Hedgers battle non-hedgers

Normandy Mining’s board of directors has recommended shareholders accept the takeover bid made by Newmont Mining.

Newmont arrived in mid-November as a white knight to outbid AngloGold, which had offered a takeover to Normandy shareholders in September. Newmont’s charge may illustrate how the boundaries will be drawn in the gold industry’s consolidation game. The non-hedgers are grouping and, at least at the level of the biggest players, they are making the larger deals. Only Barrick Gold’s takeover of Homestake Mining is showing in the hedgers’ column.

Normandy’s largest shareholder, Franco-Nevada Mining, had not troubled to disguise its dissatisfaction with the AngloGold bid, and has not concealed its own deal-making agenda. The breakup fees in Newmont’s bid — payable to Newmont by Franco and Normandy — are a strong indication of just who got on the phone to arrange this bid. Cash-rich and unencumbered by operating worries, Franco-Nevada looks ready to make good on its promise to be the gold industry’s king-maker.

After a proposed merger with Gold Fields (which would have created a very strong producer) was torpedoed by the South African finance ministry, Franco made a deal with Normandy that appears to have strengthened both companies. Normandy gained cash and an excellent property in the Ken Snyder mine in Nevada; Franco gained a Normandy shareholding at least two big producers want badly enough to pay for.

Franco-Nevada management’s strategy of seeking a larger integrated gold producer to take the company out is looking ever more prescient. It has been rightly observed that, to a shareholder, there is no such thing as a hostile takeover; the world of takeovers is governed by the premium paid to the hunted, not the benefits to the hunter, and it will be Franco-Nevada and Normandy shareholders that profit most from any battle between bidders.

As happens with all paper bids, the cash value is a target that moves with every share trade. Since the mid-November bid was announced, Newmont’s share price has slid while AngloGold’s has enjoyed a mild upswing, bringing the nominal cash value of the two bids quite closely in line, around A$1.43. Normandy shares, at the same time, have surged to A$1.55.

The market seems to be thinking three things, not all of which can happen at the same time. Normandy buyers obviously think another bid is likely, an eventuality that would be expensive for Franco, Normandy and the bidder alike. Buyers of AngloGold shares seem to be anticipating a folded hand from the company, because a higher bid could be yet more dilutive to AngloGold, a company that is not especially cash-rich. But then, who would jump the Newmont bid?

The market’s reaction to Newmont and Franco-Nevada is more interesting. Newmont sellers clearly believe the company is ready to pay a premium for Normandy and have bid the price down accordingly. This further suggests that a lot of people believe Newmont has an effective lock on the deal, especially as Franco-Nevada has committed to tendering its Normandy shares.

Franco, which will receive Newmont shares in the merger, has seen its shares decline to $23.20, a figure out of proportion to the value of a share trade with Newmont, which would be around $24.60. If the takeover happens, Franco is under-priced; if another bid materializes, Franco is very under-priced.

The market’s calculations could fall to pieces if the gold price starts to move. Historically, both Newmont and Franco, being unhedged gold sellers, have jumped with any rise in the gold price. Not so AngloGold and Normandy, which both hold substantial hedge books. Both companies have hedges committing just over three years’ worth of production, but Normandy’s book averages US$285 whereas AngloGold’s averages US$300. Should the gold price turn, Normandy’s revenues will get the least benefit, but a trade for Newmont shares may suddenly look very attractive.

Where the rest of the industry is going can probably be read from the Newmont deal and the groupings now forming near the top of the league table. Gold Fields, hampered by South African policy, will look to expand as a South African mining house with overseas interests (possibly by absorbing Australian producers Delta Gold and Goldfields, once their merger is complete). Barrick will digest Homestake and may look to pick up classy individual operations. Placer Dome, with cash, a moderate hedge book, good assets, and no concentration in a particular region of the world, may try to position itself as a gold-industry generalist.

It’s not the “three or four producers” the consolidation prophets expected. But prophets get cheated so often.