Flying and banking behind the curtain
16 March 2010
Sean Russo
I HAVE just returned from my first visit to PDAC. It certainly won’t be my last. What an amazing forum. It is testament to the scale of the mining industry worldwide and its still bright future mixed with a reminder that we share a great deal with the gaming industry, but their odds are better. If they had cocktail waitresses and punters that could buy stocks with “PDAChips” I think they could run it 24 hours a day for the three and a half days it is on.
In the past I had been put off by the travel times and stories of 30-below-temperatures and blizzards; neither turned out to be a major issue.
Even down the back of the plane the trip was pretty easy. One quick stop in Vancouver, a book half read for months finally finished, three movies, and I was there. It probably also has something to do with the fact that I can sleep quite comfortably on the top of a picket fence so the attraction of a “flat-bed” doesn’t seem to justify the substantial “price multiples” that apply to the other side of “that curtain”. Not even the lure of premium wines and spirits works now that I am experimenting with a tea-total lifestyle.
I was delighted to spot at least one explorer with a very “robust resource” in Indonesia was also flying behind the curtain with me. Compared to the value that can be achieved putting that money in the ground the price differential for a business class ticket is hard to justify, but many companies that have no cash flow at all or are losing money still seem to justify this largely unjustified use of shareholders' money. I have trouble justifying it if you are profitable, as we are, because I would rather we spent that money on: things that add value to the service we provide our clients; more regular travel for the same total expenditure; or, simply saving the difference so that our profit share pool is bigger for all staff.
The other thing I know about having an economy only (or perhaps a premium economy every now and then) policy is people think twice about travelling and that’s a good thing if you consider that the lost productivity when someone travels is often multiples of the premium fares (which are multiples of the base cost), if the purpose of the trip is questionable in this age of improved communication. I have long advocated that companies should have a cash back policy such that an individual can receive, in cash, half the saving to the company of any decision to fly or accommodate themselves while travelling at a level below what their travel policy allows. If that were done I am convinced the number of frequent flyers moving back down behind the curtain to bank half the difference would be enormous.
Since the demise of the Concorde, which could actually get you there faster, the argument for premium fares has been a tenuous one. The people on our side of the curtain got to Toronto at exactly the same time as our privileged partners on the other side of the curtain. What’s more, no amount of money spent on an air ticket will save you from that very strange sensation of waking up in the middle of the night in a faraway land because you need to do “number twos”. That’s right; the basic issues around jet lag and the impacts of moving your body out of its very regular sleep (and other) cycles into a different time zone are not in any way improved by the increased expenditure on an air ticket.
In my opinion premium travel only exists for the super wealthy and people spending other people’s money. The airlines certainly recognise the latter point in the way they reward individuals the frequent flyer points, not the companies that pay for the ticket.
To their credit at least the airlines recognise the game for what it is and have worked hard to try and create at least the appearance of sufficient differentiation to support the tenuous purchase decision. To this end I think bankers need to take note.
From where I sit dealing with banks as a client advocate I see an industry that is increasingly charging First Class prices for Economy product. The problem is many of them don’t see it because it’s not that they have put up prices but simply that their offering has slipped considerably. I am not anti-bank. I spent 20 years in the industry and I loved it. In the main the individuals within banks are still working hard (those that never did, never will), most of them are very customer focused and well meaning. Like all of us they still aspire (or need) to earn what they earned in the past and consequently still price deals similarly (or more expensively due to “cost of capital”) to what they were charging two or three years ago. The huge problem is that many of their employers are simply not willing to take the same risks as they used to! As a consequence an increasing number are trying to deliver an inferior product at what are now premium prices and if they are not mindful of this they will find non-bank lenders and various hybrid equity products take a substantial share of what they consider to be their market. Think Ryan Air, think Jetstar.
What do we pay for when we borrow money or wish to hedge? We compensate the bank for the risk they assume that we might fail to repay and what that failure might cost them. In banker jargon that’s LoL – likelihood of loss, and LIED – loss in event of default. (Many people think the latter term is actually referring to the fact that loss occurred because the bankers lied to the credit committee or the customers lied to the bankers).
The more risky your venture; the more potential risk the bank is willing to take on; the more flexibilities they are willing to afford us to recognise mines don’t always go to plan and commodity prices are volatile; the more you should be willing to pay. But they must be willing to take the reasonable risks associated with mining finance or they should simply get out of the sector.
At Noah’s Rule we work hard in our debt advisory assignments to ensure customers don’t overpay on margins but the relative value to a borrower of a banking facility is not measured by what is set out in the term sheet as fixed fees or percentage margins. The reality is you will never truly know if you have done a good financing deal until the banking facility is severely tested and you successfully work through it. This means the character of the bank and their track record in dealing with adversity is very important, but more than their track record and promises customers need to ensure the basic framework of a good financing is not being eroded in the terms and conditions.
The devil, as they say, is in the detail and this is where borrowers and their advisers must be diligent.
Banks which say they will lend money to miners without mandatory hedging should be avoided if they still insist on all their standard banking ratios being documented. This probably means they currently don’t have the risk appetite for the hedging that is reasonably necessary so they are “hoping” prices stay up. Be assured the minute commodities prices go against you, hedging, asset sales or equity raisings will be the topics of their all too regular conversations with you. Equally we have recently seen a long term mining bank insist on capped hedging exposures such that the borrower must buy call options at enormous cost to cap hedging exposures and yet they still want all the financial accommodations and charges they were receiving when they were willing to do it properly (ie. uncapped). A borrower may choose to cap their delivery risk but any bank that can’t price and manage the delivery risk associated with sensible hedging through all possible price scenarios has no business in offering finance to mines.
At PDAC I observed a range of alternative financings that had been done by non-bank lenders or companies that could have geared eschew debt completely. Not all were great or a great deal different to what might have been done with a bank and I suspect some of the companies weren’t “bankable” in the traditional sense, but interestingly the companies generally expressed complete dismay with their attempts to deal with banks; in short, they didn’t use a bank because they didn’t see the value. Money like air travel is a commodity business. Every dollar in the borrower’s hand, like all the seats on a plane, are pretty much the same.
Banks increasingly need to understand that other banks are not their only competition and a desire not to hedge is not the only reason mining companies are avoiding them. Borrowers need to know they have a choice and recognise if they choose to take a premium product the advantages must be real rather than perceived.
Remember that curtain on a plane is there to stop the premium passengers wandering down the back to discover we also have our own video screens, toilets, meals, free booze and life jackets. Oh, and many of the statistically safer seats!