Mining’s fork in the road: back the bold or follow the cautious

Mining fork in the road Australia merger acquisition Evolution Northern Star ASX EVN NST
Miners may be getting ready to circle juniors with valuable assets.

The old saying about fortune favouring the bold is being put to the test in Australia’s mining industry, with one gold producer choosing to expand in a climate of high and rising costs, while another opts for safety.

The difference between Northern Star Resources (ASX: NST), which is planning a major investment, and Evolution Mining (ASX: EVN), which is deferring development proposals, is one of the key tests for investors in the next phase of the mining market – back the bold, or follow the cautious.

Another division, which could be the difference between making money (or not) is to follow the burst of takeover activity, which always follows a market correction as small miners with potentially valuable assets receive takeover bids from cash-rich rivals.

The merger and acquisition (M&A) phase of the mining market is yet to get moving but it will as asset-rich, but cash-poor explorers become takeover targets.

Is M&A activity about to pick-up?

Two events over the next four weeks could provide the sparks for M&A activity.

The first is to be found in the flood of quarterly reports for the period to 30 June, which will start flowing in the next few days and hit a peak in the last week of July.

The second event is the annual Diggers & Dealers mining forum in WA’s gold capital of Kalgoorlie starting on 1 August.

D&D is a popular gathering for mining executives and stockbrokers and has been the germination point for countless past deals.

This year’s conference will be the first for three years under almost normal travel conditions and while it has an over-crowded agenda with 75 presenters in just three days it is what happens backstage which counts as miners and bankers mingle in Kalgoorlie’s countless pubs.

Buy the target, sell the bidder

News flow from D&D could provide a pointer (or two) towards possible deals, at which point a wise investor remembers the critical advice covering most M&A activity, buy the target and sell the bidder.

That approach doesn’t always work because a merger can create value, but not that often thanks to the tendency of bidders to overpay in the rush to landing a deal.

Picking a winner from the “expand or not” quandary during a time of dramatically higher cost inflation is another challenge for investors in a market being buffeted by fluctuating commodity prices and the distortions caused by the Ukraine war and sanctions on Russia.

Management at both Northern Star and Evolution might be making the right decision for their companies given the different mix of assets but the expand-versus-defer approaches to risk is a test for investors.

At first glance, and using share price moves as a guide to announcements made earlier this week it appears that the more aggressive approach of Northern Star is preferred – perhaps a case of fortune favouring the bold.

The growth versus caution case started on Monday when Evolution stunned the market with a production and costs warning, plus delays on two proposed expansion projects.

Evolution executive chairman Jake Klein said the company had “fallen short” but was determined to address its problems.

By most measures, Evolution’s operational update was a disappointment. June quarter gold production missed, as will annual output.

Costs are up and plans to expand ore processing mills at the Red Lake mine in Canada and Mungari in Western Australia are being deferred because of blow outs.

“It feels like we’re back in the boom conditions of 2011,” Klein said in reference to a period of spectacular costs increases.

“I think it’s right in the current market to defer.”

Investors ditch Evolution

Investors were disappointed – wiping 20% off Evolution’s share price immediately after the announcement, and continuing to sell with the stock, which is now down by 30% to $2.42, which is its lowest in six years.

UBS was one of the big-name investment banks embarrassed by the Evolution downgrade. Two weeks ago (17 June) the bank upgraded the stock from neutral to buy setting a share price target of $4.05 on a day it was trading at $3.69. On Wednesday, UBS stuck with its buy tip but set a new price target of $2.95.

Other banks and brokers voiced their annoyance at being blindsided by the downgrade. Credit Suisse which has been a consistent seller of Evolution rubbed another $1.05 off its previous price target of $3.75 to set a new target (and refreshed sell tip) at $2.70.

Investors buy on Northern Star’s expansion plans

Northern Star, which is scheduled to deliver its June quarter report on 20 July  (an event which last year corresponded with the company’s investor day and outlook presentation) has received totally different treatment on the market after announcing plans for a possible big upgrade of its flagship project, the Kalgoorlie Superpit.

The company’s managing director, Stuart Tonkin, said the plans for the project (officially named Kalgoorlie Consolidated Gold Mines, or KCGM) was “compelling” with three possible ways of optimising and improving performance by investing between $440 million and $1.4 billion.

The choices are a bolt-on expansion to process 17 million tonnes of ore, a 70% plant refurbishment to lift throughput to 24Mt or a new processing plant handling 22Mt a year.

The 70% refurbishment looks the best option given its internal rate of return of close to 30% on capital invested.

Unlike the sell-off which rocked Evolution, the Northern Star reinvestment plan got a tick from investors immediately after its announcement on Tuesday with the stock adding 6% to $7.47 before easing back to its pre-announcement price of $7.04.

Also, unlike Evolution there is a universal consensus among banks and stockbrokers that Northern Star is a buy thanks to its expansion plans, with Citi leading the way with a price target of $11.60, followed by Macquarie and Credit Suisse at $11.

Fortune, it seems, does favour the bold – so long as they can deliver on their promises and that might not be easy for any business planning to expand at a time of steeply rising prices which will make it hard to keep costs down.

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