DJ Commodities, Energy Proving To Be A Dealmaker's Paradise
06/26/2006
Dow Jones News Services
(Copyright © 2006 Dow Jones & Company, Inc.)
By Rob Curran and Marietta Cauchi
Of DOW JONES NEWSWIRES
NEW YORK (Dow Jones)--Raw materials are a dealmaker's gold mine.
The flurry of big deals in the commodities and energy sectors in recent days may just be the crest of a wave of marriages still to come. It still makes sense for many of these companies to expand by buying rivals rather than grow organically; new infrastructure is costly, while digging new mines and opening mills is risky. What's more, these miners, mills, metals and energy companies are flush with cash, as huge demand from China and India has helped them raise prices. And lately, investors have cooled on commodities stocks, easing what were lofty valuations.
"[With] the huge sums of cash metals-and-mining companies have on hand, and tremendous amount of free cash flow generated, it just makes sense to buy assets as opposed to building assets," said JPMorgan metals and mining analyst Michael Gambardella.
"Companies are choosing to spend their cash by buying competitors rather than exploring new sites - and by not adding to existing capacity they are ensuring continued high prices," says Robbert Van Batenburg, head of research at Louis Capital Markets in New York.
Monday, Phelps Dodge Corp (PD) said it's buying Canadian miners Inco Ltd (N) and Falconbridge Ltd (FAL) for $40 billion; while Luxembourg-based Arcelor (5786.FR) succumbed to a roughly $32 billion bid from Mittal Steel Co. (MT); and Friday, Anadarko Petroleum Corp. (APC) agreed to snap up Kerr-McGee Corp. (KMG) and Western Gas Resources Inc. (WGR), for a total of $21.1 billion plus some debt.
Throw in these deals and there's been a whopping $202.7 billion in M&A in this sector so far this year, according to Thomson Financial. That's more than double the volume for the same period last year and closing in on 2005's $223.2 billion in commodities M&A.
Yet there's more to come, experts say.
Among top U.S. steelmakers, for example, U.S. Steel Corp. (X) and Nucor Corp. (NUE) could easily repay debt and still have cash left over. Same for Royal Dutch Shell PLC (RDSA, RDSB); it has more cash than debt.
Valuations are better, too. The inflation bogey has spooked investors enough in recent weeks to stall the commodities sector's three-year-old rally. Copper and gold prices have dropped more than 20% since early May while lumber prices have eased. The Dow Jones Basic Resources Titans 30 Index has fallen 17% since May 11 to close at 236.32 on Friday.
Among those Titans, aluminum producer Alcoa Inc.'s (AA) off 19% and coal miner Peabody Energy Corp. (BTU) is down 34%. Even Phelps' stock has lost more than one-fifth its value since early May, as has wood-products company Weyerhaeuser Co. (WY).
Yet despite these drops, the demand for raw materials remains huge. JPMorgan, for example, estimates China will consume 750 million metric tons of iron ore this year, up 11% from 2005.
Experts think steelmakers, wood-products companies, U.S. oil-and-gas producers and precious-metals-mining concerns will see more M&A this year.
Also expect more cross-border deals, said Van Batenburg, as countries with limited access to raw materials target those rich in natural resources, like Canada, Australia and South Africa.
"Countries like the U.S. and U.K. aren't very rich in terms of natural resources but they have companies with sufficient firepower to buy up foreign assets and businesses," he said.
M&A in the steel industry may have been on hold until Arcelor's fate was decided. But now, Jim Forbes, the global metals advisory leader at PricewaterhouseCoopers, thinks merger activity will resume as the steel industry transforms itself into a global business from the fragmented, local one it still is.
Indeed, ask Michael Locker, whose firm Locker Associates Inc. provides buyout consulting and due diligence to the steel industry: "Everybody is looking for the right deal, anxiously scouring markets to see what they can pick up."
Aside from China, where the government has already told the large state-owned steel companies to join forces, PwC's Forbes cited Eastern Europe and Latin America as two possible areas where both predators and prey will emerge.
"[Latin American and Russian companies] are putting their money down and saying 'how much to buy your mills?" said KeyBanc analyst Mark Parr.
For example, Argentinian steel-tube maker Tenaris SA (TS) recently bought American rival Maverick Tube Corp. (MVK) for $2.4 billion.
Analysts are also looking to aluminum, coal and wood products companies for more M&A, while Friday, shares of oil and gas companies with U.S. production jumped after the Anadarko deal.
Though cautious after a previous bout of dealmaking didn't work so well for buyers, candidates for deals among wood products players include Canadian forestry and paper companies like Domtar Inc. (DTC), Abitibi-Consolidated Inc. (ABY) and Tembec Inc. (TBC.T), said Deutsche Bank analyst Mark Wilde. (Deutsche Bank owns more than 1% of Abitibi and Domtar).
Wilde said U.S. giant Weyerhaeuser Co. (WY) will combine its white-paper, or office paper, unit with the equivalent unit of either Domtar or U.S. rival Boise Cascade Co. (BCC).
In excavation, PricewaterhouseCoopers Canadian mining leader Paul Murphy anticipates more deals involving "second-tier" companies, or those with revenue of $300 million to $400 million a year.
Among the diggers, M&A should be rife, but London-based mining analyst Jonathan Guy, advises to watch for Vancouver's Bema Gold Corp. (BGO) as a likely target, because of its interests in Russia. (Guy doesn't own any shares or have any banking conflicts.)
Analysts also point to South African platinum miner Lonmin (LMI.LN) as a potential target for a major gold mining concern.
Asked about Lonmin, Newmont Mining Corp. (NEM) said it didn't comment on rumors, adding in an email that the company's positioned to do acquisitions but also active in exploration. Newmont has almost $1 billion in cash but is also spending up to $160 million on exploration this year.
Problem is, digging new mines is increasingly hairy for miners.
Phelps-Dodge Corp. (PD) spokesman Peter Faur said the industry has already dug up most of the copper in areas with "low geopolitical risk." In late 2008, or early 2009, Phelps-Dodge expects to start producing from a mine in the Democratic Republic of Congo.
-Rob Curran, Dow Jones Newswires; 201-938-5176; robert.curran@dowjones.com
-Marietta Cauchi, Dow Jones Newswires; 201-938-2129
(END) Dow Jones Newswires
06-26-06 1358ET
