Surviving the Bre-X scandal

The recent scandal involving Bre-X, a junior Canadian mining company that claimed to have found the world's largest gold deposit in Indonesia, sent shock waves through the Canadian investment community. At risk was Canada's international reputation for mining expertise, and its position as the leading market for mining investment and finance.

In the days immediately following Bre-X's disclosure of the largest mining fraud in history, its $5bn market capitalisation was virtually wiped out. Many domestic and international investors in Bre-X incurred significant losses. Law yers, bankers and executives involved in raising capital for the Canadian mining industry were left with a number of burning questions.

Would the Bre-X scandal destroy Canada's thriving junior mining companies? Would the Toronto Stock Exchange, the world's leading market for gold stocks, fall off its perch? Would Bre-X precipitate a loss of confidence among foreign and domestic investors, which would lead to a wider economic downturn?

A couple of months later, some answers are starting to emerge. For Canadian lawyers, who have seen strong corporate finance and M&A-related activity in the mining sector over the last few years, it may now, at last, be possible to breath a sigh of relief.

Following the Bre-X announcement the price of many of Canada's junior and intermediate mining stocks took a beating, from which they have not yet recovered. In the present climate, it remains difficult for junior companies to raise speculative equity capital. The impact has even been felt by some of Canada's largest mining companies, which have also been affected by falling gold prices.

Nevertheless, mining stocks did not go into the freefall that some had feared, and the broad-based Canadian stock market indices have continued to set new records. Despite recent events, Canadian mining stocks continue to trade at multiples that are higher than those achieved for similar stocks in other international markets.

But will Canada continue to attract investment? Will international mining companies still flock to Canada for capital and expertise? Two recent transactions offer encouraging signs.

Earlier this year, Boliden of Sweden, one of the world's largest mining groups, announced that it would move its head office to Toronto and complete an initial public offering on the Toronto Stock Exchange. In what some have interpreted as a vote of confidence in the Canadian mining sector, Boliden proceeded with its flotation despite the Bre-X developments. Further evidence of support for the sector can be found in the recent decision by Normandy, the Australian mining group, to acquire a secondary listing on the Toronto Stock Exchange.

Cross-border M&A activity in the Canadian mining sector also continues to be strong, driven by a desire on the part of international mining companies to benefit from the multiples realised by Canadian mining stocks. For example, Gencor of South Africa recently announced that it planned to sell gold mining and exploration assets valued at $260m to Eldorado Gold Corporation of Vancouver in exchange for shares in Eldorado and other consideration. This follows a similar transaction between these two companies completed last year.

Canadians are unlikely soon to forget the events of the last few months. Regulators and law makers are taking a careful look at how and why the Bre-X fraud happened, and whether anything can be done to avoid a similar mishap in the future. Canada's disclosure rules may be tightened, and the cost of capital for small and intermediate mining companies could increase as a result. A careful balance must be drawn, however, between investor protection and preserving an invest ment climate that has helped Canada achieve a dominant international position.

For Canadian law firms, Bre-X may turn out to be a mixed blessing. While the shortage of public offerings in the mining sector is being felt by some firms, cross-border M&A activity remains strong. Greater regulation, if it comes, may also create more work for lawyers, provided it does not go too far.