Pengana Joins BT to Flag Roll Back of Mining’s Age of Austerity

After three years of spending cuts in the wake of the global mining boom’s $250 billion capital investment spree, investors including Pengana Capital Ltd. scent companies are looking to re-open their checkbooks.

“The reduction in spending plans will be rolled back, without a doubt, perhaps we’ll start to see this in the second half of the year,” said Tim Schroeders, who helps manage about A$1.1 billion ($1 billion) in equities at Pengana, including BHP Billiton Ltd. and Rio Tinto Group. “I suspect the austerity ethos had a limited shelf-life to begin with.”

Commodities outperformed equities and bonds in the first quarter and Glencore Xstrata Plc this month said the outlook for its main products is positive, as industry debt levels plunge and cash flow forecasts gain. Glencore Xstrata, BHP and Rio are among companies who championed austerity after prices plunged and the industry was hit by $60 billion in writedowns.

A substantial increase in new equipment purchasing is slated to start from 2016, according to Citigroup Inc.’s first-quarter mining survey. That year, net debt at Rio, the world’s second-largest mining company, is set to touch a 10-year-low of $5.1 billion, while Glencore Xstrata may be the lowest since 2009, according to RBC Capital Markets.

Free Cashflow

The austerity drive is generating bumper free cashflow forecasts. Free cash flow at BHP, the world’s biggest miner, is projected to rise to $11.6 billion in fiscal 2016, an 8-fold increase on fiscal 2013 levels, according to Macquarie Group Ltd., and Rio’s will more than double to $10 billion.

“Many investors believe that in 2016 miners will ramp up capex because they’re more concerned with growth than free cash flow yields,” Timothy Huff, a London-based analyst with RBC, said by phone.

While Rio forecasts capital spending will drop by more than half to about $8 billion in 2015 and BHP estimates a similar decline to about $11 billion in 2016, Glencore Xstrata calculates forecast capex for big miners this year will be more than $60 billion, still double the spend in 2007.

Spokesmen for BHP, Rio and Glencore declined to comment on some investor expectations for a softening of miners’ austerity stance, referring to CEO presentations at this month’s Bank of America Merrill Lynch mining conference in Miami.

M&A Firepower

“For most resource companies, this is the time when you need to be prowling and opportunistic, not just throttling back on everything,” said Brenton Saunders, a Sydney-based investment analyst with BT Investment Management Ltd., which manages about A$62 billion ($58 billion), including shares in BHP and Rio. He expects some moderation in capital spending rhetoric to start over the next 12 months.

Miners started dumping expansion plans from 2012 after a 10-year commodity price boom peaked and cost inflation crimped returns. This prompted a changing of the guard among CEOs at global miners as investors including BlackRock Inc. and Australian Foundation Investment Co. demanded greater capital discipline and increased return to shareholders.

“There was a need for more focus on capital returns, but I suspect some companies are gilding the lily by making short-term cost improvements that are unsustainable,” said Pengana’s Schroeders. “The drop in future exploration and capital expenditure is unsustainable, there needs to be a better balance.”

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