• Glencore and Rio Tinto fuel commodities outlook discussion
  • Glencore’s Ivan Glasenberg joined his collegue at Noble group and Rio Tinto’s CEO Tom Albanese in stressing that there are no clear signs of a slowdown of Chinese commodities demand.
  • Glasenberg stressed that inventory levels for many commodities are relatively low at the moment, contrary to the belief that increasing inventories should cause a drop of commodity prices somewhere in the next year.
  • Sources: Financial Times; FT Video on Noble outlook; The Australian

  

• BHP Billiton rumoured to prepare bid for coal miner
  • BHP Billiton is rumoured to prepare a bid for Walter Energy, a metallurgical coal producer with operations in the USA and Canada, and a project in Wales.
  • Current market capitalization of Walter (WLT) is around $3.8bln, down roughly 50% from a year ago.
  • Sources: The Telegraph; Wikipedia profile of Walter Energy; Bloomberg’s January analysis of potential takeover
• ArcelorMittal – Macarthur

Trends & Implications:

• A potential new takeover by BHP Billiton might be a good moment for BHP to announce writedowns on its acquisitions in the natural gas space. The acquisition of Petrohawk from Chesapeake last year is said to require a significant writedow as gas prices don’t seem to recover. Timing the market and combining the ‘exciting’ news of a takeover in the coal industry might partly overshadow the news of the writedown on the gas assets.
• The decrease of annual growth of the Chinese economy to single digit numbers is expected to impact construction and manufacturing activity in the short term, but the underlying outlook for the longer term continues to be a shortage of supply. Experts struggle to relate the overall economic growth numbers to short-term growth of construction sector, which drives most of the commodities demand.

©2012 | Wilfred Visser | thebusinessofmining.com

• Xstrata’s investors voice GlenStrata concern
  • In the re-election of Xstrata’s directors the vote against re-election of Ivan Glasenberg, the head of Glencore, increased from 3.6% last year to 13.6% this week.
  • When voting on Glencore’s takeover offer for Xstrata a group of approx. 17% of shareholders could block the deal as 75% of shareholders excluding Glencore’s 33% needs to support the deal.
  • Mr. Glasenberg indicated most of the debate on the merger currently is about the share ratio, which Glencore currently offering 2.8 shares per share of Xstrata.
  • Sources: Financial Times 1; Financial Times 2; Xstrata shareholder meeting results; Xstrata notice on Quatar shareholding
• BHP Billiton and Rio Tinto return cash rather than invest more
  • Both BHP Billiton and Rio Tinto stressed their commitment to dividend and buyback policies this week.
  • Though reiterating the sustained belief in the long-term growth fundamentals of the commodities markets, the focus of the messages in investor presentations is shifting towards limiting and phasing investment, rather than growing as fast as possible.
  • Sources: Financial Times; BHP Billiton Macquarie presentation; Rio Tinto Asian investors presentation

Trends & Implications:

• Miners currently focus on returning cash to shareholders because of the combination of short-term cost pressures that make margins shrink and longer term uncertainty about the pace of growth of global demand and the direction of metal prices. Citigroup’s forecast of a falling overall capex (see below in FT’s picture) shows uncertainty about how many of the projects in the current pipeline are really going to make it. Investments in star projects are still done, but the projects that could turn out to be marginal or lossgiving are on hold.



• Mr. Glasenberg’s comments about the share ratio discussion appear to indicate that Glencore’s bid for Xstrata might be sweetened if the deal runs the risk of not being accepted in Xstrata’s shareholder meeting early July.

©2012 | Wilfred Visser | thebusinessofmining.com

• Vale profits down on
  • Vale presented quarterly net earnings of $3.8bln, a 45% drop to last years 1st quarter. Revenues were down by approx. $2bln driven by both price and volume decreases. Slightly increased overall costs combined with lower volumes show an significant increase of unit costs.
  • An iron ore price of around $120/t is the current market floor, according to Vale. Many low grade mining operations in China operate at costs around this price, making them go out of business and supply to drop significantly if prices would go below this point.
  • Sources: Vale press release; Financial Times 1; Financial Times 2
• Gemcom acquired by Dassault
  • Gemcom, one of the premier makers of mine planning software, is bought by Dassault Systems from a group of private equity parties. Dassault pays $360mln, while the private equity parties paid $180mln 4 years ago.
  • Dassault has recently set up GEOVIA; a brand ‘to model and simulate our planet’. It is considering adding more packages to the brand.
  • Sources: Dassault press release; Gemcom 2008 press release; Financial Times
• Planetary Resources unveils plans to mine asteroids
  • Planetary resources, a startup company backed by an impressive list of investors including Larry Page, unveiled its plans to start exploration of asteroids with the objective of mining platinum, iron, nickel, water, and rare platinum group metals.
  • An exploration station should be active by 2020. Timeline to bring metals back to earth was not given. Estimates of total investment to start producing start at $2.6bln, similar to the development cost of a large mining project.
  • Sources: Wikipedia company info; Planetary Resources company website; Financial Times; Wall Street Journal

