Mining is changing.
We are currently in an era of extreme volatility in terms of commodities, where we can experience the swiftest growth in value, and one of the sharp drops, all within a few weeks of one another.
Up to this point it has been a tale of decline, of enormous readjustment as the resources industry saw prices whip from unsustainable highs to unsustainable lows, where commodity values could no longer keep afloat many of the smaller to mid-cap players.
According to Deloitte, “mining companies are struggling to recalibrate.”
Much of this is down to the not wholly unexpected economic transition underway in China, which is turning the corner from a heavy industrial focused economy to one supporting its burgeoning middle class, which is have deep and long lasting effects on the resources industry.
However, there seems to be life returning to the industry in terms of growing demand, particularly for gold, despite dire market predictions.
The industry appears to have reached the bottom of the downturn and is slowly making its way to a more sustainable median.
Companies that emerge from this great reckoning will do so stronger and smarter than when they first entered this cycle of the industry.
Iron ore, which has ridden a short rally wave that soon receded, even drew positive forecasts, with Citibank and even Western Australia lifting their forecasts compared to early 2016 predictions.
As we move to the mid-point of 2016, we examine the apparent trends that will be defining 2016, and what way the industry will move.
Deloitte has outlined the ten trends that will affect miners. In this edition, Australian Mining examines the first five.
1. Going Lean: operational excellence
Belt tightening has been a consistent theme for the industry over the last two years.
According to Deloitte’s report a relentless focus on cutting costs has translated into enterprise level productivity improvements.
“With the downturn in commodity markets, most organisations stopped discretionary spending and improved operational efficiencies,” Deloitte Brazil’s mining leader Eduardo Raffaini said.
“But that doesn’t mean the extreme diligence can now end, it’s important for companies to consider the full range of potential scenarios – from their options to grow should the market turn, to their response strategies if prices continue to plummet.”
It stated that “whilst there is no ‘right’ solution to this quandary, industry leaders are tackling this issue in a number of ways”.
“One strategy involves a continued investment in innovation; from automation and enhanced drilling systems to data analytics and mobile technologies, companies embracing innovation are improving mining industry whilst reducing people, capital, and energy intensity.”
For a long time industry heads have said mining could learn more about productivity and efficiency by studying the manufacturing industry.
Unsurprisingly, BHP chairman Jac Nasser – a former president of automotive manufacturer Ford – advocates mining study the manufacturing industry for efficiency measures.
“Although there are as many differences between the automotive and mining sectors as there are similarities, forward thinking mining can likely make unanticipated productivity gains by taking lessons from this example – including reforming industrial relations, co-opting suppliers into the cost equation in an effort to extract efficiency, and shifting from traditional command-and-control hierarchies into a world of matrix or networked structures where human ingenuity is not overly hampered by rigid processes,” Deloitte said.
Even Rio Tinto’s former head of technology and innovation Greg Lilleyman said, “There may well be technologies from manufacturing, food processing, oil and gas or aerospace which are ripe for application [in the mining industry].”
In today’s market place, finding these operational efficiencies is more important than ever.
2. Ensuring innovation: preparing for change
Innovation is more than just a buzzword for mining; it’s an entirely new take on how they do business. They are quite literally reinventing the wheel in many cases.
“When we refer to innovation, we’re not simply referring to the next big invention, we are also encompassing incremental innovation, or a re-thinking of how we use equipment, technology or processes that we already have in place,” Austmine chair Christine Gibbs Stewart explains.
This view was supported by Deloitte, which labelled innovation as a new critical theme for miners.
“Solutions once considered unviable or inapplicable to the industry continue to be adapted to suit the needs of mining companies,” it said.
Many of these innovations centre around automated and semi-autonomous processes.
But the problem of capturing these efficiencies hinges on uptake, a problem the industry seems to have difficulty with; automation is being seen as the next step, rather than as the new normal.
“Despite this dizzying array of technologies, many miners remain at the early stage of the adoption curve – placing a majority of their innovation focus on technological optimisation of old techniques in a bid to reduce costs or discover deposits more efficiently,” Deloitte said.
“To evolve, companies need to expand their innovation focus beyond technology to also consider new ways to configure and engage externally.”
It listed a number of game changing technologies that will disrupt the mining industry. These include:
- Networks: This is the interconnectivity brought about Industrial Internet of Things (IIoT), and feeds into the Big Data movement. As machinery sensors become more prevalent miners now have greater oversight of how their equipment truly operates, giving them more flexibility in their usage and maintenance. This in turn is driving the predictive maintenance trend, which reduces the likelihood of costly, unplanned and unscheduled downtimes, instead allowing users to push get a realistic pattern of usage and the ability to predict when machinery will fail and wear rates and maintain/repair accordingly. OEMs will soon offer uptime guarantees, which will be supported by users’ in-field operational data.
- Machine learning: As automation becomes more widespread, the potential for machines to perform increasing complex tasks grow, lifting safety and productivity on site. According to Deloitte, an end game for this is the continued growth of centralised remote operating hubs, such as Rio Tinto’s Mine of the Future remote operations hub or its Processing Centre of Excellence, as well as similar remote control hubs run by Roy Hill, Fortescue, and BHP from Perth.
- Geonomics: Geonomic solutions are already seeing usage to a degree in mining, being used for in-situ mineral extraction processes as well as bio-remediation programs that use natural enzymes to clean contaminated sites through metal leaching and drainage.
- Wearables: Similar to machine sensors, but for the miners themselves. Systems like FitBit, incorporated into miners’ clothes and PPE can measure and monitor their performance and health. These are already being rolled out in terms of fatigue management systems that monitor haul truck drivers’ tiredness; heat measurement vests that monitor if workers are at risk of heat stress; and RFID systems that track workers locations on site and can be used to alert others if they face an emergency situation.
- Airships: Pegged as the potential transportation of the future, new heavy haulage designs are being developed by Lockheed Martin that can lift heavy mining trucks to remote mining locations fully assembled and ready to roll on to site the moment they land.
