As complicated as high-profile acquisitions can seem, they often boil down to simple shopping principles. If the sale price is too good, sometimes you would be silly not to buy.
That rationale is at the root of the gold sector's latest takeover deal. Australia's OceanaGold Corp., a smaller low-cost producer, is buying Romarco Minerals Inc. for $856-million in shares, creating an intermediate gold producer worth roughly $1.6-billion.
Romarco is well known in the mining industry for having a quality management team and a good asset – the Haile project in South Carolina. Its major problem is that this mine is not scheduled to move into production until late 2016.
Many junior miners with development assets are in the same boat, and that has made them much less attractive to investors. The gold industry often measures worth by judging miners' share price relative to their net asset value, and in this volatile market only quality producers are rewarded with a P/NAV multiple of more than one. Development and exploration assets are considered too risky to invest in because their capital budgets can escalate or they may not be able to tap investors for the funds they need to finish their projects.
Despite Romarco's prospects – the Haile mine is high grade at two grams of gold a tonne and it's royalty-free, meaning that Romarco will own all the gold production – the company's stock has traded horribly in the past few years, pushing its P/NAV down to 0.76. Because OceanaGold is already producing gold, and because it owns low-cost projects, its stock price is roughly 1.09 times its net asset value.
On a conference call explaining the deal, OceanaGold chief executive officer Mick Wilkes made it very clear that this discrepancy drove the deal. "The current dislocation in the gold equities market, particularly at the development end of the spectrum, has provided Oceana with a powerful opportunity to acquire a tremendous asset at a fair price," he said.
"When you analyze the market, you've got a real dislocation between producers and developers," he added later. Because it's a bear gold market, "people aren't putting money into higher-risk opportunities," he said.
If other executives see the market the same way Mr. Wilkes does, it could spur some acquisitions because miners always need to replenish the metals they have already dug out of the ground.
Explaining his bid, Mr. Wilkes did not shy away from addressing the industry's current woes, which are driven by a weaker bullion price. Even after taking them into account, he still thinks that the deal makes sense. "Some of you might call this courageous or perhaps countercyclical, but we see this as a future opportunity to insulate our business," he explained, adding that the combined company will own low-cost, long-life assets and that the acquisition adds a third geography for the company.
He also said the deal was not hastily put together, either, so plunging commodity prices in the past few weeks were not the sole catalyst. OceanaGold and Romarco hashed out the deal over seven or eight months.
Still, the combined miner will remain susceptible to the bullion price, and some people may ask why such a combination was not discussed even earlier. The gold sector has been struggling for years and Romarco got a taste of just how ugly the market is when it tried to raise money in March, 2013. The company tried to sell new shares, but had to pull the deal because there was not enough investor appetite.
"When Romarco goes out and is unable to complete a financing, it's a wake-up call to the market," chief executive officer Diane Garrett told The Globe and Mail. "This market is very difficult to raise money in, and that became very clear to us … through our deal"
Answering why it has taken this long for gold miners to start making moves is not easy. Each company has its own reason. In some cases, management teams are not willing to put their egos aside; in others, they have to focus on paying down debt or selling assets first.
And even when a deal makes strategic sense, it can be hard to sell to shareholders. Oceanagold's stock fell 17 per cent after the deal was announced.
National Bank Financial served as financial adviser to OceanaGold, while Stikeman Elliott offered legal advice. RBC Dominion Securities and Blake, Cassels & Graydon advised Romarco.
Close: $2.28, down 55¢
Romarco Minerals (R)
Close: 52¢, up 12¢