Last month, Glenn Dubin, Chairman of Highbridge Capital Management LLC, said the commodities supercycle was over because of the twin factors of declining demand from developing nations and growing supply. Highbridge, an alternative asset manager, controls $29B in assets.
Offering an alternative perspective, Vaughan Wickins of Standard Bank said yesterday at Mines and Money London that the commodities supercycle was “not dead, but just resting.”
“I would maintain that just because you can’t see it [the supercycle effects] in front of your face every day, it doesn’t mean it doesn’t exist.”
Recently, Bruce Greenwald carried out a virtual Fireside Chat with Li Lu, the founder and chairman of Himalaya Capital. Greenwald and Lu covered multiple topics during the discussion, addressing everything from the value investor's approach to appraising businesses and what he had learned from his great friend Charlie Munger. The duo also discussed China's economy Read More
The two divergent views are symptomatic of the dilemma within the mining industry. A correct evaluation of the supercycle question could have a bearing on a miner’s capex plans, whether to sell or buy mining assets, M&A deals, and even the composition of its management team going forward.
“In the pits? Mining and metals firms and the slowing of the supercycle,” a timely study by the Economist Intelligence Unit (EIU), sponsored by the National Australia Bank, sheds light on a new era confronting resource companies.
Difficult times the new normal
“Though many accept that the incredible boom of the post-financial-crisis years is over, consensus on whether recent price movements indicate the end of the supercycle—or even on whether such a phenomenon exists—is lacking,” says the report, authored by Christopher Clague.
The steep fall in commodity prices since 2011 (see chart below) would indicate that the golden era has ended, but the findings of the study, which relied on EIU forecasts and analysis, extensive industry-level research, and in-depth interviews in key markets, are somewhat different.
Commodities supercycle: Alive and well
The commodities supercycle is “not over, just less super,” says The Economist Intelligence Unit, and “believes continued growth in China (slower, but from a larger base), ongoing global urbanization, and structural factors such as higher energy and extraction costs will continue to support prices in the medium term.”
EIU projects prices of various commodities to vary on a percentage basis between 2013 and 2017 as per the chart below:
Any way you look at it, the metals and mining industry has to contend with a new era of lower but more volatile prices, structurally a higher cost, more regulatory concerns and higher downside risks, says the report.
Capex during the new normal
Not surprisingly, capex has come under pressure across the industry in view of the low prices and slow demand. The report says Australia’s Bureau for Energy and Research Economics estimated in April 2013 that high-value resource projects worth A$150bn (US$140bn) had been cancelled or delayed in the country in the previous year. But cutting capex now could be counter-productive in the future, and herein is the crucial dilemma for miners.
“The thing that has materially changed is that miners are going into deeper pits and into minor resources that are underwater, and all this implies bigger capital development projects and longer times for commissioning,” says Ken Brinsden, managing director of Atlas Iron—an Australian iron ore company, in the report.
The fear is that the capex cutbacks now could create capacity bottlenecks when the next rush of demand comes, leading to high prices, a case of history repeating itself from the early 2000s.
M&A in the cooler
‘The M&A market stayed level between 2008 and 2010 but has since fallen off dramatically, with the total number of deals shrinking to a ten-year low in 2012.”
Apart from financial constraints, regulatory hurdles are becoming increasingly insurmountable.
“Firms in the metals and mining sector have already entered a period—if not an era—when viable deals are scarce, divestments hard to offload, and further consolidation is a non-starter for both financial and political reasons,” says the study.
A change of guard
Faced with the twin threats of increasingly difficult geological mining challenges on the one side, and belligerent shareholders demanding returns here and now on the other, mining companies are putting new management in place.
It is interesting that the majority of the larger mining companies replaced their CEOs in the last year as outlined in the table below.
Desperate moves in desperate times? “The easy surface resources have already been found,” says Jim Hayman, head of mining and metals at Heidrick & Struggles, an executive search firm in the report. “This means leadership at mining and metals firms, which have tended to be made up of chartered accountants and lawyers, may need more miners at the top going forward.”
Commodities supercycle: Conclusion
Resource players need to take the risk of counter-cyclical capex to prepare for the next surge in demand, diversify into commodities that are in a “mid-cycle” stage or look at consolidation M&A deals rather than mega-deals. Innovations in the production cycle “from pit to port” will more than pay for themselves in time to come.