U.S. mining sector to recover slowly; gold and copper the exception - S&P

S&P Credit Analyst Marie Shmaruk says the rating and timing of improvements to the U.S. metals and mining sector will be slow, uneven and inconsistent across the sector.

RENO, NV - 

While the U.S. metals and mining sector may be regaining some of its luster, Standard & Poor's still suggest a slow road to recovery ahead for metals and mining.

However, credit analysts Marie Shmaruk, Michael Scerbo, Maurice Austin, and Sherwin Brandford advised, "gold and copper have been notable exceptions."

"Gold prices have remained high as that metal played its traditional role as a store of value in tough times," they said. "Copper has benefited from strong Chinese demand and reasonably favorable supply-demand characteristics."

"However, even for the rest of the sector, there have been signs that at least parts of the domestic economy have hit bottom and international markets are recovering, resulting in improved orders and better pricing," they added.

"Although domestic demand for most metals remains very low, several companies have indicated that end users and service centers, now holding very low inventories, have begun to increase orders, and the ‘Cash for Clunkers' program gave a boost to auto demand," S&P said. "As a result, we expect that steel and aluminum producers will begin to report improvements in their operations. "

Nevertheless, the analysts suggested there are several factors that are key to sustainable improvement in credit quality for the metals and mining sector:

•·Economic growth. The sector is highly correlated to economic growth and will require healthier auto, commercial, construction, and industrial demand before volumes and pricing recover.

•·Chinese economy policy. Chinese copper buying has boosted copper prices, and, to a lesser degree, the price of other metals. "However, the large amount of Chinese steel capacity could disrupt markets if insufficient internal demand results in a surge of low-priced Chinese producers.

• Producer discipline. "Both aluminum and steel manufacturers have significantly reduced capacity. As a result steel pricing has improved as demand has improved, but as capacity comes back on line, an orderly increase in production will be a key factor to returning to and maintaining profitability."

• Auto demand. "With auto manufacturers utilizing a significant amount of total steel sold in the U.S., increased auto sales and continued sales momentum after ‘Cash for Clunkers' could help support stronger steel company balance sheets."

• Liquidity position/cash flow generation. "Most of the larger companies in the industry have taken steps to shore up liquidity through debt and equity offerings, and have obtained covenant relief where needed. In our view, those steps should be adequate to support them through the downturn."

S&P's outlook for base metals is somewhat mixed. "Prices have improved during the course of the year, likely due to the combination of Chinese buying to build stockpiles, some amount of speculation and, recently, as a result of better demand." Meanwhile, aluminum prices are approaching levels "that would significantly improve cash flow for primary producers."

Nonetheless, the analysts forecast the credit quality of aluminum producers "is likely to continue to be weak into 2010. Although the industry has announced a significant amount of smelter curtailments, they have been insufficient thus far to reduce very high London Metal Exchange (LME) inventory levels, and end market demand has yet to show sustained improvement."

The analysts noted that coal companies "are also operating under tough conditions," citing poor domestic electricity demand, switching to lower cost natural gas by utilities, and a mild summer in parts of the U.S. that have increased utility inventories.

"This has caused them to cancel or defer coal contracts for the year," the analysts said. "As utilities renew contracts into 2010, they may do so at lower prices.'

Meanwhile, the sharp decline in metallurgical coal demand and prices resulting from low steel production levels has hurt the financial results of some met coal producers, S&P said. Although met coal prices are improving, S&P advised they are "still significantly off last year's highs."

S&P ranked all the rated mining and metal companies from strongest to weakest based on rating and outlook. Newmont Mining was ranked as the second strongest mining and metal company while Freeport-McMoRan Copper & Gold was ranked sixth. Among the lower ranked precious metal companies were Coeur D'Alene Mines, which placed 30^th, and Stillwater Mining, which was ranked 35^th of the 40 mining and metals companies within S&P universe.

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