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Analysis

Financing Alternatives Are Gaining Strength

By Paloma Duran | Mon, 07/05/2021 - 12:44

Mining companies around the world have long struggled to finance their development projects. Last year, the market environment created by the COVID-19 pandemic made this more difficult. Investors and financial institutions are being more cautious when choosing a project, which has prevented many companies, most of them junior and small, from continuing with their projects.

Alternative financial solutions have breathed new life into these companies, strengthening investor certainty to provide capital for new projects. The use of these solutions is expected to increase to 40 percent of the total financing in the sector over the next 10 years.

New Mining Super-Cycle

A mining super-cycle is expected soon, with major implications for both producers and investors. According to specialists, the super-cycle is not here yet but it is only a matter of time before markets start facing supply problems, especially if the green transition is accelerated. Therefore, the main questions is, how strong will the demand be and ow long will high prices last?

Commodity prices are always cyclical, the mining sector has been part of five cycles since 2000. Cyclicality and higher volatility are generally expected as ore grades decline and mine conditions deteriorate, which increases mining costs. Historically, cyclical commodity prices have been the cause of many financial challenges for mining companies, including volatile valuations and cyclical capital expansion, together with underinvestment during recessions and overinvestment during bull cycles. These conditions complicate the completion or further development of a mining project.

Volatile valuations

Historically, mining valuations are closely related to spot prices. According to Mckinsey & Company, mining market capitalizations are 93 percent correlated with commodity prices. In addition, there is a gap between the value of the entire industry when calculated using discounted cashflows that reflect its performance, against a calculation using the average market capitalization that reflects investor confidence. Results are normally 1.4 times higher using the latter approach since 2008.This volatility lowers the financial attractiveness of public equity and contribute to volatile investment cycles.

Cyclical capital expansion

As a consequence of the correlation between prices and valuations, mining companies usually have “peak” capital expansion cycles, where fundraising has to do with price levels. “The correlation between price and investment expenditure is high — 73 percent over the past decade — and is expected to continue going forward, based on anticipated capital-expenditure-expansion plans,” reported Mckinsey. This faces mining companies with financial challenges as they cannot capitalize efficiently when prices are high because they did not invest enough in the downturn cycle. Meanwhile, during downturn cycles, companies can overextend due to expansion programs that were not properly planned.

Mining returns throughout the cycle are attractive. However, volatility is discouraging for investors. According to Mckinsey & Company, the current environment is an opportunity for mining companies to improve their capital planning and avoid these financial challenges. 

Financing in Mining

Raising capital has proven to be a challenge in today's market, even more so for mining companies, which means that lowering risk is essential for operations to remain attractive. Extractives Hub, of the Centre for Energy, Petroleum and Mineral Law and Policy of the University of Dundee, lists the main considerations that funders and companies take into account before accepting a project. The Top 10 risk considerations include likelihood of raising productivity, access to capital, social license, project cost, budget compliance, price volatility, access to infrastructure, access to water and energy, local opportunities and profitability for stakeholders.

In addition to reducing risks, mining companies require significant capital to develop their projects. Currently, the main financing solutions include:

  • Cash reserves. Mining companies can accumulate funds to finance projects during the operational life of the mine. Financing new mines with cash represents avoids debt and interest liabilities, keeping equity undiluted.
  • Debt funding. In this case, a financial institution is willing to invest in new projects. However, mining is a relatively high-risk sector and therefore interest rates can be higher. Institutions assess risks and ensure that the project is technically and financially viable.
  • Equity. To raise funds without resorting to debt finance, mining companies offer equity, which can be shares, giving priority to certain shareholders.
  • Joint venture. It is a risk-sharing mechanism, where two or more partners fund the project and provide expertise, contacts and equipment, among other advantages.
  • Streaming. Funds are raised by selling the right to a commodity in exchange for an advanced payment. It gives the right to buy the total or part of the metals produced in a mine.
  • Royalty. It gives the right to receive payment based on a percentage of the minerals produced at a mine or of the profits generated from their sale. 

