Methods of corporate growth can be generalized into both internal and external growth. Internal growth is common since the existence of firms as firms can expand by increasing sales or building an extra factory for a line of production. However, as firms are seeking to grow externally, mergers and acquisitions become the main method of corporate strategies. In the mining industry, there are ongoing M&A activities, which are yet to be justified if these M&As create value for firms, and to the extent of the overall economy. The argument is that M&As usually aimed to create synergy through achieving economies of scale and/or creating some sort of market power(very rarely as there are strict antitrust laws). However, some M&As may happen due to principal-agent problem, where the managers(CEOs) have conflict of interest between maximizing shareholders' wealth and their own utilities. A good example would be the case of Xstrata's bid that happened earlier, which was disclosed to be inappropriate and therefore the M&A deal did not happen. Any opinion about the issue is welcome.
Mining M&A is all about ego. As well as the critical mass required for big long term capex, to ride the downturns and to take on the political risk. Not being eaten first is also high on the list (agency costs). Few synergies to be had in metals commodities markets (costs: head office, SG&A and er... that's it unless you have contiguous mines; no real pricing power unless you include collective underinvestment). The seaborne traded bulks are a different story (iron ore, coal) with very high concentration. The platinum market is also highly concentrated, as of course is diamonds. For a couple of interesting examples of mergers going wrong read up on BHP / Magma, Inco / DFR. I guess the funds would prefer it if they only had to track 4 or 5 really big firms and call it a done and dusted consolidated sector.
M&A in general does not create value. It's all based on "synergies" which is very arbitrary and is pushed by investment bankers who are technically operating under a conflict of interest. It's not too profitable for IBs when there are few M&A deals. Mining M&A is all about consolidation of a scarce raw resource. Makes sense to use cheap money & debt to gain something of real instrinsic value.
As an example, take the rumoured BHPB takeover of Rio Tinto. Of course this was suggested years ago by BHP's then chairman (Brian Gilbertson) which was the reason he got booted from the board i.e. too expansive at the time. Now that the commodities sector is hot the investment banks are wooing the more clueless chiefs into exotic mergers. But what miner in their right mind would want to merge or takeover another one at the top of the commodities cycle? Unless of course they're concerned about prices falling and they want to hold back supply which is clearly easier when there's fewer people producing it. All the (Asian) demand is mostly factored in and theres a ton of new supply about to come online so it could be a defensive strategy more than an aggressive, expansive strategy.
Yes, when Gilbertson arrived at the Jo'bug head offices of Gencor in his helicopter the staff would quip "the ego has landed". BHP found him too abrasive (LOL!) and they wanted a more consensual leader following the disastrous decisions taken in the mid-90s. Funnily enough a few years ago Rio Tinto took a long hard look at BHP when it was in difficulties. Consolidation is the one constant in the sector and CEOs feel more confident at the top of the cycle, or super-cycle as some bankers would have it.
First of all, the synergy theory with having two firms would be "2+2=5" effect, which as suggested to be arbitrary at the time when possible synergy can be achieved according to investment bankers. Therefore, I want to share my thought that if we can actually look into cases of mergers that have happened in the mining industry within a time frame of 2 years before the merger and after the merger. By this, we should be able to compare the firms' value and identify the impact of mergers and acquisitions in the mining industry. On the other hand, as suggested and mentioned, there exists the problem with conflict of interest either with the investment bankers or the management. Now, we should be able to identify the negative effect of a merger if there is a "lie" in the analysis of investment bankers about any M&A deal/s where they were only trying to maximise their utilities. The consolidation of a scarce raw resource brings another issue to the society. If mining firms only gain ore deposits by consolidating the resources from other firms in the same industry, then this trend would lead to less exploration of new ore deposits or mines in some cases. As a result, the raw resources available now would become insufficient as demand is increasing in the world economy(especially china's strong demand in various metals).
Apparently there's a new paradigm (and the market isn't valuing these companies properly........................).
Dear mokwit, Would you please inform me the new paradigm you mentioned or even just where you came across it? As I am interested in the topic of mergers and acquisitions, particularly for the mining industry being the most active industry with M&A activities in the past few years. Thank you!
I don't know where this thread is going but I can answer this quickly: the new pardigm in the metals sector also known as "stronger for longer" or "super-cycle" is basically China demand following years of under-investment. When was the last Escondida brought into production? How much nickel is there? Who has control of the iron ore? New paradigm is an alternative explanation to the classical boom-bust cycles. You'd be wise to remain sceptical or you could go all Jim Rogers.