Hugh Cameron, PWC African Mining Leader
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Low debt in mining firms could lure private equity
Allan Seccombe
Posted: Wed, 20 Jun 2007

[miningmx.com] -- THE world’s top 40 mining companies have the financial capacity to continue the trend of acquisitions in a buoyant global commodity market but their low debt levels could attract private equity predators, PricewaterhouseCoopers (PWC) said in its 2007 mining industry review.

Private equity groups could find enough comfort in the sustained strong demand for minerals continues in China and elsewhere to take a gamble on the commodity cycle not turning down any time soon.

The top 40 companies measured by market capitalisation had, by the end of 2006, gearing of 15.2%, which is a measurement of a company’s net debt divided by equity, and cash of $43.5bn, up from $30bn at the end of 2005.
They've never really tried it before
“What will these companies do with this cash? Are there going to be cash deals in the year ahead? How long are shareholders going to be happy to sit on these levels of cash?” Hein Boegman, a PWC director, told a media briefing in Johannesburg.

The companies returned $26bn to shareholders in 2006.

Net profit for the companies has increased by a factor of 15 times over the past five years to $67bn against a revenue increase to 2.6 times over the same period to $249bn.

“We are seeing a linear growth in net profit that we’ve not seen in this industry for many, many years,” Boegman said.

The low level of gearing could attract cash-flush private equity players to the sector, possibly during this year, despite the difficulties, exploration risk and high degree of specialisation large mining companies need to realise value.

An estimated $500bn a year is invested with private equity funds and new destinations for this flood of capital will have to be found. The mining sector is a likely and ripe target.

Hugh Cameron, PWC’s global mining leader, said the entrance of private equity was not guaranteed.

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“They are nervous of mining because of the cyclical nature of the sector and prices have run very hard, they might have missed the boat,” he said. Private equity deals incur higher levels of debt in takeover targets, which might not be sustainable if the commodity cycle turns down.

However, he pointed out: “The sum of the parts is bigger than the market capitalisation of these companies.”

Breaking up big companies like BHP Billiton, Anglo American or Rio Tinto would result in other large companies growing even bigger because they would be virtually the only ones able to afford to buy the assets. There would almost certainly be international competition board opposition to such developments, he said.

“We just don’t know what a private equity player would do with a large mining company. They’ve never really tried it before. We just have to wait and see,” Cameron said.

Operating expenses ballooned by 23% to $141bn in 2006, raising concerns about the fixed nature of these costs and what impact it could have on the sector when commodity prices turn south. “The ability of mining companies to take out expenses in a lower price environment will be severely tested,” said Boegman.