Australia is working to address this issue with Austmine’s inaugural Innovation Mentoring Program, sponsored by METS Ignited. This is a program for the mentoring of individuals aimed at creating the next generation of innovators. However, the next innovation wave needs to be supported by full information technology (IT) and operational technology (OT) collaboration, as well as enhanced asset management procedures, if its full impact is to be felt.
3. China’s economic transition
“If you believe that China is one of the most significant factors in the global mining market – whether it be capital, consumption, stockpiling, project construction or its announced infrastructure initiatives – then it’s imperative to pay attention to the economic and political issues shaping the country’s future,” Deloitte Canada’s global leader for mining M&A advisory, Jeremy South, stated.
Because of this China and its demand still remains at the heart of the global resources industry.
China once consumed 60 per cent of all seaborne iron ore, and despite its waning appetite it still has the largest influence on many metals due to its overwhelming demand for raw materials – relative to other nations.
However, unlike many other nations China has a highly interventionist government, which dictates market controls.
“Beyond interfering with the free movement of markets, the government’s fiscal intervention may threaten its ability to fund new programs designed to spur future growth,” Deloitte reports.
In particular, the mining industry has been keeping a close on three primary initiatives: the Asia Infrastructure Investment Bank (AIIB), created to fund a range of commodity intensive energy, transport and infrastructure projects across Asia with a capital pool starting at what the Financial Times believes is US$100 billion; the One Belt, One Road program designed to spur trade between China and its neighbouring countries along the Silk Road; and the megacity project, which aims to link Beijing, Tianjin, and Hebei into a single city of 130 million people.
Despite these transparent plans, China’s trade regime remains opaque, with Deloitte stating that “without access to transparent official data, miners remain in the unfortunate position of making forecasts based on potentially flawed information”.
The 13th five year plan released in March has given some clarity on the nation’s direction.
Some small steps have been taken in the country to address glaring oversupply issues – which many majors are now addressing by focusing on lowering output guidance – by shutting underperforming or low quality operations.
An official at China’s human resources and social security ministry said the nation’s coal and steel industries expect to cut around 1.8 million workers as it seeks to reduce capacity, and address the growing stockpiles in the country.
The latest plan to slash the country’s coal and steel workforce came only days after Chinese coal companies pushed the government to set a price floor for coal to protect against bankruptcy and stem job cuts.
The country plans to reduce around 500 million tonnes of coal production over the next three to five year, mainly by closing more than 5000 coal mines around the nation and relocating around one million workers, setting aside 30 billion yuan ($6.5 billion) to aid relocation of the workers.
China also has also announced it will not approve any new coal mines for the next three years.
These swift, if brutal, movements appear to already be paying dividends for the nation.
New data by Citigroup predicts the coal price may rise by 20 per cent on the back of these changes, as coal production falls around nine per cent, more than offsetting the predicted 3.4 per cent decline in demand.
In terms of iron ore, the rallies seen in the first half of 2016 have lifted the price out of the doldrums experienced in late 2015 to settle around the US$55 per tonne watermark, which provides a stronger foundation for continued growth in the market, although it does put the industry at risk of more marginal players returning to the sector and adding to the oversupply issue.
A national focus on copper intensive industries as part of its six strategic industries is also boosting the base metal’s future.
According to Wood Mackenzie, China’s plan to generate 15 per cent of its total GDP from industries such as IT hardware, energy storage and distribution, and new energy vehicles (which according to BHP Olympic Dam asset president Jacqui McGill uses three times as much copper as conventional vehicles) all bode well for copper.
This may drive reinvestment into its own coal and base metals industry later in the year, however most pundits believe China will focus its investment efforts outside its borders, spurred by long-term currency weakness driving them to invest in foreign assets before the yuan is further devalued and they lose purchasing power.
“This may lead to a short-term increase in outbound direct investments from Chinese state owned enterprises interested in both mining companies at the later stage of the production cycle and fixed asset investments in infrastructure that improves over time,” Deloitte said.
This has been evidenced by China’s Zijin US4298 million cash investment made in Barrick Gold’s subsidiary, and China Molybdenum’s recent spree – acquiring Anglo American’s Brazilian niobium and phosphates operations for US$1.5 billion and Freeport McMoRan’s holdings in the world’s largest copper and cobalt resource, the Tenke Fungurume mine, for US$2.65 billion in cash – only further vindicating market forecasts.
This short term resurgence is unlikely to be the new normal, with Goldman Sachs stating, “We find that the likelihood of a sustained improvement in Chinese demand during 2016-17 is low, and we remain strongly of the view that the structural bear market drives that have contributed to metals declining 20 per cent over the past year and 50 per cent over the past five years remain intact.”
However Deloitte has outlined a number of ways in which miners can prepare for upcoming incipient shifts.
One of the major methods to right the downturn is to not expect a return to double digit growth rates in China.
“Companies seeking to navigate the new normal must now plan for scenarios in which China is unable to return to its previous levels of importing and consuming commodities,” Deloitte’s report stated.
“Capital allocation, economic feasibility studies and even cost management programs will all need to be recontextualised in anticipation of more limited Chinese growth rates.”
Following from this, it encouraged miners to develop plans relative to China’s investment initiatives such as the AIIB; One Belt, One Road, and the megalopolis, playing a role in the development of these programs.
4. The new normal: What goes down must come up
Mining is a cyclical industry, what goes up must come down, and the inverse is true: mining cannot stay depressed forever.
Many in the industry are predicting the first green shoots emerging of the next wave of exploration, as well as less volatility ahead.
In fact, renewed growth in gold due to its investment safehaven status, and active steps finally taken by major iron ore producers to right the current oversupply, are building upon the foundation for the next swing, regardless of reduced Chinese demand.
However, in the current period this may be brutal market economics at play rather than a full recovery.
According to Deloitte data, commodity production is still not falling as fast as economic factors should dictate, as a weaker Australian dollar and readjustment in labour costs keep marginal assets artificially buoyant.
“In other cases, majors are producing certain commodities, like iron ore, in a bid to consolidate market share,” Deloitte said.
These actions were posited by UBS analyst Daniel Morgan, who warned, “Prices can get too low, and the power of the major producers may increase too much, returning the industry to the oligopoly.”