Trends & Implications:

• The innovative plans by Planetary Resources underline a growing drive to find alternative methods to obtain raw materials or to find substitutes for the raw materials we often take for granted. If bringing resources from space to the earth would succeed, this could fundamentally change the supply/demand dynamics of our conservative industry. And why would this not succeed? Especially for those materials where global demand is relatively small (e.g. platinum), this initiative should not be deemed impossible. However, futuristic it certainly is.
• Dassault’s move to set up a software branch specialized in the natural resources area is riding the trend of increasing importance of standardization and implementation of software tools to manage the portfolio of remote and often interlinked operations of mining companies. Software can help to produce production per employee, an important driver with the current shortage of qualified miners. At the same time the proper integration of operations and managing large parts of the design and operational work for operations from remote locations drives a need for software innovation.

©2012 | Wilfred Visser | thebusinessofmining.com

Managing the expectations of investors serves a twofold purpose: in the first place the goal is to make sure the investors know what they are investing in and what the perspectives for the company are – as a result the stock price should reflect the true performance and potential of the company; in the second place the goal is to keep the shareprice high or make it go higher – often referred to ironically as ‘reflecting the true value of the company’.

Why care about stock prices?

• Market value matters in the first place from a financial point of view. The higher the market price, the easier and cheaper it is to raise debt, giving flexibility to invest.
• The second important reason to care about the share price is the mergers and acquisitions arena. An undervalued company is an acquisition target, and having a strong share price makes doing paper acquisitions (pay with shares instead of cash) attractive.

Why not care about stock prices?

• Market value does not matter because an executive should not be driven by short term stock price fluctuations, which are typically mainly the result of market conditions and events the executives do not have a hand or a say in. In the long term good management will lead to a distinct outperformance of competitors, but short term movements are too erratic to say much about management performance.
• An executive should not be driven by the market price (i.e. the shareholders interest) alone, but should take the interests of other stakeholders (employees, society), which are often not directly or fully included in the share price, in account too.

©2012 | Wilfred Visser | thebusinessofmining.com

Most people see metal recycling as something additional to mining. Some view recycling more as a competing source of raw materials. However, the right way to look at the combination of mining and recycling is that mining fills the gap between demand and recycled supply. Recycled metal is fundamentally cheaper and more sustainable than mined metal. In an ideal, stable world, all used metal will be recycled at low cost, leaving no need to mine any new metal. In 2006 the International Council on Mining & Metals published a declaration endorsed by its members, including all major mining companies and the associations of producers of all major metals, stating as a fact: “Primary metal production fills the gap between the availability of secondary material and total demand.”

Obviously this gap between demand and availability of secondary material is different for each material. Recycling coal is fundamentally impossible, making us fully dependent on mined coal. The same goes for many industrial minerals. Diamonds, gold, and other investment goods do not have a consumption cycle similar to iron, making the market dynamics of recycling of these resources totally different. The most direct impact of recycling on the mining industry can thus be seen for consumption metals.

Why is recycling better than mining?

Recycled supply of metals is more sustainable than mined supply. Recycling does not require the destruction of natural environments, however good miners manage to restore natural environments after mining. Probably more important in a time of growing concern about and need for action against climate change: recycling requires significantly less energy than mining. Re-melting and casting an existing metal is simply a lot easier than having to extract the metal from an ore. Even though separating joined and mixed materials poses a challenge for recycling, the total energy requirement for recycling a ton of iron is some 20% lower than for mining and processing it. For copper the energy saving is approx. 60% and for aluminium even 90%. Expressed in saved carbon emissions these numbers look even better.

Recycled supply is not only more sustainable, but it is also fundamentally cheaper than mined supply. That is, if the collection and recycling processes are managed well. With the lower energy demand and demand for other input materials processing with recycled inputs is cheaper than processing with mined inputs. If regulated well the collection and separation of waste streams serving as input to recycling is much cheaper than mining the same amount of material too.

Why do we still need mining?

