Guyana Goldfields - An M&A Opportunity

Summary

• Guyana Goldfields is being acquired by Zijin Mining Group.
• Deal terms look straightforward and risks appear low.
• The proposed tie-up follows multiple bids for Guyana Goldfields.
• The spread between today’s price of CAD $1.74 and CAD $1.85 is decent.
• Investing (or speculating) in mergers is inherently risky.

Introduction

Guyana Goldfields (OTCPK:GUYFF) is being acquired by Zijin Mining Group (OTCPK:ZIJMY or OTCPK:ZIJMF) for CAD $1.85 per share in cash. The deal appears straightforward and is subject to two-thirds shareholder approval and approval by Chinese and Canadian authorities.

I took a position in GUYFF at CAD $1.73 in mid-June. This position was taken because the spread is relatively wide but the deal appears clean. Though many issues can scupper deals, the odds of success seem high enough to justify a stake.

Deal Background and Terms

Guyana Goldfields and Zijin Mining announced this CAD $1.85 per share cash offer in June. Shareholders are expected to vote at a special meeting scheduled for the end of July. Two-thirds must vote for the transaction to proceed. The deal also needs to be cleared by Chinese authorities and receive court approval in Canada under the Investment Canada Act. Once it does, it should close shortly thereafter. The outside date is October 30, 2020, but these deadlines are often pushed out if needed.

Guyana Goldfield’s Board of Directors has approved the transaction. They recommend voting for it and have agreed to vote their shares in favor of the agreement. According to INK Research, insiders own 5.01% of shares outstanding. The Board has received third-party fairness opinions from RBC Capital Markets and Stifel GMP.

Source: INK Research

According to the Arrangement Agreement document, Guyana is bound by a non-solicitation clause. This means board members, executives, and employees cannot solicit rival offers. The board can, however, accept superior unsolicited bids. If such a bid does occur, the Arrangement Agreement gives Zijin the right to match.

Termination fees of $11.3 million and expense provisions are in place and cut both ways. This means that if the deal fails due to certain situations, Guyana Goldfields will pay Zijin (if, for example, Guyana takes a superior bid). If it fails for a variety of other reasons, Zijin will pay Guyana Goldfields. Termination fees often incentivize both parties to get the deal done. This said, a $11.3 million hit would have a much larger impact on Guyana, given that Zijin has a much bigger balance sheet.

Unlike many deals, Zijin has access to the capital needed to complete the transaction. This means the deal is not dependent on a financing condition. Zijin’s financial position is also being touted as a source of capital to further develop the Aurora Mine. Zijin has provided Guyana with a USD $30 million secured loan to finance operating costs as well; this further signals Zijin’s level of commitment to get the deal done. The Loan Agreement can be viewed here on SEDAR.

In summary, the deal looks clean. It includes many of the provisions and key ingredients needed to increase the merger’s success, and the actions of both parties imply there is a firm commitment to complete the merger. Investors interested in this transaction can view more detail here.

Ownership Rationale and Risks

I took a position in Guyana because the spread between CAD $1.85 and CAD $1.73 was high at 6.94%. On an annualized basis this would result in a return of approximately 20.8%, assuming the deal does not close until the outside date in October. I am, however, anticipating a close before that deadline, which would increase the annual rate of return. This spread seems out of sync with the risks, which appear low.

Risks can never be eliminated fully. It is possible that shareholders vote against the deal, or that regulators in either China or Canada block it. This is probably the largest risk – but based on my understanding of the review processes, the odds are low. This transaction does not constitute a national security threat, it is relatively small, and the assets in question aren’t even in the country. Mining isn’t a sensitive sector that generates greater regulatory scrutiny either. The same is true of the Chinese review process, although – unsurprisingly – China’s process is less transparent.

Speculators may point to the ongoing dispute between the two nations over Huawei. If the Canadian government blocked the deal and cited Huawei, it would contradict its insistence that Canada’s executive and judicial branches are separate, independent, and that the rule of law is sacrosanct. China blocking the deal and citing Huawei would hurt Zijin, which is a Chinese company, and further ratchet up existing political tension.

Often when deals fail, the shares fall sharply; this is a fundamental problem with merger arbitrage and M&A investing. Even if you’re right 90% of the time, the loss on your tenth trade may be enough to wipe out the gains of the prior nine successes. In other words, the payoffs are asymmetric, and engaging in this kind of investing can be a bit like collecting coins in front of a steamroller.

In Guyana Goldfield’s case, this risk is somewhat mitigated. The main reason behind this is that Zijin was the third bidder for Guyana Goldfields. Silvercorp Metals Inc (SVM) announced it would acquire Guyana Goldfields in April, before Gran Colombia (OTCPK:TPRFF) launched a rival bid. This prompted Silvercorp to amend the original agreement, but then Zijin swept in and presented a better offer. This three-way bidding war suggests the organization is a valued prize. It also suggests that if the Zijin deal falls through, the selloff may be less severe than it would otherwise. Additionally, other bidders could still enter the picture, or a former bidder could up their game.

If the deal fails, gold’s rally should mitigate the risk of a selloff too. Gold is pushing $1,800, and year-to-date sectoral securities including the GDX, GDXJ, and SGDJ are up by 23.5%, 16.3%, and 11.7% respectively. This means the industry is trading at higher levels than it was when the bidding war started, and that should prevent GUYFF from falling back to where it was trading prior to the first bid.

Conclusion

Guyana Goldfield is being acquired by Zijin Mining Group. Owners will receive CAD $1.85 per share in cash if the deal receives regulatory approvals, shareholder approval, and closes. Zijin’s offer follows a bidding war for Guyana Goldfields that included two other suitors. M&A investing is inherently risky. While merger risks are present in this case, the terms of the Zijin deal are clean and the risks appear low. The spread between $1.85 and the current share price of CAD $1.73 generates a 6.94% return. As such, I have taken a stake in the name.

Disclaimer

The opinions expressed – imperfect and often subject to change – are not intended nor should be taken as advice or guidance. Contra the Heard Investment Newsletter is not an investment advisor or financial advisor. Contra the Heard Investment Newsletter provides research, it does not advise. The information enclosed in this article is deemed to be accurate and reliable, but is not guaranteed by the author.

Editor's Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.

Analyst’s Disclosure: I am/we are long GUYFF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.