A Dismal Year For Junior Mining

In contrast to the exuberance that characterized 2007, the late months of 2008 was a dismal period for junior mining.

According to the annual PricewaterhouseCoopers review of trends in the TSX-V mining industry, Junior Mine, the market capitalization of the top 100 companies, declined marginally from $20.2 billion on June 30, 2007, to $18.1 billion a year later. But by the end of November 2008, the market capitalization of the top 100 had plummeted to $4.1 billion as the global financial crisis worsened and investors fled this volatile sector.

During the year ended June 30, the market capitalization of the entire mining sector fell 27% to $29.4 billion, compared to a decline of just 5% for the TSX-V as a whole. Moreover, the share of the TSX-V market capitalization represented by mining companies dropped from 65% to 50% over the year as investors shunned higher risk exploration companies, which make up the majority of mining listings on the TSX-V.

Yet, while the first half of 2008 was challenging, it appeared that the worst was yet to come. By September 30, the mining sector’s market capitalization had plummeted to $15.3 billion and, by November 30, to $7.9 billion, a 73% decline in the five months to the end of November 2008.

Detailing the decline

Even the production companies among the top 100 recorded a negative EBITDA (earnings before interest expense, taxes, depreciation and amortization) but after write downs of assets of $170.8 million for the year ending June 30, 2008, compared to a gain of $59.5 million during the same period in 2007. Sources of financing also began to dry up, leaving companies with limited cash to finance their exploration and development projects. Overall cash is down $443 million and liabilities have increased $1.1 billion. In the year ended June 30, 2008, cash from share issuance dropped to $2.23 billion from $2.97 billion in 2007. Despite this decline, spending rose slightly with $202 million ($184 million in 2007) expensed on exploration and $1.23 billion ($1.20 billion in 2007) capitalized on properties, plants and equipment as the cost of doing business rose.

However, in terms of representation on the TSX-V, mining’s significance remained intact in 2008; the number of companies fell only slightly to 44% of the 2,395 listed companies from 47% in 2007. In fact, the number of mining listings actually rose from 1,057 on June 30 to 1,085 on November 30. This reinforces the notion that market capitalization among the sector did not decline because the TSX-V was losing mining companies, but rather because the listed companies were collectively losing share value.

The recession’s impact

There could be no clearer indicator of the impact of the global financial crisis on the junior mining industry in Canada and around the world than the market capitalization of mining companies on the TSX-V, which fell from $40 billion on June 30, 2007, to $7.9 billion on November 30, 2008, a decline of 80%. Most of this loss happened between June and November 2008, as investors bailed out of equities, especially high-risk ones, and engaged in tax-loss selling.

Production companies also suffered from lower commodity prices in the latter half of 2008 that further squeezed profit margins already re-duced by the high cost of labour, equipment and energy.

In addition, financing from both the debt and equity markets has dried up, making it difficult for explorers and developers to raise money for their projects. Companies with proven resources have had some success raising financing, but they have had to accept far more stringent terms such as larger hedging obligations.

Rocky road ahead

Until some confidence in the market returns and investors are willing to shoulder risk again, many projects will remain on care and maintenance. Some companies without proven resources will disappear altogether as they run out of money to cover even the most basic administration.

However, the industry has faced these issues before and demand and commodity prices will rise again in better times. Looking ahead, those companies with proven reserves will be able to weather the financial storm, either by becoming the target of cash-rich majors, or by raising debt financing with stringent repayment terms and hedging obligations. The exploration companies that make up the majority of top 100 companies, however, are also in danger of running out of cash as they continue to be shunned by risk-averse debt and equity markets; these companies will be judged by the quality of their projects and their management. Investors will position themselves for better times and new projects, and new listings will continue to come forward although at a reduced price for the next several months.

For more information visit www.pwc.com/ca/mining