Miners slash costs but shakeout looms

By Caroline Humer

NEW YORK (Reuters) - Some small and medium-sized miners could see their ranks thinned as a free-fall in commodity prices and tight credit markets threaten to reshape the entire mining sector.

Mining companies have been shelving projects, restructuring debt and adjusting M&A strategies as declining industry fundamentals hit the sector from top to bottom.

The environment is forcing even cash-producing majors to examine their balance sheets, as evidenced by Freeport-McMoRan Copper & Gold's (FCX.N) decision to suspend its dividend and slash capital spending on Wednesday and BHP Billiton Ltd/Plc's (BLT.L) (BHP.AX) cancellation of its planned $66 billion takeover of Rio Tinto (RIO.L) (RIO.AX) last week.

It is pushing small players to focus on survival and if commodity prices continue to decline, it could mean an increase in bankruptcy filings starting about six months from now, bankers and lawyers said.

Metals prices have soared in the last three years on demand from China and other developing countries building up their infrastructure. But prices have dropped sharply this fall amid weakening demand in the global credit crunch. Copper, which is used in wiring for new construction, was selling for more than $4 a pound in July, but was going for less than $1.60 on Wednesday.

Meanwhile, the broad economic downturn has made it tougher for companies to restructure existing loans or borrow more money, experts say.

"If you are looking in the crystal ball for where real trouble will be, it might be in that middle tier of companies that have debt and might have gotten themselves a little overextended," said Kevin Shaw, a partner in law firm Mayer Brown's Houston office.

"If they were not hedged properly then they are going to have to go back and restructure that debt and if they can't, then they will be in bankruptcy," Shaw said.

DARWINIAN CULLING

Analyst Michael Gray of Genuity Capital Markets in Toronto predicted a "Darwinian culling" of junior exploration companies, with 50 to 75 percent of the world's more than 2,000 so-called junior companies unlikely to last the next 12 months. In better times, they usually survived on credit until a larger player came in to fund their projects.

But with metals prices low and even top miners cutting capital spending and stopping production at high-cost mines, only the best projects will get funded, he said.

"It's going to take a while to really see it, because companies will do whatever's necessary to sell assets and generate cash," Gray said.

Distressed assets will come onto the market as companies that have spent money on early stage development realize they will not be able to deliver the project, said Peter Gray, managing director of the energy and natural resources group at KPMG Corporate Finance LLC.

"There is going to be a lot of distress in the middle market and junior mining groups -- companies that have a concentration on one commodity or one geographic jurisdiction," he said.

Buyers of these distressed assets could include the major metals companies such as BHP, Xstrata (XTA.L) and Companhia Vale do Rio Doce (VALE5.SA), he said. Given the difficulty in borrowing money from banks right now, those are the companies that have the necessary cash on hand, KPMG's Gray said.