“Other commodities with flat cost curves, like potash, may be subject to similar market plays, with Belarus’ state-owned producer Belaruskali reportedly running mines at almost full capacity and aggressively discounting prices to gain a foothold in the US and China,” Deloitte said.
“This has introduced new supply side dynamics into the mining industry, as mid-cap producers in bulk commodities are increasingly edged out of the market.”
The high costs of rehabilitation have also seen some operations keep their doors open rather than incur prohibitive site remediation costs, or even sell their operations at basement prices in an effort to divest themselves of their environmental obligations.
Motivations such as these saw Rio Tinto sell its Blair Athol mine for $1, handing over all environmental rehabilitation costs to Linc Energy as part of the deal, whilst Vale and Sumitomo carried out a similar deal, selling the Isaac Plains coal mine to Stanmore Coal for $1, with Stanmore taking on the $32 million rehabilitation obligations.
In terms of looking forward, Deloitte also pointed to the need to begin refocusing on exploration.
It noted although current oversupplies muddy the water in terms of future shortages, given the often long lead time from discovery through to production, long term thinking is required
“Exploration is the lifeblood of a business based on finite resources; unfortunately investment in exploration remains subdued,” Deloitte stated.
“According to SNL Metals & Mining, global exploration spend declined 26 per cent in 2014, with budgets falling to US$11.4 billion, compared to a peak of US$22 billion in 2012.”
In 2015 the situation became even more dire, with many miners such as BHP and Rio Tinto looking to make quick cost savings by dramatically slashing their exploration budgets, with BHP announcing last year it saved US$142 million through cutting exploration expenditure alone.
This in turn led to a consistent decline in geoscientist and geotechnician employment levels, rising to more than 40 per cent as of the first quarter of 2016.
“Big cuts in growth capex and exploration budgets may have far-reaching consequences for miners,” Deloitte Chile’s mining leader Christopher Lyon said.
“Whilst supply adjustments make sense given current industry fundamentals and price signals, is the mining industry taking this too far?” he asked.
“If the industry does not find ways to ensure a pipeline of new deposits and think through the viability of traditional mining methods, it may find itself without a great deal of growth optionality.”
The need to position for growth becomes even starker when you consider the difficulties associated with finding high grade assets in stable regions, Deloitte said.
“Companies that don’t take the opportunity to stake early claims will find themselves competing for key reserves once markets turn, hampering their long-term prospects and profitability.”
This sentiment was echoed by Queensland Resources Council chief executive Michael Roche, who said, “Exploration is the R&D, or building blocks, for the resources sector, getting the sector ready for the inevitable future upswing.”
However, the message appears to have finally reached the major players – and Australia’s governments – as they refocus on exploration activities.
BHP has announced a renewed focus on exploration as part of its rejigged strategy.
Speaking at the Bank of America Merrill Lynch conference last month, BHP head Andrew Mackenzie outlined the miner’s focus on strengthening its assets and taking proactive action to build now for future commodity strength.
“Although we remain confident in the long term outlook for commodities, we are not waiting for prices to recover. We have everything we need in our portfolio right now to significantly increase the value of the Company,” he said.
Part of this value adding will be through increased exploration and identification of new potential assets.
“We are increasing our exploration activity to take advantage of falling costs as others pull back,” Mackenzie stated.
“We have embarked upon one of our most significant oil exploration programs, accelerating activity in our three priority basins,” he said.
“Following the positive exploration results at Shenzi North, we plan to drill a further exploration well (Caicos) in July 2016 on our nearby Green Canyon 564 lease. We will also increase the number of copper targets we test this year by 38 per cent.
“We have established a new global technology function to implement integrated programs to unlock resources and lower costs. We have opportunities identified at a number of our major assets that we expect to create significant value over time.”
This focus on exploration came only days after the Australian Government announced its intention to support resources exploration in the country, allocating more than $100 million to the industry over the next four years.
The initiative, dubbed The National Resources Development Strategy – Exploring for the Future, is a program designed to boost productivity and competiveness of the sector.
“At a challenging time for the resources sector, this important initiative will help ensure that Australia’s strength in innovation is furthered, and that we maintain our competitive edge in this world-leading sector,” national resources minister Josh Frydenberg said.
At a state level, Western Australia is also supporting future growth with the announcement of $30 million in funding from 2017 to 2020 for the Exploration Incentive Scheme.
“The support of the EIS also perfectly complements the $100 million announced in the Federal Budget last week for the Exploring for the Future initiative which enables Geoscience Australia to make available pre-competitive data for State based geological survey divisions and industry,” the Association of Mining and Exploration Companies said.
Other initiatives can also be taken to move out the slump, which is nearing its end.
By focusing on agility, and the capability of scaling production, labour and other inputs/outputs as needed; the aforementioned predictive analytics capabilities created through the innovative use of Big Data have help organisations prepare their sites for events that may shift market and operational fundamentals.
Deloitte also called on miners to work collaboratively, both in terms of partnerships and in working together to cut oversupply and right market fundamentals.
“Miners are playing a sector-wide game of chicken, wither everyone hoping someone else will blink first,” Deloitte said.
“Whilst not universally acceptable, it likely follows that companies will ease back on production in an attempt to bring balance back to the market rather than waiting to be pushed against the wall.”
5. A shift in energy demand: preparing for inevitable change
The changing face of the global energy mix, and the movement away from thermal coal as the world’s primary energy source, means miners will have to change their fundamental view of commodities.
This is being driven both by Climate Change concerns, the push to cut energy costs and reduce carbon emissions, and consumers demanding more renewable energy sources.
“Australia, like the rest of the world, is transitioning towards a lower emissions energy future. As part of this transition we are seeing a reduction in the use of coal and an increase in the use of renewables,” Australian Federal resources minister Josh Frydenberg said.
South Australians know this better than most. Just recently we saw the end of coal-fired generation in this state with Northern and Playford B power stations shutting down.”
The two largest, fastest growing coal consumers have been China and India, which in 2013 consumed 60 per cent of the world’s coal between them; however China is planning to reduce output and turn towards more sustainable energy means.