If recycling is fundamentally more sustainable and cheaper than mining, than why do we still need to mine? If market capitalism works well the recycling industry would have totally replaced the mining industry by now, wouldn’t it? Unfortunately the answer to that question is negative. Apart from the fact that the lack of capability of most societies to deal with the negative externalities of waste could be seen as classic market failure which makes that only a small part of the metal available for recycling makes it to the furnace again, the fact that demand is growing forces us to add to the stock of metals in the world by mining. As long as the ‘global demand’ for metals grows, we need mining. In a world without growth and with perfect recycling the resources cycle would be closed: no new metal is needed, and no metal is disposed of: the environmentalist’s dream. But growth means that recycling alone is not enough to satisfy demand. Growth, either caused by population growth or by consumption growth, implies that we need more of the metals than what we used before. This gap is filled by mining.

Another reason we still need mining is that recycling is not perfect. Even if we would manage to collect all the metal that is out there to recycle it, the process to recover the metal is imperfect. Especially for complex materials like alloys and glued products it is simply impossible to perfectly separate and recover all basic ingredients. The term used for the deterioration of metal quality over time is ‘dissipation’. To illustrate this concept: Recycled steel is used mainly to create bars; the purity of recycled steel is typically too low to be able to create good sheet products. In summary, we lose a lot of the above the ground stock by never collecting it for recycling, and we lose some of it because our metallurgical and chemical recycling processes are imperfect.

Putting all these key parameters in a formula, the resulting demand for mined resources is:

The United Nation Environmental Program’s International Resource Panel is working on an extensive study to get a grasp of the key numbers in this equation, analyzing current recycling rates, available stocks of metal, and resource intensity. Most of these parameters are amazingly unknown. We do know how much old scrap is used as input in production processes, but the estimates about how much metal is available in the world, either in use or in landfills, vary wildly. The organization uses a number of key terms to describe the fundamentals of recycling.

Key drivers for mined demand

With need for mining defined as the gap between global demand and recycled supply, how much mining do we need at the end of the century? It is not too hard to describe the key drivers of the answer to that question, but it is much harder to forecast how those drivers will change over the rest of this century. The estimates of global demand for mined resources as presented in this article are derived from a basic model combining estimates of the key drivers described below. Only deterministic analysis using high level estimates by the UN, metal producer associations, and major mining companies has been performed. A valuable addition to this analysis would be a more probabilistic approach, which would demonstrate the wide range of uncertainty of these forecasts. However, the results below most likely fall somewhere in the middle of this range, providing a basis for discussion and helping to set a framework for design of the industry over the very long term.

The first set of determinants of the future of the mining industry is the drivers for global demand: the number of people (population) and the need for metals per person (resource intensity) are the key drivers of demand. The latest forecast of the United Nations for global population growth forecasts a growth to 9.3bln people in 2050 and 10.1bln in 2100. Most of this growth will take place in countries with a low current development level, playing into the second driver of resource intensity. The large iron ore miners don’t get tired of stressing that the fundamental demand growth for their products in the next decades comes from increasing resource intensity in China and India. With other less developed countries following on the ladder of development the global resource intensity is expected to grow by over 1% per year up to 2040, with growth slowing to some 0.3% annually thereafter. Other drivers playing into global demand that are hard to predict are technological innovation and the shift of consumption patterns from one type of metal to another or to different types of materials.

UNEP IRP's Recycling Definitions

International Resource Panel: End of Life Recycling Rates

The final factors to be aware of here are the extent and availability of ‘above the ground stocks’, both actively used or passively stored somewhere, and the time the metals are actually in use before begin disposed and being available for recycling (the recycling time lag). If a metal is typically in use for 30 years, the amount of material available for recycling now equals what was produced 30 years ago. Because demand has been growing rapidly, this recycled supply satisfied only a small part of demand.

How much mining do we need in 2080?

As discussed before, any long term forecast of demand and supply is highly speculative, but putting together the data above for iron, copper, and aluminium in a time series model a likely pattern for recycling and the future of mining emerges. Many developments could change this view of long term demand, but if the business of mining and recycling continues without major wildcard events, the most likely scenario for the mining industry is depicted in the graphs below.

Global demand for almost all mined metal will increase rapidly for the next decades, despite all the improvements in scrap collection and recycling rates. The rapid growth of population and resource intensity will put pressure on miners to bring more capacity on line up to approximately 2040. But then the changing landscape becomes evident: population growth and resource intensity growth slow down and start to be outstripped by improved recycling performance. Although global demand for metals continues to increase, demand for mined supply actually starts to decrease slowly, with mining only accounting for 30-40% of total supply in 2080 versus 50-80% in the current situation. The initial rapid increase and the consecutive slowdown and decrease of mined supply lead to a situation in which demand for mined copper and aluminium in 2080 is only slightly higher than current demand. Demand for iron ore will even be back at the current level of demand.

