SOURCE: Boston Consulting Group

Boston Consulting Group

December 08, 2016 00:01 ET

To Create Value, Mining Companies Must Take a Disciplined Approach to Winning Back Investors' Confidence

With Skeptical Investors Draining Capital Away from the Mining Sector, Miners Need to Demonstrate Discipline If They Hope to Regain Investors' Confidence, BCG Research Finds

BOSTON, MA--(Marketwired - Dec 8, 2016) - The mining sector has suffered a sharp drop in total shareholder returns since 2010, halving its market value and leaving investors skeptical about its future. While companies have worked to cut costs and boost productivity, these efforts haven't been enough to put the sector back on a solid footing. That's according to Value Creation in Mining 2016: Restoring Investor Confidence, a new report being released today by The Boston Consulting Group (BCG).

The report examines TSR for 55 leading mining companies from 2005 through 2015. Over that period, the median annual TSR of the sample was just 5%, lagging behind the S&P 500's 7.3%. And while an uptick in commodity prices during 2016 revived hopes, it will not be nearly enough for miners to declare victory. As Gustavo Nieponice, a partner and managing director at BCG and a coauthor of the report, points out, "Generalist investors are still concerned, and have reallocated billions in capital from natural resources since 2012, particularly growth-oriented investors."

Among the report's key findings:

  • Performance varied radically during the decade analyzed -- reaching 31% from 2005 through 2010 and plummeting to -17% from 2010 through 2015.
  • Many companies remain heavily indebted, with the highest leverage ratios in a decade.
  • Returns on gross investment have not improved over the preboom lows, despite sharp cost-cutting efforts.
  • While capital expenditures have declined from their 2012 peak, they remain elevated relative to cash flows.
  • Valuation multiples remain depressed and access to capital constrained.

Value Creation in Mining 2016 cautions companies against relying on commodity price upticks as a recovery lever. Instead, they must address concerns about their balance sheets, show investors they have re-earned the right to grow, and develop a compelling path forward to new value creation.

Addressing Balance Sheet Concerns

Miners' balance sheet problems have weighed heavily on their equity valuations, raising concerns among investors about the viability of certain companies in the sector. To assuage generalist investors' concerns, miners can renegotiate financial obligations (including extending debt repayment schedules further into the future) and creatively monetize noncore mineral and infrastructure assets. Additional smart tactics include inexpensively advancing future growth projects through deposit evaluation processes, as well as aggressively minimizing working capital needs (for example, by reducing inventories throughout the value chain). To prepare for attention from activist investors, miners can perform a do-it-yourself "health check," scrutinizing their performance and management approaches from activists' perspective and taking action to close any gaps.

Re-Earning the Right to Grow

Despite serious efforts to reduce costs, margins as well as returns on capital remain compressed for many players. Miners must show that the improvements they have achieved are sustainable. Otherwise, investors will remain bearish. As Alexander Koch, a BCG partner and managing director and a coauthor of the report, explains, "Traditional productivity programs had a useful role immediately after the cycle turned. They have now run out of steam. Miners will now have to become more innovative and break away from familiar paths. They need to seriously look at digital technology as well as their own people as the most powerful levers to make a real difference, in order to ultimately re-earn their right to grow." To this end, miners should pursue next-level productivity enhancements -- such as using throughput and cost analysis to identify and remove bottlenecks; rebalancing their asset mix to enhance value potential; and testing mine-plan tradeoffs to make smarter decisions about where, when, and how best to operate. Leveraging digital technologies (such as dynamic simulation modeling) is also crucial, in order to identify and address the root causes of production losses and gauge the potential impact of improvement initiatives.

Developing a Compelling Path Forward

Investors want to see that mining companies have a sound plan for creating value in the future. "Being a great company -- by occupying a leadership position in the industry or enjoying strong assets -- is not enough. Miners must also be great stock -- capable of delivering sustainable and attractive TSR," notes Thomas Vogt, an associate director at BCG and a coauthor of the report. To meet this dual imperative, companies should first define sensible TSR targets and then link them to business strategy (including how much to focus on growth versus yield plays), financial strategy (such as how to fund existing operations while creating funding options for future growth), and investor strategy (including defining ideal investors and determining how to attract and retain them).

Miners that excel at this process can evaluate strategic opportunities from a more informed position. They can test assumptions about how different strategic moves would affect their share price. And they can build up capital and cash to take advantage of depressed prices for assets, equipment, and talent while buyers are scarce.

Value Creation in Mining 2016 is the fifth report on value creation in mining sponsored by BCG's Industrial Goods practice. The report is part of BCG's Value Creators series, which uses BCG's proprietary methodology to disaggregate the sources of value creation among top-performing companies throughout leading industries.

A copy of the report can be downloaded at www.bcgperspectives.com.

To arrange an interview with one of the authors, please contact Eric Gregoire at +1 617 850 3783 or gregoire.eric@bcg.com.

About The Boston Consulting Group
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