Last year the country announced plans to reduce coal consumption by 160 million tonnes, following the National People’s Congress.
China’s ongoing pollution and smog issues were the main focus of the NPC, with Chinese president Xi Jinping stating that the government will be increasing focus on the nation’s environmental standards and regulations.
“We are going to punish, with an iron hand, any violators who destroy ecology or the environment,” Xi stated.
The country also plans to supply one fifth of all its power from non-fossil fuel source by 2030.
However the Minerals Council of Australia believes that this isn’t an indicator of a total dumping of coal.
“China’s evolving environmental policies are being confused with a policy shift away from coal,” it has previously stated.
“Coal currently accounts for 80 per cent of China’s electricity output and all leading energy forecasting agencies analysts agree that ongoing industrialisation and urbanisation will drive robust coal demand for decades to come.”
The International Energy Agency expects that coal will continue to dominate China’s energy mix to 2035, and that “China continues to import substantial amounts of coal, remaining a strong force in global coal markets”.
While China is not stepping out of coal completely, alternative power sources are making inroads into its supply mix that will dent the thermal coal market.
Part of this is turning towards gas, with China aiming to use natural gas for more than 10 per cent of its primary energy consumption by 2020.
On the back of this China and Russia have signed a US$400 billion gas supply deal.
The deal, between China’s CNPC and Russia’s Gazprom will run for 30 years and supply around one trillion cubic meters of gas.
In terms of renewables, China plans to increase its wind power capacity from 96GW to 200GW, and solar from 28GW to 100GW.
In Europe, Norway derives 98 per cent and Australia 57 per cent of their power from hydro sources.
Nuclear power is also likely to play a greater role, with France producing 77 per cent and Sweden producing 41 per cent from nuclear sources, with the World Nuclear Association expecting installed capacity to grow 60 per cent globally to 2040.
This paints a dire picture for thermal coal, which is suffering from similar oversupply and undervalue issues as iron ore, and has already driven US majors such as Peabody Energy, Alpha Natural Resources, and Arch Coal to declare bankruptcy.
According to Deutsche Bank’s supply and demand models, thermal coal is running a 30 million tonne surplus, which is predicted to rise to 68 million tonnes in 2018.
Yet, thermal coal is far from dead.
“Most major energy forecasters agree that coal will remain a critical component of the global energy mix for years to come,” Deloitte said.
The US Energy Information Administration (EIA) believes fossil fuels will continue to supply close to 80 per cent of the world’s energy through to 2040, although coal will lose market share – dropping to roughly a fifth of the global energy mix.
Despite this the overall coal consumed will rise in production levels as energy demand grows apace.
Chinese demand alone, despite its plans to reduce coal consumption levels, is predicted to grow to close to half a billion tonnes by 2019.
When it comes to miners themselves, Australia has seen a shift towards solar power for operators whose mines are located in remote areas, with Sandfire Resources installing solar power at DeGrussa, Galaxy at Mt Cattlin, and Rio Tinto at the Weipa mine.
Lithium is also set to play a greater role in the energy production chain, and will strengthen its role as a key component in renewable energy sources.
The future looks uncertain, however “although forecasts for global energy demand are not assured, one thing is certain: there will always be a need for electricity,” Deloitte Argentina mining leader Edith Alvarez said.
“That means mining companies should be asking which commodities will be required across the entire power generation value chain.”
So what strategies can they implement?
Becoming more agile, and able to respond to region specific market demand will allow coal miners to maintain strength, however pure coal plays will not survive long into the future.
“As the global energy market shifts, mining companies will need to keep pace by considering the full range of market angles,” Deloitte said.
“As new technology demands expand, this will open up opportunities for commodities in related industries, including lithium and/or other metals and minerals used in battery storage, solar panels, and wind turbines.”
The increasing focus on slashing carbon emissions, and the introduction of wider ranging carbon pricing schemes means longer term strategies are needed.
“As miners develop their long term energy strategies, they will need to determine how their processes must change if carbon pricing reporting becomes mandatory rather than a voluntary disclosure.”
With these in mind miners can build a more sustainable portfolio for the next wave of mining.
So what now?
“Just as, during the super cycle, people imagined prices would go up forever, people imagine the market will never recover. Neither extreme represents the truth. What is true, however, is that our cycle times are lengthening, that means it could takes years to adjust to current market forces – but it’s still a cycle,” Deloitte Touche Tohmatsu’s global leader for mining, Philip Hopwood, explains.
The notion the mining industry squandered the boom, and like the grasshopper in Aesop’s fable enjoyed the summer without preparing for the downturn of winter, is becoming more and more solid.
According to PricewaterhouseCoopers the idea that miners wasted the once-in-a-lifetime resources boom is a fact.
The 13th annual Mine: PwC study into the largest 40 miners by market cap found the largest collective net loss in the top 40’s history, totalling US$427 billion.
“2015 was a race to the bottom with many new records set by the world’s 40 largest mining companies,” PwC stated.
The report unveiled that of the US$623 billion in capital expenditure invested over the five year period from 2010 to 2015, nearly 32 per cent, or US$199 billion, was booked as impairments.
PwC blamed a “lack of capital discipline”.
It went on to state all the ground gained during the boom was effectively negated, adding that, “The collapse was all the more painful for producers in 2015 because the value destruction was perceived as self-inflicted.”
“You would have to think if you were an investor in the industry the way to have made your money was to sell at the top,” PwC Australia’s mining leader, Chris Dodd, said.
“The money hasn’t come through in dividends, the money hasn’t come through in capital accretion and it is not there anymore.”
This position was supported by the PwC report, which outlined evidence “signalling an almost stagnant investment environment”.
But the resources industry is learning from its self-inflicted mistakes and is no longer idle.
The mining industry is not a stationary animal, it is constantly moving and changing, not only in the way it mines but also in the way it interacts with communities, integrates technology, and approaches its role in terms of social awareness and corporate responsibility.
Every year brings new challenges, and 2016 is no different.
