Are Miners Selling Themselves to Death?

by Jim Woods | July 31, 2013 10:40 am

When demand for your industry’s product wanes, the first instinct for many CEOs is to cut, slash and burn costs. Such is the case right now in industrial-metals mining stocks, where some of the industry’s biggest names are moving to divest their high-debt holdings as demand for commodities such as copper and iron ore decline and prices fall.

Most recently, U.K.-based mining stock Rio Tinto (RIO[1]) announced it was selling its majority stake in its Northparkes Australian copper and gold mine[2] to China Molybdenum for $820 million. Given that Rio is one of the biggest mining companies in the world, the deal to divest some 80% in the Northparkes mine can be read as a clear signal that the company is less than bullish when it comes to global demand for copper.

A completed deal would push Rio’s asset sales to $1.5 billion so far in 2013, according to Citigroup’s Heath Jansen; earlier this year, Rio sold its Palabora mine for $373 million and the Eagle Nickel property for $325 million.

Now, if Rio Tinto were the only company moving to divest itself of mining assets, the story could be chocked up to just one firm doing a little fiscal housekeeping. But of course, Rio is far from the only mining stock looking to shave costs.

Since the beginning of 2012, rival mining giant BHP Billiton (BHP[3]) also has been on a mission to divest. The company has sold some off some $6.5 billion worth of mines and other assets to cut down on debt, and once again that move was due to sagging global demand for industrial metals like copper and iron ore.

Another company moving to swiftly divest from debt is global commodities giant Glencore Xstrata, which just announced it was working with Bank of America (BAC[4]) to find buyers for its stake in a copper-and-gold project in Papua New Guinea.

In addition to asset sales, mining stocks virtually across the board are slashing exploration budgets to cut costs and improve their respective bottom lines. According to industry research group SNL Metals Economics Group, “exploration budgets for miners of nonferrous metals are forecast to fall by up to 35%[5] this year from 2012,” the Wall Street Journal reports.

Selling assets and slashing exploration budgets may make sense for mining companies now, especially considering the falling demand and falling prices of what they dig out of the ground. Unfortunately, these same miners could be left scrambling to keep up with demand if — or more likely, when — that global demand picks up again and when prices make their inevitable comeback.

Unlike other industries, mining is a sector that takes a lot of time to restart after a slowdown, and in some cases, mining assets take years to get going again. That could leave miners in a bad spot going forward if conditions in the space become favorable again.

So, what could cause conditions in the mining stocks space to become favorable?

In a word: China.

As I wrote earlier this week, Chinese officials have indicated that they will aggressively defend and promote policies that buttress economic growth[6]. We’ve already seen this in the form of the statement by Chinese Premier Li Keqiang, who said that sub-7% annual GDP growth would not be tolerated. We’ve also seen a sort of mini-stimulus package, including tax cuts, to help spur growth.

The real stimulus the market would like to see is a cut in bank reserve ratio requirements, and if we get that, we could see the beginnings of a wider rebound in construction projects in China, and increased demand for construction’s raw materials such as copper and iron ore. If that rebound happens — and it is a big if — then the cost-cutting and asset divestitures by the miners now could hamper their ability to grow in the future.

For now, however, mining CEOs have to manage for the here and now, and that means more cutting, slashing and burning.

Will it backfire? Probably … but as they say in business, you’re only as good as your latest quarter.

As of this writing, Jim Woods did not hold a position in any of the aforementioned securities.

Endnotes:
  1. RIO: http://studio-5.financialcontent.com/investplace/quote?Symbol=RIO
  2. selling its majority stake in its Northparkes Australian copper and gold mine: http://www.ft.com/intl/cms/s/0/986b09ca-f7ec-11e2-87ec-00144feabdc0.html
  3. BHP: http://studio-5.financialcontent.com/investplace/quote?Symbol=BHP
  4. BAC: http://studio-5.financialcontent.com/investplace/quote?Symbol=BAC
  5. forecast to fall by up to 35%: http://online.wsj.com/article/SB10001424127887324263404578612112462180612.html?mod=WSJ_hps_sections_business
  6. aggressively defend and promote policies that buttress economic growth: http://investorplace.com/2013/07/4-chinese-stocks-to-scoop-up-after-the-dip

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