The West and The Rest: Risk & Reward Reassessed

5 March 2012

• 2011 was the second busiest year in mining M&A activity in history
• China claims almost half 2011's M&A activity in emerging markets
• Africa to confirm position as a new global hot spot
• Emerging markets to drive world demand in M&A in 2012

Can the West keep up with the rest?

More than 2600 deals worth $149 billion in 2011 overcame economic weakness, falling commodity prices and declining share prices to make the year the second busiest in history. Volumes were close to historic highs and values were up 33 per cent on 2010 - almost double the year before - according to PwC's Global Mining 2011 Deals Review & 2012 Outlook: On the Road Again?

Penetration in growth markets - which includes Africa, Latin America and parts of Asia - has jumped from less than 1 per cent at the start of the millennium to now account for almost a quarter of acquisitions in value, and almost one in five in volume.

PwC's Energy, Utilities and Mining leader, Jock O'Callaghan said growth markets were increasingly the force to be reckoned with in global mining. In addition to housing most of the world's population - a key driver of future resources demand - growth markets also boast roughly 75 per cent of the world's known reserves. This includes the vast bulk of the world's crude iron ore, gold and copper reserves.

Yet companies in developed western economies are opting for a "buy local" M&A strategy in preference to expanding their geographic reach into growth markets. Likewise, those based in growth markets also favour growth in their own regions.

For example, 64 per cent of Australian-led acquisitions involved other Australian projects while 91 per cent of growth market acquisitions involved early stage projects in other growth markets.

Mr O'Callaghan said the report pointed to a looming and fundamental shift in mining that would reshape the sector's geographic reach and its commercial structure, triggering a major rethink on how the west engages with "frontier" markets.

"The shifting centre of gravity, from the west to the east will increasingly challenge the traditional fundamentals of mining M&A and compel Western entities, especially boards and shareholders, to realign their protocols around balancing risk and reward," Mr O'Callaghan said.

"Western "uber miners" will need to retool if they expect to compete successfully with the might of state-backed sovereign wealth funds, private equity and other similar entities. These new mining moguls will be characterised by their deep pockets, long investment time frames and their expertise in emerging markets."

China leading the pack

China is the clear leader in the world's growth markets, claiming close to half of 2011's deal activity in these areas. Compared with the 2006 market peak, Chinese buying volumes are up 40 per cent and 300 per cent in terms of market value.

"'We have already seen how China, for example, ties much of its investment to coveted infrastructure development, engaging in so-called financial diplomacy in nations where the conventional approach from western players has been - generally speaking - to fend for themselves," Mr O'Callaghan said.

"Western companies need to rethink their strategies, all the way from how they enter these markets through to what their eventual exit options may be."

The African Renaissance

Over the past year Western groups bought 122 mining projects in Africa, making it the second most popular growth destination after Latin America.

‘‘Although Africa remains a small player in a relative sense, it is important to recognise that it was the second most popular growth market destination in the past year - an area that barely rated a mention as little as five years ago," Mr O'Callaghan said.

In particular, increased activity is expected in key resources including copper, uranium, iron ore and coal across a swathe of African nations, which are gradually shedding their reputation for political instability, corruption and anti-business governments.

Australia and 2011

Australia, The United States and Canada dominated global deal making, accounting for 53 per cent of annual acquisition values, up from 46 per cent on the previous year. Australians were the most acquisitive, accounting for 22 per cent of market share value - up 3 per cent on the year before - followed by the Americans, who knocked out the Chinese in third spot.

On the sell side of the ledger Australia was ranked number two, with 20 per cent of market share, second only to the United States.

Mr O'Callaghan said while the numbers were another "clear demonstration" of the Australian resource sector's strength he warned that Australia's position as a popular destination for inbound acquisition will become harder to maintain as it competes with new opportunities in Africa and other growth markets.

"Australia would have taken out top ranking on both the buy and sell side of global deal making if several major, and probably anomalous deals, had not propelled the US into the top sales destination," he said.

The year was marked by strong activity in the upper and lower echelons while the mid-tier remained largely on the sidelines. Seven deals topped the $5 billion mark, 1355 deals worth less than $100 million were struck at the lower end while mid-tier deals retreated 6 per cent to 25 transactions worth $17 billion.

Looking ahead

New records in M&A volumes and values are forecast for 2012. With the sector sitting on more than $100 billion in cash, pent-up demand for new projects, rising costs and declining reserves, miners will seek new targets to build scale.

Predictions for 2012 include:

• "Non-miners" such as sovereign wealth funds, private equity and pension funds eager to deploy capital will re-evaluate their approach to the resource sector.
• Western buyers, many of whom are flush with cash, will need to find ways to make the growth market deals "work".
• Africa will continue to emerge as one of the most important markets. Strong resource potential and an increasingly investor-friendly climate are two key drivers highlighting Africa as a popular mining destination.
• Although the value of gold equities is lagging the escalating price of gold, a "flurry" of M&A in the gold sector is unlikely.
• "2012 could be seen in future years as the time when many companies either took decisive steps forward with their growth market strategies or faced harder decisions to regain ground in the years ahead."