Starting from such a low base, with many commodities at five year lows, the industry hopes for a 12 months vastly different to those experienced in 2015, after reaching debilitating lows in December.
Actions taken by the majors to reduce oversupply (particularly in terms of iron ore), cut costs, and concentrate on productivity have all been focused on not just surviving mining’s ‘winter’ but on rebuilding the industry after the widespread destruction of commodity and company share prices.
And this seems to be the case; the industry appears to be well on its way to recovery, with many inside and outside of mining staking their claim on the end of the downturn.
This is supported by strengthening commodity prices almost right across the board, from iron ore’s rallies and largest single day gains since many metal indexes began to an expectation of a 20 per cent rise in coal prices by the end of the year due to drastic actions in China to reduce output and stockpiles.
Some are even saying we have returned to a bull market after years of bearish movement in commodities.
New data from the Bloomberg Commodity Index, which tracks raw materials, is running more than a fifth above its low in late January earlier this year.
According to Bloomberg, this movement qualifies it as bull market.
In terms of resources, the Bloomberg World Mining Index is up 24 per cent after a three year rout, much of this driven by BHP which has seen a 16 per cent rise in value over the year to date.
“The broad-based recovery in commodity markets this year has tipped several markets into bull market territory,” Mark Keenan, head of commodities research for Asia at Societe Generale in Singapore told Bloomberg.
“Overall, sentiment is good but remains cautious, the market is evolving significantly.”
Zinc has been the best performing metal this year to date, following Glencore’s decision to shutter its operations in order to address oversupply issues in the market, and was declared ‘bullish’ by Goldman Sachs for the first time in 12 months
Mining appears to be slowly, but surely, getting back on its feet.
6. The changing nature of stakeholder dialogues
“When it comes to stakeholder engagement, miners have traditionally found themselves between the proverbial rock and hard place,” Deloitte explained.
“Reconciling the often competing needs of government, local communities, non-governmental organisations (NGOs), employees, and regulators – whilst still delivering return on shareholder investment – has become a balancing act of huge proportions.”
This is becoming even more difficult as the industry endures the current commodities slump yet faces the same expectations of high returns seen during the boom, creating a disconnect between expectations of stakeholders and reality – especially in terms of tax and royalties.
This situation has been further exacerbated by growing resource nationalism in many countries, which has driven increased demand for ever larger stakes in mining operations without suffering the initial input costs.
“Resource nationalism has remained in the top risks facing mining and metals companies for the past five years and seems to be picking up pace as governments seek to transfer even more value from the mining and metals sector,” Ernst & Young’s Mining & Metals sector said.
“Many governments around the world have now gone beyond taxation in seeking a greater take from the sector, with a wave of requirements introduced such as mandated beneficiation, export levies and limits on foreign ownership.”
“Whilst governments are typically motivated by the need to maintain national revenues,” Deloitte explained, “their tactics are leading to detrimental results – not only to mining companies but to economic health as well.”
It pointed to ongoing issues between Mongolia and Rio Tinto over the Oyu Tolgoi mega-mine as a case in point, stating the country’s foreign investment rapidly plummeted 90 per cent in two years –from US$4.5 billion in 2012 to US$400 million in 2014 – largely due to a long standing dispute between the two over Mongolia’s demand for an increasing level of ownership of the project.
Resource nationalism in countries such as Zimbabwe has become the norm, and has driven miners away from the nation.
Pressure from community and stakeholder groups is also rising, particularly in opposition to coal.
Communities are no longer placated by lump sum cash payments, sport stadiums, or water pumps – instead they are seeking more meaningful engagements and the development of the resources company as a citizen in their community, interacting on a local level to improve overall conditions in their operating region.
Health, educational, vocational, and cultural support programs; active heritage and archaeological programs; as well as environmental studies are now all the norm for miners that endeavour to be good corporate citizens and socially responsible.
And these local groups are more than willing to withhold development consent when companies fail to accommodate their needs.
This takes a financial toll.
“Researchers found that mining projects with expenditures of between US$3 billion to US$5 billion can incur weekly losses of roughly US$20 million due to delayed production caused by community opposition,” according to Rachel Davis and Daniel Franks’ Harvard Kennedy School report, Costs of Company-Community Conflict in the Extractive Sector.
Maligned community members also work with NGOs, special interest groups, and activists to dramatically halt operations and sway public opinion against mines.
From chaining themselves to moving equipment or mine gates as seen at many coal and coal seam gas operations throughout Australia, to more drastic action such as the hoax ANZ press release purporting the bank was divesting its interest in coal mining – specifically Whitehaven and its Maules Creek operation – in order to wreak financial damage against miners, or even full scale mine invasion such as in Germany and the UK, activists and protestors are carrying out actions designed to halt mining and suspend production.
“Increasingly,” Deloitte states, “these organisations work to sway public opinion through online communications such as social media and campaigns geared to go viral.”
“As activist organisations become more vocal they are able to exert greater pressure on both governments and communities considering mining project approvals.”
Miners need to change the dialogue so that they have a voice, as the social media battle is all but lost at this point, with campaigns such as ‘Coal – An amazing little black rock’ roundly mocked as failures.
“Miners interested in reclaiming their licence to operate are coming to realise that a new form of stakeholder engagement is needed – one that balances the demands of multiple groups,” Deloitte stated.
“Rather than simply reporting the amount of money spent on takes and community initiatives, companies should aim to track and report on the impact they are having on each stakeholder group – not only shareholders, but governments, communities, and employees as well.”
Miners need to align their operations with the long-term needs of the many stakeholders, and employ better community engagement models and reporting.
Strategies ranging from demonstrating their commitment to the local community, listening carefully, and helping to inform national strategies all aid this growth.
Deloitte also suggest drastic action in certain cases: walking away.
“Mining companies capable of responsibly walking away from projects that no longer promise to deliver a sound business benefit would send a strong message to governments and local communities on what they potentially stand to lose by adopting an intransigent anti-mining stance.”
7. Starved of finance, miners struggle to survive
Mining is slowly working its way out of the doldrums, but it is far from recovered, and many operators are still struggling in the current climate of depressed prices, with 10 per cent of gold miners and a ‘significant portion’ of coking coal mines running at a loss.
