Contributed Commentaries
M&A heats up in a deeply oversold mining sector
Kitco Commentaries | Opinions, Ideas and Markets Talk
Featuring views and opinions written by market professionals, not staff journalists.
In a sector where investor confidence is extremely low, mining companies re-kindled efforts to explore alliances and partnerships to bring promising projects online and share the risk between parties during the recently concluded in-person Colorado mining conferences.
On Tuesday, global miners Agnico Eagle Mines Ltd (AEM) and Kirkland Lake Gold (KL) announced that they have agreed on a merger of equals, with the combined company to continue under the former’s name.
According to Bloomberg, executives at Agnico Eagle and Kirkland Lake began talking more than two years ago about combining the Toronto-based miners. Upon deal completion that is expected by Q1/22, Agnico Eagle Mines’ existing shareholders will have a 54% stake in the combined company, and the remaining 46% will be held by Kirkland Lake Gold’s shareholders.
The proposed merger will benefit Agnico, providing increased diversity by adding low-cost mines, incremental production and a strengthened ability to generate free cash flow that can be used to fund growth projects located in top-tier jurisdictions. The deal will maintain the company’s strong geopolitical profile, adding Kirkland Lake's assets in Canada and Australia to its existing operating mines in Canada, Mexico and Finland.
The combination, which has been unanimously approved by the boards of both companies, is also expected to establish a new Agnico Eagle as the industry's highest-quality senior gold producer. With 2021 production of roughly 3.4 million ounces, the combined entity will become the third largest global gold miner with a market cap of roughly $24bn, boasting the lowest unit costs, highest margins, most favorable risk profile, and industry-leading best practices in key areas of environmental, social and governance (ESG). New Agnico Eagle Mines will have mineral reserve base of 48 million ounces of gold and $2.3bn of available liquidity.
While there was a rush for deals after Barrick’s September 2018 mega-merger with Randgold Resources Ltd. and Newmont Corp.’s (NEM) subsequent acquisition of Goldcorp Inc. a few months later, M&A activity slowed in the mining sector since COVID-19 restrictions has made necessary site-visits difficult to plan and execute. With companies focused on addressing immediate concerns of the pandemic, deals took a back seat.
However, as travel restrictions are being lifted and juniors de-risking high-margin projects have become much cheaper recently, I expect the Agnico/Kirkland merger to spark more M&A activity in the mining space and continue on a positive course into 2022.
During the last boom, gold companies sought to bolster reserves with annual acquisitions that peaked at US$38 billion in 2011. The average price paid per gold reserve ounce during the last peak period in the mining cycle was often more than 300 percent higher than deals executed a decade earlier.
Since the industry acquisition wave during the previous gold boom left a legacy of over $80 billon of write-downs when gold prices crashed, recent M&A activity has been driven by the need for value-added reserves during times of depressed junior stock prices. The industry has returned to fundamentals and balance sheet health, over adding ounces at any price.
Moreover, global gold miners have worked hard to win back the trust they lost during the peak of the last cycle, when numerous deals destroyed value rather than creating it. Significant wealth was destroyed subsequent to the peak of the last mining cycle, due to richly priced M&A transactions that failed to deliver. To win back investor confidence after the sector turned in 2016, global gold miners have delivered consistent shareholder returns, while improving their capital and operational discipline.
Yet beyond returning excess cash flow to shareholders, mining companies are also expected to have cohesive and compelling growth stories. With many miners issuing relatively flat future production guidance, investors have felt there is limited upside potential or opportunity for capital appreciation in the sector.
With ounces controlled by juniors currently on sale, there are significant opportunities being created in a depressed market for mining companies to transform their portfolios through acquisitions or alliances. Junior miners have driven a 43% increase in global gold exploration budgets in 2021, bringing total spend to $6.2 billion – the highest annual figure since 2013, according to data from S&P Global Market Intelligence.
Nevertheless, stung by poorly performing transactions, many investors have lost confidence in the mining sector over the past decade, despite a rising gold price. As a result, small and mid-sized juniors de-risking projects with the hope of an eventual take-over by a major, which is capital intensive, have often struggled.
While underground gold reserves held by major mining firms continue to be low and falling, new reserves are becoming increasingly harder to find as resources are used up, and exploration is costly. Major mining companies have a few ways to remedy their shortages. They must either discover new underground resources through exploration, or acquire them via the takeover of junior development companies.
After years of underinvestment during the previous bear market, global miner production profiles are under pressure which makes further M&A inevitable during the next few years. The current situation in the mining space is providing an opportunity for global mining companies to use strategic M&A to position themselves to become the clear winners during the next decade.
As opposed to a flurry of over-priced deals that took place during a major mining cycle peak in 2010-2011, the aforementioned high-profile Barrick/Randgold merger announcement in September of 2018 became the catalyst that struck a significant bottom in a deeply oversold mining complex. With the sector currently trading at similar oversold levels, we may look back on the Agnico/Kirkland deal announcement being instrumental in creating another significant bottom in the mining space.
This is a good time for resource stock speculators to take advantage of the current weakness in the mining complex to perform proper due diligence on a carefully selected watch list of quality juniors. If you require assistance in choosing a basket of M&A candidates, and would like to receive my research, newsletter, portfolio, watch list, and trade alerts, please click here for instant access.
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