A few years after the global economy emerged from the economic
crisis of 2008, commodity prices began to surge, thanks to
ongoing robust demand from China. Chief financial officers at
mining firms quickly realized that firm commodity prices implied
robust future profit streams, and a broad range of new mining
projects were put into motion.
To pay for those projects, billions of dollars were borrowed,
and investors began to anticipate impressive cash flow returns
from all of that borrowing. Just a few years later, that optimism
Slumping commodity prices have hurt potential returns from
these expansion plans. Of greater concern, some mining firms are
now carrying too much debt, and unless commodity prices rebound,
they could be looking at a cash crisis in the next year or two.
Reuters/Jefferies CRB Index (INDX: CRB)
, which tracks a basket of commodity prices, has posted some
mini-rallies in the context of a broader downtrend over the past
How big of a debt hangover are we talking about? A basket of
55 leading miners held a collective $2 billion in debt 10 years
ago, according to BMO Capital Markets. That figure has now risen
above $20 billion.
Indeed, much of the debt has been accumulated in just the past
few years as bonds were sold to embark on major new mining
projects. Trouble is, once these projects get underway, they
start to soak up huge amounts of capital spending, and often need
to receive many more cash injections to see them to
For example, take
Newmont Mining (
. In 2012, the company spent $3.2 billion on mine development,
which was roughly twice the company's 10-year average. To pay for
that, total debt swelled from $4.3 billion to $6.3 billion. (And
debt has risen yet further to $6.8 billion in the middle of
2013.) And just to finish up the mining development work that
began a year or two ago, Newmont will be spending more than $2
billion this year as well.
Meanwhile, the recent plunge in gold and copper prices led
Newmont to write off more than $2 billion from its stated asset
value when quarterly results were released last week. If
commodity prices slump further and stay down for several years,
Newmont's debt load may start to force the company to unload
assets at fire-sale prices.
Selling off assets at a time of depressed commodity prices
brings its own pain. To start to meet a massive 12- to 18-month
Barrick Gold (
recently sold its energy division for roughly $450 million.
Barrick had been carrying that asset on its books for $900
million and now needs to take a big write-down. The move leads to
concerns that as other mining firms look to sell assets,
investors may sense that their current balance sheets represent a
far too optimistic valuation of their asset base.
Many other firms focused on mining, commodities processing,
and finished goods production (such as steel makers) need to make
sure that there is enough cash on hand to meet the next few
years' worth of debt obligations. Here's a quick look at firms
that currently lack the cash to meet their debt obligations that
will come due over the next two to three years.
For smaller firms, known as junior miners, the situation could
become even more dire as their total debt is often expected to be
repaid in less time than the big miners. Some mining firms have
seen their share prices plunge more than 50% this year. Such a
sharp downward move often suggests looming financial distress.
That's not always the case, so it pays to do more research to
identify potential balance sheet risk, but some of these big
Allied Nevada Gold (
Golden Star Resources (
Detour Gold (
Perseus Mining (PMNXF)
Hochschild Mining (HCHDF)
Risks to Consider:
As an upside risk, any sign that China's slowdown has been
mitigated by government stimulus programs could give a quick
boost to commodity prices.
Action to Take -->
The mining industry is suffering from both a slowing in China and
also an overly ambitious expansion program over the past few
years that is bringing too much supply to a depressed market. We
probably haven't seen the last of this industry's woes, and
before you decide to invest in miners, you should assess their
balance sheet and cash flow statements with a great deal of
Also, today's tougher pricing environment, and the cash crunch
it is causing, is leading to a sharp slowdown in any new project
development. That could lead to a phase of weak growth down the
road, as The Wall Street Journal recently noted.
So it's unwise to anticipate a sharp snapback in industry
share prices back to levels seen a year or two ago, even when
commodity prices finally rebound.
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