In terms of thermal coal, 80 per cent of US production, 16 per cent of Australian production, and one in five Indonesian operators are considered uneconomical.
Despite this, more than US$60 billion in capital was raised globally by the resources industry in the first quarter of 2016, which is essentially unchanged year on year, but is down by 24 per cent quarter on quarter.
Yet the question must be asked ‘what has this capital been used for?’, as according to PricewaterhouseCoopers, nearly a third of capital expenditure spent by the top 40 major miners since 2010 has been wasted.
As previously mentioned, the 13th annual Mine: PwC study into the largest 40 miners by market cap found the largest collective net loss in the top 40’s history, totalling US$427 billion.
“2015 was a race to the bottom with many new records set by the world’s 40 largest mining companies,” PwC stated.
The report unveiled that of the US$623 billion in capital expenditure invested over the five year period from 2010 to 2015, nearly 32 per cent, or US$199 billion, was booked as impairments.
Deloitte added: “Industry debt burdens have spiralled out of control.”
It went on to state capital is fleeing the sector.
In a recent interview with Ernst & Young, Randall Oliphant, chairman of the World Gold Council and executive chairman of New Gold stated, “True private equity does not take commodity price risk. That’s not the business they’re in”.
“They want a proven business model and they want a strategy. There were so many missed opportunities over the past eight years for companies to sell assets to private equity. We couldn’t get anyone who wanted to sell any assets because it was a bullish market and they wanted the upside. I think we’re getting a lot closer to seeing things happen.”
And this is being driven by the restructure in Australia’s economic base, which is creating a dire picture for future investment.
“The ten year mining boom is over, necessitating structural change in the economy as we redeploy resources away from mining,” BIS Shrapnel chief economist Frank Gelber explained.
He went on to state “we’re only halfway through the fall in mining investment”.
“Investment in coal and iron ore peaked around three years and has fallen; but the extraordinary growth in gas projects maintained the boom until last year.
“The fall in mining investment is a major negative for the economy and still has several years to run,” he said, although Gelber ended on somewhat a positive note, stating rising mining production levels are keeping the economy afloat.
“Two years hence, the fall in mining investment will have troughed and mining production will have plateaued,” Gelber said.
“We can only be thankful that the impact of falling mining investment is being offset by rising mining production.”
NAB’s head of Australian economics Riki Polygenis also believes mining investment still has some ways yet to fall, but believes this fall will be deeper than those experienced to date.
“Following the peak and subsequent decline of commodity prices and Australia’s terms of trade, mining investment has followed suit, steadily declining after peaking in 2012-13,” her NAB Group Economics report states.
“The question remains, how much further does the mining investment downturn have to run, and what have been the broader consequences for the economy?”
According to Polygenis, “our models suggest that mining investment is likely to fall by around 70 per cent from its current level over the next three years – implying that we are currently just over half way down the mining investment ‘cliff’.”
“Given our expectations for economic growth over that period, mining gross fixed capital formation is expected to drop to just 1.25 per cent of GDP, which is toward the lower end of pre-boom historical levels.
“The larger than expected declines in commodity prices from their 2014 levels and the likely prolonged nature of the low-commodity price environment has restricted the number of new projects announced; this suggests that mining investment will fall by more than otherwise would be the case.
“There is likely to be very little upside to mining investment going forward.”
Due to this, companies have turned to alternative financing vehicles, such as offtake-related financings, and royalty structures such as streaming.
“Unfortunately, given the lack of funding sources, miners can’t afford to be too choosy,” Deloitte said.
“Companies are floundering in their efforts to attract risk-averse investors to the industry. Any capital returning to the sector is likely to be commodity-specific, which could potentially favour commodities such as copper, zinc, potash, gold, and uranium.”
Deloitte suggested a number of ways miners could ‘buck the trend’, such as commercialising dormant assets like property holdings or equipment.
It also suggested a focus on debt reduction – a move being carried out by Rio Tinto, Fortescue, and BHP – by buying outstanding notes.
Crowdfunding campaigns were also suggested, Deloitte stating “whilst mining is not likely to be a hot sector of crowdfunding, miners capable of telling a compelling story or coming up with an innovative offering could attract funds through these increasingly popular forums”.
8. A global tax reset challenges yesterday’s tax management
Australia has a storied history when it comes to mining taxes, with the recent abortive Resources Super Profits Tax and the watered down – and later abandoned – Mineral Resources Rent Tax still fresh in the mining industry’s mind.
Tax, and the perception of miners paying their fair share, has been a major issue across the globe more recently, with a crackdown on multinationals paying tax one of the pillars of Australia’s 2015 Federal Budget.
In fact, Glencore was accused of paying no tax whatsoever in 2015, a claim which was later rescinded but did act as a catalyst to examine how much miners – amongst other multinational companies – actually paid.
Last year Australia’s major miners were called to give evidence to the Senate Inquiry into Corporate Tax Avoidance, which revealed the extent of commodity marketing practices through offices in Singapore.
This is despite miners being the country’s largest taxpayers.
According to the data collated by Morningstar, BHP has paid the highest amount of consolidated company tax in total between the financial years 2005 to 2013. BHP paid almost $54.4 billion in consolidated tax over that time, with Rio Tinto in second place with almost $39 billion, and the Commonwealth Bank in third place, paying almost $20 billion.
However, transparency remains key, and many miners aren’t as upfront regarding their tax, using transfer pricing mechanisms such as the aforementioned commodity marketing practices through their Singapore offices, as well as highly technical interpretations and hybrid instruments to distort their tax repayments.
According to Deloitte, “The single biggest development mining companies will need to come to terms with are the OECD and G20 initiatives to address what is deemed to be inappropriate tax management.”
These initiatives have developed 15 base erosion and profit shifting (BEPS) action items to ensure clarity in multinational tax repayments and a coherent approach to tax.
Deloitte forecast an increased focus on transparency, with an end goal of creating a balanced international tax approach, which fundamentally changes tax implications for activities such as commodity trading, controlled foreign companies, procurement structures, and interest deductions amongst others.
