You’re the chief executive at one of Canada’s many mid-tier gold miners. You’ll make something in the neighbourhood of $5-million this year.
If you just show up for work every day and don’t do a deal, you’ll likely be paid about the same amount next year. But your miners will spend the whole year digging and turn a significant portion of your gold reserves into gold bullion, which means you’re one year closer to turning your mid-tier company into a small-cap miner. And that is not the reason shareholders are paying you all that money.
As CEO, you’ve got board members, investors and bankers urging you to replace those declining reserves by staging a takeover. Jump in, they tell you, the water’s fine. But you look at the destruction of wealth that’s come with the majority of mining acquisitions over a period of decades. And you recall the resulting carnage in the ranks of fellow CEOs. So you hesitate.
Welcome to the corner office of a modern mining company. CEOs and boards have a well-founded reluctance to roll out acquisition-based growth strategies. However, gold bullion prices are rising and everyone agrees that the sector is ripe for consolidation. A few brave souls already stepped up late in 2019, buying smaller rivals or mines that senior producers no longer wanted.
Takeovers are coming in the Canadian gold industry. History tells us that some of these deals will pay off handsomely and many others will fail miserably, costing CEOs their jobs.
The logic behind mining takeovers is compelling. Most mid-tier precious metal producers rely on one or two mines. If something goes wrong at these properties, or in the country where they happen to be located, the stock price falls down a mine shaft. A report released earlier this month by Bank of Nova Scotia highlighted the potential for takeovers: “Both investors and companies tell us that after a host of performance issues experienced by single-mine operators, it is time to consider mergers,” the bank’s mining analysts wrote.
“There are sound reasons to make acquisitions – namely, reserve replacement and diversification,” Scotiabank’s team said. The analysts then helpfully listed their favourite takeover targets, including Torex Gold Resources Inc., which has a reserve-rich mine in Mexico and $1.5-billion market capitalization, B.C. mine owner Pretium Resources Inc., valued at $2.6-billion, and New York Stock Exchange-listed SilverCrest Metals Inc., with a US$734-million market cap and silver mines in Mexico.
Mining bankers and analysts can resemble waiters and sommeliers in expensive restaurants – they produce menus with a flourish and recommend the most expensive items. “Chef recommends the Torex, paired with SilverCrest.” It’s all quite wonderful in the moment. The pain comes when the bill arrives.
Consider the indigestion suffered by investors in Kirkland Lake Gold Ltd. last November, when the mid-tier producer announced plans to diversify from its best asset, a low-cost mine in Australia with relatively small reserves, by making a $4.9-billion, all-stock bid for Detour Gold Corp., which owns a high-cost property in Northeastern Ontario that has far larger reserves.
That deal seemed to check all the boxes. Yet Kirkland Lake’s share price dropped a staggering 17 per cent on news of the takeover. Kirkland Lake CEO Tony Makuch said he was “shocked and disappointed” by the negative reaction.
There are already industry experts warning the current bull market for gold stocks brings the risk of poorly timed takeovers and misguided investments in new mines. In a report published last week with an overall optimistic outlook for the sector, mining analysts at RBC Dominion Securities warned: "We think investors are right to be concerned on whether discipline on capital allocation holds, or whether the higher gold price environment will be met with higher capital spending guidance and an acceleration of lower quality projects.”
Mr. Makuch is effectively on notice. Shareholders in Kirkland Lake and Detour are scheduled to vote Tuesday on the planned takeover. If they approve the deal, as shareholder advisory firms recommend, Kirkland Lake’s CEO needs to demonstrate its merits by lowering production costs at the Ontario mine and winning back a premium stock-market valuation. Or Mr. Makuch, who made $4.4-million last year, could join a long list of chief executives who paid for a failed deal with their job.