Canadian Treasurer

September 7, 2011

Blistering pace of mining M&A grinds to a half; slowdown likely temporary

TORONTO---Signs point to a slowdown in global mining mergers and acquisitions (M&A) in the second half of 2011 after a strong start to the year. Deal values and volumes have already decreased by 32 percent and 19 percent month over month in July and a further 25 percent and 7 percent respectively in August, according to PwC's new  Mining Deals  report released today. On aggregate, deal values and volumes have declined by 49 percent and 25 percent over the last two months.

In the first half (1H) 2011, there were 1,379 deals announced worth US$71 billion, making it the busiest half year of M&A in the mining sector's history. On an annualized basis, deal volumes and aggregate values were 24 percent and 2 percent higher than 2010, and 122 percent and 32 percent higher than 2009. Average deal values during 1H 2011 were   $104 million—40 percent higher than 2010. For the remainder of 2011, however, jittery global equity markets will likely put downward pressure on most mining company valuations for the near term.

"For the time being, politics have taken commodity markets hostage. Although a drop off in deal-making is expected, it will not cease altogether as China's demand for metals continues to drive long-term fundamentals in the mining M&A market," says John Nyholt, National Leader of Transaction Services, PwC.

PwC doesn't believe this is the end of an era of unprecedented global mining M&A. Chinese demand supported by other emerging nations, is the most critical factor in formulating the commodity market and, therefore, mining M&A expectations. "While Western world financial commentators operate on three-month forecasts, the Chinese are operating on longer term plans, making this blip largely irrelevant in the grand scheme of things," adds Nyholt.

Quiet on the Canadian front
Despite record overall activity during 1H 2011, the usual deal-makers from Canada, Australia and the UK were quiet. PwC did observe, however, a flurry of activity led by US buyers, especially in the coal sector. In 1H 2011, US entities overtook Canadian entities as the most acquisitive buyers with 31 percent market share by value in announced acquisitions. With 19 percent market share by value, Canada  was bumped to second place, while typically acquisitive   Australia  stood at only 4 percent.

Steelmaking ingredients dominate
Steelmaking ingredients metallurgical coal, iron ore and niobium dominated deal making activity during 1H 2011 with over 30 percent of activity. Coal surpassed gold as the most targeted resource by aggregate deal value as companies sought to consolidate their resources to increase exposure to the raw material needs of the emerging markets. Mining companies are also increasing deal-making outside of the mining sector. As such, complementary sectors including extractive industries like natural gas, which is required for functioning mining operations, will likely be targets for M&A. A key threat for western buyers in closing deals, however, stems from increasing shareholder and board pressure to deploy capital into organic growth or share repurchases and dividends.

China   quiet in 2011, but poised to capitalize on opportunistic downturn
In 1H 2011, Chinese entities announced 75 acquisitions worth US$4.7 billion (excluding cancelled and withdrawn deals), a decrease of 18 percent over the prior year. When active, Chinese entities stayed close to home with 68 percent of acquisition targets headquartered in   Asia/Pacific  emerging markets. Lacklustre Chinese buy-side volumes were not for lack of desire as evidenced by two notable takeover attempts of Australia's Equinox Minerals and Whitehaven Coal that both failed on valuation grounds.

" China  walking away from two potentially iconic transactions due to valuation concerns was rather symbolic and further dispels the notion that Chinese entities operate in favour of securing supply at any price," says Nyholt. "We witnessed many instances of Chinese entities managing for profit, not supply, through 2011. Going forward, we expect that political and economic forces within   China  will incite continued discipline in buy-side M&A activity."

Caution, however, does not amount to a sharp decline in China-led M&A activity. China  is expected to continue acquiring gold and other precious metals, as well as quality industrial resource assets like iron ore, metallurgical coal, fertilizer minerals and base metals. PwC also anticipates China  will continue to focus on frontier markets, such as Mongolia  and Africa, and further consolidate its fragmented domestic mining sector.

"Chinese buyers have been quietly amassing minority positions in many companies and they are now going to start exercising their influence, especially if there is an opportunistic downturn," says Nyholt.

In fact, PwC views Chinese ownership interests as an emerging deal hurdle for takeovers as minority shareholders exert their rights. This is a natural by-product of a decade long trend of joint-venture and/or minority position financing deals structured to ensure supply of key commodities for steelmakers and state-owned enterprises. There have been two instances of such resistance this year. In December 2009, Rio Tinto announced a US$3.8 billion takeover of Riversdale Mining. The transaction was only recently closed because steelmaker shareholders, Tata Steel and CSN (together 47 percent of the register), were keen to retain their position to ensure security of supply from Riversdale's Zambeze coal project. Peabody Energy is also currently experiencing pushback from shareholders China's Citic Resources and Korea's Posco (together 30 percent of the register) in its bid for Macarthur Coal.



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