“Although BEPS focuses on a number of specific issues, it is broadly accepted that it will have far-reaching consequences as tax scrutiny heightens on many fronts,” Deloitte said.
“Mining companies should expect a strong focus on tax compliance, substance and transfer pricing – and may face challenges related to their historical investment and trading structures, which have been developed over decades.”
It went on to say that as transparency becomes the new norm, and the scrutiny of tax authorities rises, companies will need to reassess their tax management increasingly in the contact of good tax governance.
However, countries tax regimes will also become a base for considering future investment.
“With global tax issues back in the press, mining companies are once again under scrutiny for their tax affairs; this will impel miners to base future investments on three main factors – a country’s geology, its political stability, and its tax policy,” Deloitte UK’s global mining tax leader James Ferguson said.
Deloitte outlined a number of steps miners can take to adhere to and understand the changing global tax environment such as early assessments to understand the full impact; assessing the company’ structure and value chain; engaging with key stakeholders to proactively manage the changing regulatory landscape; and adopting a tax management approach flexible enough to apply both in local and global environments.
9. To buy or not to buy; that is the question
The first half of 2016 has seen a number of major divestments, particularly by Anglo American which has sought to emulate BHP in offloading its non-core assets, albeit in a much more piecemeal fashion than the South32 demerger process.
But why is this?
According to Ernst & Young, the aforementioned tighter capital investment market is forcing many miners’ hands.
“Divestments are increasingly being pursued across the sector,” it stated, “as capital remains constrained and corporates look to rationalise portfolios to achieve maximum return to shareholders.”
Deloitte added: “Diversified miners seeking to reduce their debt loads, simplify portfolios, and generate additional cash to offset underperforming investments are selling and spinning off a range of non-core assets.”
If there is all this divestment, will there be buyers?
According to JP Morgan, the M&A market is likely to heat up, because it has little further to drop after the hammering commodities have endured.
“In price relative terms, mining is back to its levels from ten years ago, when the Chinese commodity super cycle was just starting,” it said.
The World Bank is also predicting a new round of M&A, seeing mid-sized operators as the main targets.
These companies “may take the lead in mergers and acquisitions or become interesting targets for the more capitalised companies of the sector that are looking for growth that isn’t more exploration or greenfield projects,” World Bank practice manager for energy and extractive industries Paulo de Sa said.
E&Y agreed, stating, “We expect deal activity to pick up over the course of the year, particularly asset sales driven by the need to reduce leverage, and possible acquisitions of distressed companies by their debt holders.”
“Core, low-quartiles assets are likely to be retained, unless there is a commodity or regional restructure. We may also start seeing companies looking outside their existing commodity focus or leveraging existing operations to explore other opportunities.”
But this may become difficult due to the weaker capital markets, which will make it difficult to raise funding for larger acquisitions unless cash balances or scrip offers are used, and while there have been large purchases such as China Molybdenum Co.’s US$2.65 billion purchase of Freeport-McMoRan’s stake in the Tenke Fungurume cobalt mine and Anglo American’s Brazilian niobium and phosphate assets for US$1.5 billion (both in cash), overall deal values are expected to drop.
This has been supported by E&Y data which shows deal values have nearly halved year on year for the first quarter of 2016, falling 45 per cent to US$3 billion, while volume dropped 17 per cent to just 72 deals – although the top three deals were all divestments.
Further difficultly will be added by the fact divestment in mining differs in one major way from other sectors.
“The obvious exception is that opportunistic approaches are less likely to be a key driver in the mining and metal sector as many of the portfolio decisions are drive by concerns over capital preservation,” it said.
However, Deloitte believes the irony of the situation is despite these issues, “this is probably an ideal time for miners to be making acquisitions.”
“With a plethora of distressed assets hitting the market, coupled with divestments from the majors, buyers that strike whilst the iron is hot could acquire uncontested assets.”
Deloitte UK’s African services leader Debbie Thomas summed it up: “The scarcity of funds and a fear of investing are driving many potential buyers to stay their hands; with asset values being tested, however, there are currently compelling reasons to buy.”
“Whilst M&A will not be right for every company, counter-cyclical opportunities exist and companies that choose not to explore them may not be coming to the right conclusion.”
10. An expanded view of corporate and personal welfare: Safe, secure, and healthy
Safety should always be at the forefront of everybody’s mind in the mining industry, and every company is constantly working to refine their safety programs, driving down the potential for Lost Time Injuries (LTIs) and Lost Time Injury Frequency Rates (LTIFRs), which in turn lifts productivity.
This focus has helped mining achieve one of its safest years yet in terms of fatalities, although at the time of publishing the sector had recorded its first fatal incident.
In light of this push, miners have turned to data analytics to pinpoint potential industry risks, organisational behaviours, and internal cultures that may result in severe safety events, and implementing technology that allows them to implement employ safety programs focused not just on zero harm, but the goal of zero fatalities.
“Yet, despite this progress, industry risks related to both safety and security continue to grow,” Deloitte said.
However this is in part due to the widening scope for safety, as “leading companies realise that safety isn’t only a function of process-driven policies; it also requires the promotion of a culture of safety”.
“Embedded in that notion is the idea that employees must be both physically and mentally health for a safe and productive environment to flourish.”
Deloitte notes that there has been flagging industry health of late, in part due to the downturn, ongoing layoffs, and common mining conditions such as fly-in fly-out lifestyles.
However this has been noted by the Australian Government, with a West Australian parliamentary inquiry into mental health issues associated with fly-in fly out (FIFO) making several important recommendations after it found 30 per cent of the FIFO workforce was experiencing mental health problems, compared to a national average of 20 per cent.
The Education and Health Parliamentary Standing Committees examined the problem, focusing on ‘systemic issues’, such as the contributing factors leading to mental illness and suicide in FIFO workers, current legislation and policy for workplace mental health in WA, and improvements to current government initiatives.
The inquiry, in response to nine apparent suicides by FIFO workers in WA within 12 months, recommended developing a Code of Practice on FIFO work, addressing issues of rostering, the contribution of fatigue to mental health issues, and anti-bullying strategies.
