Flexibility drives unbundling

When, or these days if, investors consider gold shares, local political risk is just one of many things that may cause them to stand back. To say that the global gold industry has disappointed investors during the gold bull market of the past decade is an understatement.

Despite huge capital investments, production has shrunk, costs have risen sharply, recovery grades have dwindled and dividends have been thin. In a period when investors would have expected the miners to leverage a rising gold price and increase margins and returns, the opposite has happened. The shares have performed dismally and the producers based in SA have done worse than many of their international peers.

Gold Fields CE Nick Holland sketched out that gloomy scenario at a presentation in Melbourne in July. Investors in gold stocks, he said, need to believe that the miners will deliver on their growth projects and on their promises. On both counts, management credibility is frayed.

The company’s announcement that it will unbundle its mature SA mines into a new, separately listed company known as Sibanye must be seen against that background.

Sibanye will hold the ageing Kloof, Driefontein and Beatrix mines, which are deep and labour-intensive. They are cashgenerative and less capital-hungry than the planned international expansion or the development of the newer South Deep, a very large, deep-level and mechanised project. Instead of being paid out in dividends, cash from the mature SA mines has been used to fund South Deep.

Holland says the unbundling is not an SA or non-SA issue, it’s about separating out operational assets with different risk profiles and characteristics. He points to other benefits, including greater management focus in both companies. But it would also make Gold Fields a more international company and greatly reduce its exposure both to SA and to labourintensive operations in SA. After the unbundling it would produce only 13% of its gold locally, though that will rise later.

The scheme creates more choice and flexibility for investors, and may improve the companies’ funding capacity and share ratings. It’s tempting to conclude that the unbundling plan is a direct response to the recent labour conflict on SA mines and that other companies may follow.

That may not be correct. The gold sector is a special case, with profound structural problems. Gold Fields and Sibanye will remain domiciled in SA. AngloGold Ashanti is doing a good job of reducing its local exposure, without restructuring.

Nonetheless, there is a clear message in the Gold Fields unbundling. The costs and risks of operating or investing in SA are rising, and so are the disincentives for investors. Investors in focused SA mining operations may demand high and sustainable dividend yields to compensate for risks.

In many sectors, companies still earn high returns on equity from their local operations. Sappi, a forest products company, has diversified internationally but its most profitable business is in SA. The same could be said of many others.

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There may not be a renewed rush to unbundle offshore operations, but it seems safe to assume that local labour conflict and political uncertainty are encouraging many companies to think about it. Companies such as Bidvest have created structures that would allow an easy separation of domestic and foreign operations if they decide to do so.

More important than shareholding structures is the direction of capital flows, from investors and from companies. Domestic capital spending remains subdued, but many SA companies are spending on foreign expansions. This week Sasol said it could spend US$11bn-$14bn on a growth project in the US. Sun International announced an acquisition in Panama that will require a R933m investment.

In 2004, former Anglo American CE Tony Trahar was harangued by Thabo Mbeki, then president, for referring to the SA political discount. Today, few could doubt that the risk exists and is rising. It’s rational to consider ways of mitigating it or of improving incentives and flexibility for investors.