TORONTO (miningweekly.com) – Professional services firm EY’s Canadian Mining Eye Index slowed its decline in the three months ended March 31, falling only 1% compared with a 12% decline in the fourth quarter last year.

The index, which tracked the Canadian mining sector performance of 100 TSX- and TSX-V-listed midtier and junior companies with market capitalisations of between C$160-million and C$2.1-billion, underperformed the S&P/TSX Composite Index, which was up 2% in the first quarter.

However, it outperformed the London Metal Exchange Index, which decreased 6% during the period, while EY’s Aim-based Mining Eye gained 5% over the quarter, the first quarterly gain since the fourth quarter of 2013.

EY said Canadian equities were facing downward pressure owing to an improving US dollar, which was continuing to suppress commodity prices, particularly precious metals.

"Things like fluctuating commodity prices, stretched balance sheets and exploration shutdown are all challenging miners.

“But with challenges come opportunity. We're seeing many mining companies putting efforts into streamlining inventory, optimising working capital, divesting in noncore assets and strengthening their focus on portfolio management,” EY’s Canadian Mining and Metals leader Bruce Sprague said.

EY found that the global macroeconomic backdrop remained weak with mixed global economic indicators and risk-averse investors, while lower oil prices augmented mining companies’ efforts in reducing costs. Base metals had experienced negative returns since the start of the year owing to weak Chinese demand.

The price of gold increased 0.1% during the first quarter, but, despite starting strongly, it came under pressure in March as a result of robust US payroll data, which triggered speculation of a possible increase in the Federal Reserve rate.

Silver traded unpredictably, recording a low of $15.47/oz and a high of $18.31/oz. Copper prices declined by about 5% owing to a slump in the Chinese property market, while the iron-ore price index was down by 28% to $51.40 in the first quarter, the lowest since 2005.

EY reckoned the iron-ore price was unlikely to rebound in the near term because of China’s tax subsidy to domestic iron-ore producers as well as the oversupplied market.

Majors witnessed an increase of 4% in the quarter compared with a 9% decrease in the previous quarter, as companies were still aiming to reduce capital expenditure (capex), lower costs and strengthen their balance sheets to survive amid falling commodity prices. Majors reported decreased financial performance with mixed output performance for the fourth quarter and were focusing on growing free cash flow through disciplined capital allocation and operational excellence.

Interestingly, EY reported that at March 31, 42% of the 1 431 mining and metals companies listed on the TSX and TSX-V had market capitalisation greater than C$5-million. Taken together, these companies held about 5.8% higher cash balances year-over-year. Companies with market capitalisation of C$5-million or less held about 6.7% higher cash balances year-over-year. Overall, mining companies continued to work through the downturn in the sector and were adapting to cash preservation.

M&As
The valuation differential between precious metal producers and developers helped to stimulate merger and acquisition (M&A) activity in the first quarter, as acquirers focused on targets that complemented their existing portfolios.

EY pointed out that with many organic growth projects unable to meet necessary rates of return, companies with healthy balance sheets were looking at M&A to maintain or grow their reserves and resources.

Meanwhile, companies with levered balance sheets who had an opportunity to enhance their portfolios were targeting asset sales to cut debt and refocus on core operations.

Sharing infrastructure with neighbouring mines to cut costs and entering into joint ventures had also increased recently. Low oil and commodity prices could also drive M&A activity to some extent this year, EY analysts had found.

“The lack of capital available to juniors could force a dramatic industry consolidation and distressed and prudent companies will seek out ‘mergers of equals’.”

During the period of higher gold prices, in January, there was a surge in bought-deal financing activity.

OUTLOOK
Despite most of the players working on controlling expenses, EY advised that declining grades would put continued pressure on costs. It was likely that mining companies would cut down on their capex to protect dividends even at current lower prices in 2015.

Analysts expected the US to recover with below-trend growth, China to stabilise, Europe to downgrade and Japan to remain high risk in the first half of the year. The US Federal Reserve was expected to raise rates around midyear, with a below-trend growth outlook and a higher US dollar.

Also, the price of gold was expected to be under pressure with the strengthening US dollar and a low-inflation outlook in the US. The outlook for China, the world’s leading consumer of metals, was forecast to improve, with expected stimulus from infrastructure spending, greater capacity use and more favourable monetary policy.

Various factors – including falling commodity prices, substantial production increases by the big miners, stretched balance sheets and exploration shutdown – were challenging miners. Also, falling commodity prices and rising bond yields would push investors to the big miners in the short term, EY said.