• State of affairs

    The year ahead will see huge changes for the mining industry. Yet the situation also presents an opportunity for more nimble, forward-thinking local players in Africa.

    State of affairs

    The ongoing rout of commodity prices, which started in 2014, continued during 2015 and on into 2016. In African mining, the decline had largely played through by the end of 2015. Investment and expansion are mostly on hold and companies are generally sitting on assets, waiting for the market to finish sifting out the current oversupply.

    However, it is likely that considerable changes still lie ahead but these will happen to the ownership structures and rankings of the big companies.

    In Mozambique, Rio Tinto may well have shown foresight by bailing out of the coal asset it purchased for US$3.7 billion in 2011. But at a sale price of US$50 million, this effectively boiled down to abandoning an asset.

    Although, this was a response to more than the falling price of the commodity – there were massive regulatory and political problems – Rio Tinto’s willingness to take a huge hit is characteristic of the way big mining companies are dealing with the slump.

    The issue of the moment pertains less to what will happen to projects initiated during the commodity boom. Rather, it’s about the shape big mining companies will be in when markets turn upward again. Anglo American’s current woes are an ominous warning. Their announcement at the beginning of December 2015 was little more than a distress call.

    Anglo confirmed radical cuts across its operations, which will reduce its global workforce from 135 000 to 50 000. It also said that it will be retaining the next dividend and seek to reduce its vulnerability by selling between 20 and 25 of its 55 mining assets, retaining only the most profitable.

    The firm’s share fell an additional 14% on the London market after the announcement, making its total 75% decline the biggest drop in the stressed world of mining majors in 2015. The company, with a market cap of just over US$4 billion at the end of January – down from US$24 billion in early 2015 – has a net debt of more than US$13 billion. This is modest next to the debt of another troubled miner, Glencore, which owes US$30 billion.

    Thanks to its extensive holdings across South Africa’s four major commodities (platinum group metals – or PGMs, coal, gold and iron ore), Anglo is widely regarded as the forerunner stock for the country’s mining sector as a whole. Only 20 years ago, the company was still referred to as ‘South Africa Inc.’

    However, Anglo’s current troubles are largely those of a globalised company that made several wrong calls over a number of years. Nevertheless, its exposure to South Africa’s still-deteriorating enabling environment certainly hasn’t helped either.

    Mechanisation is the face of the future in South African mining and will no doubt impact on the rest of Africa too

    Though it would be a mistake to read too much into the South African situation in the Anglo story. Its South African exposure certainly increased the pressure on Anglo but the company’s big problem is not operating conditions so much as debt incurred when the company pursued what now looks like megalomaniacal expansion on the watch of former CEO Cynthia Carrol. The biggest mistake was its attempt to become a major player in the iron ore market by first purchasing the Minas-Rio mine in Brazil for US$4.6 billion and then spending another US$8.8 billion to develop it.

    Some of Anglo’s assets still look good. It’s Kibali gold mine in the eastern DRC – which the company developed in partnership with Randgold Resources – cost US$2 billion and started production in 2014. The opencast mine looks to be a cash-generating machine.

    The average production cost of the half a million ounces it produced in its first year was less than half that of the prevailing international gold price at the time. Gold is likely to be the first mineral commodity to recover, driven in part by tightening US interest rates.

    Other mining giants are also struggling with African holdings. The world’s largest mining company, BHP Billiton, spun off its South African and Mozambican assets – in coal and manganese mining and aluminium smelting – in mid 2015. However, the share price of the new vehicle, South32, dropped by almost half between May and December 2015.

    Although, it must be remembered that what are woes for one are often opportunities for others. Players less hamstrung by debt are poised to take advantage of Anglo’s misfortune by snapping up assets, including many in South Africa. In September 2015, Sibanye Gold acquired some of Anglo’s PGM assets near Rustenburg, for what will cost around US$4.5 billion over five years. Now it’s sniffing around the ailing giant’s coal assets.

