Diversified miners to see relief: Macquarie

Macquarie says the sector’s worst is over, but performance will still lie in line with a decade ago.

Diversified miners are in for some long-awaited relief, with earnings set to increase in 2016, the first year of growth in this cycle after years of declines, according to Macquarie research.

“The worst does appear to be over if our own forecasts and consensus are to be believed,” Macquarie’s senior research analyst for diversified miners Alon Olsha said in New York.

Macquarie is predicting compound annual earnings growth of 11 per cent per annum over the next three years, across some 120 diversified miners it covers.

“That still doesn’t leave the sector generating any more than they were about 10 years ago,” Mr Olsha said.

The upbeat forecasts follow years of pressure, after earnings had appeared to be in “terminal decline” since 2011, falling 22 per cent per annum year on year in aggregate for the past three or four years, he said.

Mr Olsha said it was taking longer than normal to restore equilibrium in the current market cycle as many diversified miners have relatively low debt levels. After entering the GFC with “almost record gearing”, the sector was forced to focus on recapitalising and restructuring balance sheets, he said.

Once commodity prices peaked in 2011 and started to decline, a number of mining companies had already lowered their gearing and were free to build out projects and make acquisitions, as well as tolerating loss-making operations for longer than normal, he said.

Iron ore peaked around $US180 a tonne in 2011 before crashing below $US40 late last year, while oil was trading above $US100 a barrel in 2011 but plunged below $US30 by early 2016.

“2015 will probably go down as a bit of a watershed in the industry,” he said. “Miners really started to feel the pain on their balance sheets, and rating agencies started to put pressure on them.”

But BHP Billiton spun off South32, Anglo American is looking to divest much of its portfolio, other companies in the sector have followed suit and debt reduction plans are working, he said.

“Earnings have turned the corner, balance sheets are on the mend, margins have bottomed and the market has noticed.”

Mr Osha said that the diversified mining sector needs to start thinking about the next stage of growth, and whether to build new mines or make acquisitions.

He compared two possible options for Brazil’s iron ore giant Vale: building out its massive S11D project, or buying Fortescue Metals Group at a 30 per cent premium.

“The buy option seems to win out on a risk adjusted basis,” he said, adding that the scenario was only a hypothetical: “We don’t see Vale bidding for Fortescue and given the competition issues it’s unlikely to go through.”

In terms of acquisition activity, Mr Osha said the most attractive sectors are copper and gold.

For any companies with a capacity to do deals, competition from sector incumbents is likely to be lower than from non-traditional buyers such as Chinese private equity companies and sovereign wealth funds, he said.