Newcrest still in running for Lihir

Despite Lihir Gold’s (LGG-T, LGL-A, LIHR-Q) rejection of Newcrest Mining’s (NCM-A) offer on April 1, the potential to create the leading gold company in Asia Pacific may be too strong to ward off indefinitely.

While Reuters is reporting that Newmont Mining (NMC-T, NEM-T) has begun preliminary talks for Lihir, some analysts still see Newcrest as the likely acquirer of the company.

“Our numbers suggest that for most companies in North America, acquiring Lihir would be net asset value (NAV) dilutive,” David Haughton, an analyst with BMO Capital Markets, says. “The most probable scenario is for Newcrest to strike a friendly deal after fine-tuning its current offer.”

While Reuter’s offered scant details on what it said were “preliminary” talks between Newmont and Lihir’s advisors, it can safely be inferred that the advisors mentioned are Macquarie Capital Advisors and Greenhill Caliburn, as Lihir announced it had hired the firms to help it look for options other than the Newcrest offer which valued it at $8.5 billion.

Newcrest had already upped its ante once, as its initial bid in February was an all-share offer, which would have seen it exchange one of its shares for every 9.5 shares of Lihir. Its most recent offer, which was tabled on March 29, was one Newcrest share for 9 shares of Lihir plus A22.5¢ in cash per Lihir share.

On a conference call after Lihir publicly announced it was rejecting the offer, Newcrest’s chief executive Ian Smith said that its offer was still on the table.

Smith said he was surprised by Lihir’s rejection and its decision to make it public, but he signaled some confidence that a deal could still get done when he mentioned that the two have over 50% of their shareholders in common and that Newcrest’s top three shareholders are within Lihir’s top four shareholders.

“I think over next week we’ll be in discussion with our shareholders and we’ll be getting feedback on what they feel should be the next step,” Smith said.

The fact that both companies have their head offices in Brisbane, Australia, points to some of the unique synergies that only a merger of the two companies would capture.

Both also have extensive experience operating large open-pit mines in Australia and Asia Pacific. A combined company would have 10 mines and would generate 52% of its earnings from Australia, 27% from Papua New Guinea, 16% from Indonesia and 5% from Africa.

If Lihir is to up its offer, its key motivation will be the deal’s ability to ensure that Newcrest can safeguard the premium it gets in its market valuation for being seen as a gold play.

Typically gold miners are valued at a higher multiple than their base metal counterparts. Such valuations get tricky, however, when gold producers turn out significant amounts of other metals — typically copper and silver.

And while Newcrest currently generates roughly 75% of its earnings from gold production, Smith conceded that looking out six to eight years, the company’s current assets will start turning out more copper and therefore, the premium in its share price could be at risk.

Acquiring Lihir and its gold-rich Lihir Island project in Papua New Guinea, would stave off such a scenario.

Smith did, however, consistently stress throughout the conference call that while acquiring Lihir was attractive to Newcrest, it was not essential to the company’s long-term growth.

He offered that should Newcrest not able to acquire Lihir, it could alternatively create a base metal spin-off company to protect Newcrest’s gold premium down the road.

Clearly though, acquiring Lihir would be Newcrest’s preference.

A drop-off in Lihir’s market cap that coincided with the loss of its chief executive officer Arthur Hood in January, presented a rare opportunity that Newcrest sought to capitalize on.

“There was an opportunity there,” Smith conceded. “The profile was presented to us when they found themselves in position without a CEO. People started to form a view that over time their valuation would move in a direction that favoured us.”

Smith also argued with some passion that Lihir management, while seeing its own assets as unique, didn’t appreciate the full value of Newcrest’s assets.

“Lihir is a world-class asset but we believe it is a far better asset as part of portfolio rather than as a key asset,” he said. “Together we present a better profile than we do apart.”

As for BMO’s Haughton’s contention that the acquisition of Lihir would be too dilutive, North American majors like Newmont and Barrick Gold (ABX-T, ABX-N), Newcrest’s director of finance Greg Robinson argued that, while the acquisition would be dilutive to Newcrest’s earnings per share in the short term, it would be accretive to the company’s NAV.

“We see the acquisition as mildly dilutive versus where the market multiples are today,” Robinson said on the call, “but we have a strong belief that the combined vehicle has a good probability of getting a re-rating versus other global entities. And so when you look at it from a pure multiples point of view, the transaction is dilutive, but the position of a combined company going forward would offer a good probability of an uplift.”