March 8, 2016 by Canadian Underwriter
Financial stress among Canadian mining and metals companies drove transactions to a decade-long low in 2015 and that environment is expected to shape the sector’s merger and acquisition (M&A) activity in 2016, Ernst & Young suggests in a recent report.
Divestments are picking up pace on the back of volatility and uncertainty on the timing of a recovery, states the report, A new normal, or the bottom of the cycle? Mergers, acquisitions and capital raising in mining and metals, 2015 trends and 2016 outlook. Based on analysis of 2015 deals and capital raisings completed by Dec. 31, 2015, the report uses data primarily sourced from ThomsonONE.
“Organization of all sizes have embraced capital expenditure cuts, mothballing of loss-making operations, productivity improvement and working capital efficiency drives, states the report. “However, in this market, even these actions are not always sufficient. With internal options exhausted, management are having to make strategic decisions that have long-term implications on the future direction of the business,” including those relating to divestments, refinancing, corporate restructure and dividend cuts.
During 2015, “a high proportion of corporate credit ratings were downgraded or placed on negative watch as the rating agencies factored in increasing leverage positions and the subdued outlook for commodity price improvements,” the report notes.
“Anticipating transaction risks such as separation and regulatory and joint venture approvals becomes even more important in this market,” Bruce Sprague, EY’s Canadian mining and metals leader, says in a statement from EY issued Tuesday. “Prospective buyers are thin on the ground and they will reduce valuation, or even walk away, if these issues aren’t adequately addressed,” Sprague cautions.
2015 was the fifth consecutive year of declining deal volume and values. “This comes as no surprise given the huge uncertainty over long-term fundamentals and increasing levels of financial distress throughout the sector. However, this distress may be the precursor to recovery in deal volumes – if not value – during 2016,” the report suggests.
“Deal activity is now in its fifth consecutive year of decline across the sector, with overall volume dropping 34% to 358 deals, from 544 deals in 2014. Deal value also dropped 10% to US$40 billion, down from US$44 billion in 2014,” it points out.
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In terms of buyers, 27% of deal volume was undertaken by acquirers from outside the industry and 43% by North America-based acquirers; in terms of location, 57% of deal volume and 67% of deal value targeted assets in developed regions such as the United States, Canada and Australia, while 73% of deals targeted assets within the acquirers’ region; and in terms of what is being purchased, there was an 86% decline in the number of iron ore deals in 2015 year over year, while 29% of 2015 deal value targeted gold.
“Increasing levels of financial distress will trigger more divestments, spin-offs, joint ventures and possibly hostile takeover bids,” EY reports.
Hostile takeover bids reflect one of EY’s key transaction trends to watch for in 2016. “Ongoing price volatility could see hostile takeover bids from better-capitalized entities, but only where the takeover target operates desirable, low-cost assets in stable jurisdictions,” the company explains.
The report cautions that with a glut of assets, scarcity of capital, selective buyers and market conditions forcing accelerated sales, getting divestment processes right will be paramount to achieving a sale for even the best-quality assets.
“Gone are the megadeals with the unashamed focus on consolidating market share, “ the report emphasizes. Instead, below are key M&A trends that EY sees continuing into 2016:
“Companies can’t sit back and wait for an improvement in market conditions,” Sprague says in the EY statement. “Many are already being forced to downsize portfolios, and be pragmatic on valuation, which, in turn, is spurring deal some new activity,” he comments.