Financial distress among mining and metals companies will shape merger and acquisition (M&A) activity in the sector in 2016, with divestments expected to pick up pace on the back of volatility and uncertainty on the timing of a recovery, according to a new EY report released today.

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, notes that after the fifth consecutive year of declining deal volume and values, increasing levels of financial distress will trigger more divestments, spin-offs, joint ventures and possibly hostile takeover bids.

The report warns 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.

“A company’s positioning on the cost curve is critical in the current market conditions, so presenting robust information to potential buyers is pivotal in order to provide confidence that cost reduction and productivity measures are sustainable," says Wickus Botha, EY Africa mining and metals sector leader.

“Similarly, anticipating transaction risks such as separation and regulatory and joint venture approvals take on greater importance in this market. Prospective buyers are thin on the ground and they will reduce valuation, or even walk away, if these issues aren’t adequately addressed.”

Overall mining and metals deal volume globally in 2015 sank to the lowest level since at least 2000, with just 358 deals completed. Excluding the US$8.7bn BHP Billiton demerger of South32, overall deal value globally dropped to $40bn, with a strong bias to domestic deals and assets in developed markets. Africa-focused deals saw a drop of 56% with 26 deals completed, and overall deal value dropping by 52% at $1.6bn.

Botha says: “Perhaps the greatest concern within the industry is that nobody is sure how long the current downturn is going to persist, and companies cannot sit back and wait for an improvement in market conditions. This is forcing many corporates to downsize portfolios, and be pragmatic on valuation, which in turn will create deal activity.”

Key transaction trends expected in 2016:

More deals will be completed by private capital, but only the best assets will attract their focus and pricing will remain disciplined.
Deferred consideration will grow in popularity due to limited buyers and extreme price uncertainty.
Spin-offs as a means to package and divest assets have increasingly been featured in boardroom discussions and will remain high on the strategic agenda, but the level of working capital required will see few actually completed.
Increasingly, mergers and joint ventures will be pursued, with the key focus on de-risking and preserving capital. The necessity to de-risk and preserve capital will drive deals to completion.
Ongoing price volatility could see hostile takeover bids from better capitalised entities, but only where the takeover target operates desirable, low-cost assets in stable jurisdictions.

“It’s likely there will be increased ownership changes across the sector in 2016, with new players taking on positions and larger players downsizing portfolios. Due to the current market conditions, we could start to see an increase in financial backing by potential investors in junior miners. This would afford them to enhance and build their portfolios,” notes Botha.

Distress and divestments to dominate mining…