|Summary: Takeover deals across the gold sector have been few and far between this year. But things could be about to change, with the lower gold price making some cashed-up companies at the smaller end of the mining spectrum more attractive.|
|Key take-out: If the gold price stabilises, it could prove a trigger point for more takeover action in the second-half.|
|Key beneficiaries: General investors. Category: Commodities.|
Hold on tight, thrill seekers – there’s more than one way to ride the gold commodity roller coaster in this town.
That’s good news for gold bugs, because the price of the precious metal is likely to retest its 25-month low of around $US1,300 an ounce that was hit two weeks ago.
This downbeat prediction seems to run contrary to gold’s stellar 13% bounce to $US1,473 an ounce from the trough, as frenzied demand for bullion, coins and jewellery caught most experts and gold mints by surprise.
But the risk-reward ratio is fast becoming unfavourable for those looking to buy the metallic currency, as gold is within arm’s reach of a key resistance level.
This level is a psychologically significant point as it tends to draw in sellers, and the level currently stands between $US1,500 and $US1,550 per ounce.
The gold price will need to decisively break above resistance before one can get more bullish on the outlook for the yellow metal.
But I suspect gold is going to trade between $US1,300 and $US1,500 an ounce for the next few months, unless something unexpected erupts, such as a sharp movement in the US dollar or a significant change to the global economic growth outlook.
Those gearing up for a speculative trade might prefer to buy small gold miners that make the most attractive takeover targets, as I am anticipating a sharp pick-up in corporate activity in the sector.
That is not as bold a statement as one might think. As the graph above shows, we are coming off a very low base.
While we are only a third of the way through 2013, the 21 corporate deals for Australian-listed gold miners will be the lowest in more than a decade if no other mergers happen this year. The value of deals since January also stands at a paltry $515 million.
I doubt 2013 can match 2012, but even if we saw the number of deals triple and deal volume surge another $2 billion before December, 2013 will still shape up to be a below average year for the gold sector.
This means there’s plenty of room for corporate play. Offsetting this is the utter lack of appetite for mergers and acquisitions at the moment due to the uncertain outlook for gold and poor track record of bidders successfully bedding down acquisitions.
Yes, we are looking at you Newcrest Mining. This is why gold miners that have bought smaller rivals in recent times have been punished by the market. Troy Resources’ takeover of Azimuth Resources this year and Silver Lake Resources’ buyout of Integra Mining in late 2012 are just two examples.
But if the gold price stabilises within a fairly narrow band as I expect, it could prove to be the trigger for more takeover action in the second-half of the year.
“Gold miners are putting a lot of effort into controlling costs,” said the chief investment officer for Phillip Resources Fund, Chris Bain.
“And if the gold price can settle down a little, many of our gold miners can make decent margins [with gold around current levels].”
Picking the targets
Picking the likely takeover targets is trickier, as it is akin to tip toeing across a minefield. Investors should brace themselves for a number of corporate collapses, with 37% of gold juniors with a market capitalisation below $400 million reporting a cash balance under $2 million (a level that should raise a red flag with investors) and 23% having less than the critical $1 million in the bank.
Miners that appear to be on the verge of falling over won’t have corporate appeal. Why buy now when you can pick the asset for even less at liquidation?
Having too much cash may also prove to be a disincentive for attracting suitors as management of these takeover targets are generally regarded as being less motivated to consummate a deal.
Those in the sweet spot will likely have cash of $2 million to $4 million, large-scale projects that are still viable even if the gold price was to fall to $US1,000 an ounce, and an open register with no strategic investor (such as management or another goldminer holding a large stake, as these parties’ interests are not necessarily aligned with other shareholders when it comes to entertaining bids).
“Juniors with overseas projects also have more likelihood [of attracting a bid] because they have a bigger audience [of prospective bidders],” said Bain.
Indochine Mining (IDC)
The $40 million market cap junior must sit at the top, if not near the top, of the takeover list as it ticks all the boxes.
Cash is starting to run a little tight for Indochine, even though it completed a $7 million capital raising in January, as its Papua New Guinean project is capital intensive.
The miner has around $3 million to $4 million left in the bank and will probably need to raise more funds soon to advance its flagship Mt Kare development. The 58% collapse in its share price this year to a record low of 0.5 cents essentially means an equity raising is out of the question.
Its chief executive, Stephen Promnitz, told Eureka Report that the other option, barring a full takeover bid, is for Indochine to sell a stake in the company or the asset to get cash.
“If any interested parties have approached us, I would have to make a market announcement about that,” said Promnitz. “But all I would say is that we were recently at the Hong Kong Mines & Money conference and it was amazing the (takeover) talk that was happening about us. Prior to that conference, we had a conga line of investment banks coming through our offices.”
The latest drill results revealed gold grades as high as 58 grams a tonne just beneath the surface at Mt Kare, and the project is believed to contain over two million ounces of gold equivalent. I can’t remember the last time I’ve seen grades this high.
What’s more significant is that Mt Kare is only 15 kilometres from Barrick Gold’s 28 million ounce Porgera project, and that both projects have similar type grades.
It would be safe to assume that the Canadian mining giant is keenly watching the progress of Mt Kare.
PMI Gold (PVM)
The failure to consummate a merger with Canadian-listed Keegan Resources in February doesn’t mark the end of PMI Gold’s corporate action story – but the beginning.
Argonaut believes the Ghana-focused $165 million market cap explorer is now more attractive as a target to the likes of other West African gold players, such as Resolute Mining and Perseus Mining.
“PMI has circa two million ounces of gold in reserves at a decent grade,” said Argonaut analyst, Troy Irvin.
“Sure they need funding but [its Obotan project] remains one of the few in the African space that is highly fundable given the project economics, even in the current capital market.”
Obotan has an average head grade of 2.2 grams a tonne of gold, with an estimated total cash cost of $US726 a gram. Irvin believes PMI will need $US330 million to develop Obotan.
It would be interesting if Resolute Mining were to make a bid for PMI as Resolute used to own Obotan. It sold the project to Canadian miner Golden Star Resources for $US4.3 million more than a decade ago, but back then the gold price was down at around $US300 an ounce.
Chesser Resources (CHZ)
Chesser Resources is another that is likely to appeal to international bidders as its Turkish project is showing decent grades and scale, according to Bain.
The explorer has around $3.5 million cash left in the kitty and is likely to need more in the not too distant future given that it has an ambitious drilling program for the year.
Like Indochine, Chesser has flexibility in developing its project that would make financial sense even in a low gold price environment.
The explorer estimates that it only needs $US88 million to produce 63,000 ounces of gold a year for six years, and at an operating cash cost of under $US500 an ounce of gold (if the silver was sold to offset the cost).
Even at a gold price of $US1,300 an ounce, the payback period (the breakeven point) for the project would be a modest 1.9 years.
If the gold price were to stay high, Chesser could dig deeper for gold to extend the life of the project.
This flexibility, coupled with the relatively low capital requirement and Chesser’s modest market cap of $32 million, would make the explorer an ideal bolt-on type acquisition for a larger miner.
Brendon Lau is the editor of Uncapped and may have interests in some of the stocks mentioned in the article.