According to CAMIMEX, there are around 12,000 mining projects around the world worth approximately US$1.2 billion. However, in Mexico, financing of various projects declined due to political uncertainty, the fiscal situation and insecurity that made the country less attractive. The Annual Survey of Mining Companies 2020 organized by the Fraser Institute showed that Mexico fell from 38th to 42nd place as a mining investment destination. In addition, the country fell from 61st to 51st place regarding attractive policies for investors. However, a much more balanced Chamber of Deputies and the receding COVID-19 pandemic make 2021 a more promising year.

During 1Q21, the Mexican mining sector reported high foreign direct investment (FDI) of US$1.05 billion. It is the second best first quarter the sector has had since 2014, when it attracted US$1.158 billion. According to the Ministry of Economy, mining FDI during 1Q21 was 176 percent higher than in 1Q20, when it only received US$381 million. Senator Miguel Ángel Lucero told MBN that the 1Q21 FDI records provide a positive outlook for the rest of the year.

Some of the projects that have received significant funding and are expected to shine in 2021 are:

  • Tahuehueto. Telson Mining, now Altaley Mining, announced it secured a US$25 million loan to complete the construction of its Tahuehueto mine. Funds came from Empress, Accendo Banco and Endeavour Financial, including an equity private placement of US$8 million, an Empress silver stream of US$5 million and a debt facility of US$12 million with Accendo Banco, which is expected to be closed in May.
  • Los Ricos North. GoGold Resources closed a bought deal offering of CA$28.75 million (US$23.70 million), which will be used to further develop Los Ricos North and South projects in Jalisco. The offering was for 10,000 common shares at a price of CA$2.59 (US$2.13) per share for a gross profit of CA$25 million (US$20.61 million). The deal was led by BMO Capital Markets, supported by an underwriter syndicate including Sprott Capital Partners, PI Financial Corp., Eight Capital, Echelon Wealth Partners Inc. and Desjardins Securities.
  • Pinos District. Candelaria Mining also announced it entered an agreement with Echelon Wealth Partner. The company expects to raise up to US$20.8 million in a private placement, which will be used for further exploration and to finance construction of its Pinos gold project, which is expected to start production in 2022.

Alternative Financing Grows Significantly

Though numbers appear to be climbing, following the crisis, there is still untapped potential in alternative financing solutions that small and junior miners could take advantage of to gain access to financing. These solutions represents less than 1 percent of the global financing in the sector at around US$10 billion to US$15 billion. Experts do not see this as a bad sign but rather as an opportunity to further increase alternative financing in mining.

McKinsey & Company has estimated a total alternative financing potential of up to US$800 billion over the next 10 years, which is equivalent to 40 percent of the estimated capital investment needed in mining in that timeframe.  Falling prices and uncertainty in the debt and equity markets hinder mining’s attractiveness for traditional investment. However, alternative financing has the potential to help miners to maintain their cashflow during uncertain periods and to avoid the boom-bust cycle.

The following are among the alternatives that companies may consider:

  • ESG loans: Green loans that seek to finance environmentally friendly projects, which can be related to increasing energy efficiency, decreasing CO2 emissions or improving water management.
  • Nordic Bonds: High yield bonds that are gaining popularity in industries like oil and gas and now mining. These are based on standard loan documentation but can be customized for mining. They are generally structured around maintenance and not incurrence agreements.
  • SPACs: Popular alternatives for UK IPOs, where founders raise money through the listing of a company with the sole purpose of acquiring another.
  • RTOs: A faster way for a company to be listed and gain access to funding, without going through a complex process, which involves a private company taking over a publicly listed company.
  • Crowdfunding: This offers anyone the chance to participate in the development of projects with small amounts of money.
  • Cryptocurrency: This has emerged as a decentralized financing option, which remains attractive because it offers initial capital without diluting equity ownership.

According to a Fieldfisher report, a green trend will continue to grow in the financial sphere, bringing higher demand for alternative financial solutions. “Two major trends have dictated the pattern of mining finance deals over the past two years: ESG and COVID-19,” said Fieldfisher’s Head of Mining and Metals, Jonathan Brooks.

The data used in this article was sourced from:  
CAMIMEX, BNamericas, MBN, Field Fisher,McKinsey & Company, Extractives Hub, S&P Global,
Paloma Duran Paloma Duran Junior Journalist and Industry Analyst