Improved data on FIFO workers and reporting of mental health and suicide was recommended, along with the extension of occupational health and safety provisions to living arrangements. Long term research is needed on mental health and FIFO work, but the committee importantly noted that risks must be mitigated in the meantime.
Similar to other recent public inquiries on psychosocial issues at work (for example, the NSW legislative council inquiry into bullying at Workcover NSW and the CSIRO inquiry), the committee recognised the necessity for organisations to ‘own’ the problem to manage the risks.
In Canada, Vale has partnered with a local university to conduct a similar, three year research project to study and address the mental health of miners.
Yet, safety is not just a concern on the site, but also off it.
In recent years mining companies have faced increased risk to their staff and facilities from outside sources.
In the first four months of 2015, employees from at least three different mining companies were kidnapped and held for ransom, according to Deloitte.
In 2012, five Australian miners were stranded in Mali after they were caught in the middle of the country’s ongoing civil war, whilst in 2014 extremists in the country invaded the Taoudenie salt mine, forcing more than 800 workers to evacuate the site.
In 2013 Kyrgyz nationalists attacked Australian miner Manas Resources’ subsidiary office, ransacking and looting the building, whilst a Scottish welding supervisor reportedly barely escaped with his life after mocking the country’s national dish, comparing it to a horse’s penis.
“Safety security and mental health are all issues that go hand in hand with mining productivity,” Nicki Ivory, Deloitte Australia’s mining leader west, said.
“As our ability to analyse these factors becomes more operationalised, companies can begin making more serious strides to safe guard not only their physical assets, but also the health of their people.”
Security issues surrounding intellectual assets are also rising to the fore.
“As the Internet of Things evolves and network connectivity extends beyond the nuclear enterprise, miners find themselves facing unprecedented risks,” Deloitte explained.
“Cyber criminals engaged in corporate espionage, attempted blackmail campaigns or malicious efforts to cause damage by hacking autonomous vehicles (for instance) are using increasingly sophisticated tactics to target both organisations and individuals.”
Breaches have ranged from confidential data such as mining companies internal emails to state mining department resources such as when the NSW Department of Industry, Resources and Energy’s Maitland office came under attack in an attempt to access confidential resources commercial information, or in 2011 when hackers broke into Australian Federal Parliamentary email accounts to gain access to emails between ministers and Australian companies mining in China.
These hacking incursions came on the back of earlier Wikileaks releases showing BHP’s CEO at the time, Marius Kloppers, expressing his concern over Chinese surveillance and interference in BHP’s operations.
Earlier this year a Ukrainian coal miner was amongst a group of critical infrastructure operations targeted, with hackers introducing malicious codes into their industrial control systems which shut down electric distribution networks and cut power.
Miners have also been the target of less dangerous, but just as serious, cyber vandalism, such as when a Canadian gold miner became the latest target of hacker and digital activist group Anonymous.
Anonymous hacked BCGold’s website and defaced its website, rickrolling the miner by posting a video of 80’s singer Rick Astley’s hit ‘Never Gonna Give You Up’.
Unsurprisingly, Ernst & Young listed cybersecurity as one of the top 10 business risks this year.
“Cyber-hacking has become more widespread and sophisticated, with cyber-attacks being a common issue across the mining and metals sector regardless of size or scale,” EY said.
“Of course, not all cyber-attacks are for financial gain — hackers can be groups seeking to serve their own purpose.
“Being a victim of any form of attack can cost a mining and metals company millions of dollars in lost production, create health and safety issues on site, or cause massive reputational damage by leak of confidential/stakeholder unfriendly information.”
However, despite some knowledge of the problem, mining still lags in protecting itself.
“It is evident that cyber-crime is affecting the mining industry,” the regional director, ANZ, for WatchGuard Technologies, David Higgins, explained.
“Malicious network security events are growing in number as they prove to be effective business models for attackers. Mining executives have increased awareness of the benefits of establishing security infrastructure best practices as well as educating internal teams to minimise vulnerabilities and the risk of being breached.
“That being said, this awareness is still developing to a point of industry-wide understanding and willingness or ability to take action.”
EY’s Global information Security Survey 2013-2014 found that 41 per cent of the mining and metals survey respondents had experienced an increase in external threats over the past year, with 28 per cent experiencing an increase in internal vulnerabilities.
“Surprisingly, 44 per cent of the mining and metals survey respondents indicated that their organisations do not have a threat intelligence program in place and 38 per cent only have an informal one in place,” the report stated.
To overcome these physical, mental, and digital threats there are a number of strategies that can be implemented to protect workers and assets.
These include enhancing safety analytics and then correlating that data to identify safety incident patterns and workers at risk, and then in turn adopt processes and procedures to minimise the risk. Wearables can play a role in this data collection and reduction of incidents by tracking the location and physical health of workers.
Additionally, strengthening mental health policies as well as fostering a work culture focused on preventing the onset of mental health challenges, promoting recovery, and reducing the stigma attached to mental health problems will also lift safety.
In terms of physical assets, improved digital and physical asset security protocols – such as embedding tracking devices and even panic buttons on equipment – are lifting safety.
Deloitte also advocates employing risk monitoring, tracking ‘noise’ on the internet from hacktivist groups, nation states, and other threats to identify indicators of a possible attack.
“Whilst this type of monitoring cannot protect organisations from every unknown threat, it can helpl pinpoint dangerous situations before they escalate, enabling companies to detect, prevent, and respond to emerging risks.”
Finally, Deloitte recommended regular risk assessments as well as crisis management improvements, to mitigate associated security risks and understand how to effectively minimise damage by mobilising resources across the organisation when an issue occurs.
Rajeev Chopra, Deloitte Touch Tohmatsu’s global leader for energy and resources, summed up why the ten trends are important and must be understood as a whole: “Miners can no longer afford to look at mining trends and technologies in isolation.”
“As global economics converge, political, social, and technological changes increasingly impinge on how the industry operates. To find solutions we need to ask the right questions and be willing to consider unexpected answers.”