    Sibanye Gold is interested in ‘moving into the energy space’. This is in part a response to the quadrupling of power costs in South Africa since 2007. The company may be seeking in part to insulate itself from Eskom electricity supply. Ironically, that will require it switching from a buyer of Eskom’s output to a supplier of the parastatal’s primary input, coal.

    In late 2015, Sibanye conducted due diligence on Waterberg Coal, which is an underdeveloped 3.4 billion ton resource located in the same region as the giant Medupi power station.

    If there is a bellwether mining company in South Africa at the moment, it is not Anglo American so much as Sibanye Gold. Sibanye was formed in 2012 when Gold Fields spun off some of its ageing assets to focus on its mechanised South Deep mine.

    Little was expected of these traditional labour-intensive mines but under the rigorous stewardship of CEO Neal Froneman, they have performed well beyond what was thought possible. It is not without reason that Froneman is regarded as the leading independent voice in South African mining.

    He has been outspoken in his criticism of the factors controlled by the South African government – the enabling environment – which appeared no better at the end of 2015 than it was four years ago. Government, he argues, has simply failed to provide leadership, placing an increasing burden on the industry, which has had to step into the gap.

    Disagreements and uncertainties over BEE, the Minerals and Petroleum Resources Development Act, a resources rent tax, the state’s licensing regime and a possible carbon tax were hardly eased by the sudden and unexpected replacement of a relatively inexperienced but fast-learning Minister of Mineral Resources Ngoako Ramatlhodi with a complete neophyte, Mosebenzi Zwane, in September last year. The problem, in a nutshell, is that mining costs continue to rise well in excess of South Africa’s rate of inflation. Electricity is the worst culprit, increasing at an average cost of about 20% per year for nearly a decade.

    In 2014, electricity made up 23% of the total cost package in gold mining and 11% in platinum. Increases in diesel fuel, reinforcing steel and wages per employee have also been in double digits since 2008. The difference between 2011 and 2016 is, of course, that there is no global commodities boom to absorb the increases. According to Chamber of Mines CEO Roger Baxter, while investment is down since the ZAR85 billion 2011 peak, it was far from disastrous in 2014/15. Total spend by the three biggest companies in South Africa in gold platinum, coal and diamonds was still ZAR70 billion in that year.

    Sectoral spend, however, tells a more nuanced story. New project spend in 2014/15 was 41% for coal, while diamonds were second at 35%. Gold and PGMs came in at just 14% and 11% respectively. That the diamond sector – which accounts for only 3% of South Africa’s mineral exports in 2014 – should spend more than twice as much as the gold sector and three times that of PGMs, raises yet another a warning flag in these sectors.

    A marked characteristic of this spending is the industry’s aversion to expansion in labour-intensive sectors. All too much has been written about the difficulty of managing less-skilled mine labour forces in recent years. Nor, given that the driver of conflict on gold and platinum mines has been the unresolved rivalry between the National Union of Mineworkers and the Association of Mining and Construction Union, is this likely to change. Beyond what is so lightly referred to as the ‘hassle factor’ of labour-intensive mining, is the sheer cost.

    In 2014/15, 38% of mining’s value-add was in the form of employee remuneration, according to Baxter. Labour costs are especially high as a proportion of the total in the gold sector, where South Africa’s characteristically deep, narrow and sloping deposits appear resistant to mechanisation. However, both coal and iron ore mining are already primarily dependant on the use of huge machinery and thus skilled labour.

    Mechanisation is the face of the future in South African mining and will no doubt impact the rest of Africa too, but it must be remembered that this requires money. It is not called ‘capital-intensive production’ for nothing.

    Many of the major international players have exited the last boom with a considerable debt burden and are struggling to manage this toxic legacy, as Anglo demonstrates. A shake-up of ownership in the industry is under way and the established companies of the last boom may no longer be in the driving seat.

    By David Christianson
    Image: Graeme Williams/South Photographs/Africa Media Online