targets” make interesting reading, but the great challenge is spotting high-quality companies trading below their intrinsic value. Any takeover is a bonus.
It’s a different story for speculators. After being pummelled in the first half of 2012, some higher-quality junior miners looked cheap. But low takeover activity reflected incredible uncertainty in boardrooms about global economic growth and commodity prices.
That could be changing. Centamin snapped up Ampella Mining, once a star gold explorer in West Africa, in December, and China’s Kingho Energy Group made a takeover bid for Queensland-based coal explorer Carrabella Resources, recommended by the board at 45.5 cents a share.
Ampella and Carabella both had a large resource base in their respective commodities, and a slumping share price. Each stock almost doubled on the takeover news, off a low base, showing how speculators with an eye for value – and potential M&A – can make fast gains.
Expect a sharp increase in M&A activity among junior miners in 2014. Boards will feel more confident to snap up undervalued explorers given signs of improving global economic growth and expectations that commodity prices will have a better year after three years of underperformance.
Moreover, junior miners with dwindling cash reserves, and few capital-raising options, will be forced to find a saviour, through friendly mergers, or succumb to hostile takeovers. An Ernst & Young report last year, Business risks facing mining and metals 2013-2014, found capital allocation and access to capital was now the top risk for minerals companies globally, up from number eight in the 2012 survey. Securing equity capital is a critical board concern.
The report found companies with a market value of less than US$2 million – about 20 per cent of listed mining companies across the main sharemarket exchanges for junior explorers – had on average less than $1 million in cash at December 31, 2012. Many of these explorers went into shutdown mode in 2013 to preserve that cash, but that style of operation cannot last forever.
In a September 2013 report, PwC said: “Junior mining companies will continue to face difficulty raising money in this environment, which is expected to trigger takeover activity (in 2013) and into 2014. A sale to a larger player or a merger with another junior/mid-tier miner may be the only options for juniors to generate some shareholder value or even avoid financial collapse.”
Cannacord Genuity, a good judge of mining stocks, wrote last week: “Can we expect an escalation of corporate activity elsewhere in the gold sector? Probably. There will have been many discussions going on during the course of 2013. Companies that were resisting deals in the hope that a recovery in the gold price would save them will obviously be feeling increasingly nervous, as equity markets have abandoned the sector.”
Cannacord added: Once the first deal kicks off, more are bound to follow. Value-seeking investors should be out there taking a view, getting set, and waiting for the next deal.”
Takeover bids for Ampella and Carabella do not surprise. Many West African gold stocks are being priced on extraordinarily low enterprise value multiples relative to their JORC-resource, given market concerns about sovereign risk and fears of an even lower gold price in 2014.
Perseus Mining, once the doyen of Australian gold stocks in West Africa, has fallen from a 52-week high of $2.14 to 36.5 cents. Macquarie Equities Research and other top brokers had buy recommendations on Perseus at prices above $1, but nobody seemingly wants to know the stock now. That’s often the time when a suitor launches a takeover bid, especially if the gold price can stabilise the market become more confident the worst is over for precious metals.
Gryphon Minerals is another out-of-favour West African gold explorer. It is stgeloping the 4.9 million ounce Banfora gold project and had $52 million in cash and ASX-listed shares at October 2013. Gryphon has slumped from a 52-week high of 61 cents to 20 cents, for an $80-million market capitalisation.
Rationalisation of West African gold explorers – and junior gold explorers in Australia, for that matter – makes a lot of sense. The same could be said of Queensland coal explorers, which, like West African gold explorers, were once stars. Coal, too, is out of favour and many junior coal explorers, at their lows, were being priced like nobody wanted them – Carabella’s takeover approach is a case in point.
Stanmore Coal stood out as one of the better-run junior coal explorers when it listed in late 2009. At one stage, its 20-cent issued shares traded well above $1, and now trade a 17.5 cents, for a $36 million market capitalisation. Stanmore had almost $20 million in cash at the end of September.
Somebody is going to take over these and other higher-quality coal companies if their share prices continue to fall, despite a slow expected recovery in the coking-coal price. Long-life coking-coal assets in Queensland’s Bowen Basin, a premier coal basin were in huge demand a few years ago, but now sell at a fraction of peak prices. That will surely attract cashed-up offshore predators that can hold these assets for several years.
As always, small and mid-cap mining stocks, especially those with low share liquidity, suit experienced speculators comfortable with higher risk.
Tony Featherstone is a former managing editor of BRW and Shares magazines. The column does not imply any stock recommendations. Readers should do further research of their own or talk to their adviser before acting on themes in this article. All prices and analysis at January 6, 2014.