Conclusion

For most people involved in the current mining boom the idea of zero growth over a period of 70 years might be a surprising thought. The future of mining is not only a story of mining lower and lower grade ores in more and more remote places with increasingly instable social and political environments. It is also a story of the mining industry moving from being the major supplier of raw materials to being a less important player on the global stage, plugging the supply shortage of the recycling industry. This fundamental change will force mining executives to rethink the business of mining, rethink the investment selection criteria, redesign organizational structures, rebuild marketing organizations, reassess acquisition strategies in a consolidating industry, and even reconsider vertical integration with recycling companies. Whichever way the industry will turn, it is going to be an interesting ride.

• Chalco bids for Mongolian coal miner
  • Chalco (holding company = Chinalco) made a tentative $930mln offer for 57.4% ownership of SouthGobi Resources, a Canadian listed company, currently owned by Ivanhoe resources.
  • Sources: Financial Times; Wall Street Journal
• Coal production issues in Australia
  • BMA, the coal JV between Mitsubishi and BHP Billiton in Queensland, declared force majeure after a week long strike in some of its mines. The labor conflict has been going on for almost a year, with workers campaigning for better contract rights for contracted workers and to retain the union’s power in recruiting decisions.
  • Sources: Financial Times
• Alcoa again cuts production
  • Alcoa, the largest aluminium producer in North America, announced it would cut alumina production by 2% to support prices.
  • At the start of the year Alcoa cut aluminum production, at that time by 12% and mainly in the USA. The 2% alumina cut is said to be aligned with this 12% ‘final product’ cut.
  • Sources: Wall Street Journal; Financial Times; Alcoa press release

Trends & Implications:

• The potential Chalco – SouthGobi deal appears to be engineered by or via Rio Tinto. Chinalco owns a significant stake of Rio Tinto, which became the majority shareholder of Ivanhoe recently with the key objective of quickly developing the Oyu Tolgoi gold-copper mine (also in Mongolia).
• Despite a general demand boom which has not passed aluminum many major aluminum producers are posting losses. Profit margins over the past 10 years average below 10%. The key reason for this situation is an overcapacity resulting in oversupply and high inventory levels. Aluminium is currently one of the very few mined natural resources that could be seen as a ‘demand-driven’ market rather than a ‘supply-driven’ market for price setting. However, as more and more producers cut investment, the demand growth fundamentals should invert this situation in the next couple of years.

Alcoa's long term demand outlook as presented end of 2011

©2012 | Wilfred Visser | thebusinessofmining.com

• Rio Tinto puts its diamond division up for sale
  • Rio Tinto started a ‘strategic review’ of its diamond business to explore divestment options for the 4 assets. The move comes only months after BHP Billiton announced it intends to sell its only diamond project.
  • Rio Tinto was seen as the most likely buyer of BHP’s Ekati project because of the close proximity to it’s Diavik operation.
  • Sources: Rio Tinto press release; Financial Times; Wall Street Journal
• BHP Billiton iron ore president quits; replaced by insider
  • Ian Ashby, president of BHP Billiton’s iron ore division, announced he will step down in July. BHP will replace him with the head of the energy coal business: Jimmy Wilson.
  • The leadership change comes during an aggressive investment program to expand capacity of the Pilbara operations.
  • Sources: BHP Billiton press released; Wall Street Journal
• Indian privatization of coal mines backfires
  • A leaked government report states that the Indian government missed out on $210bln by selling state owned coal assets to cheaply without having a proper auctioning mechanism in place.
  • The hedge fund TCI, which owns close to 2% of Coal India, has started a process to sue the management of Coal India for allowing too much government interference related to the sale of assets.
  • Sources: Financial Times; Times of India; Financial Times II

Trends & Implications:

• In March of last year Rio Tinto was said to explore a partnership with Alrosa, the world’s second largest diamond miner. This cooperation never materialized, and it appears Rio Tinto’s management has decided the iron ore business does not fit in its strategy of running large scale operations of traded minerals. With the presence of DeBeers and Alrosa it is unlikely that a third player will be able to invest to buy both Rio Tinto’s and BHP Billiton’s operations.
• India is one of the few mineral rich countries in the world that had to go through a large scale privatization program in the last years. Typically domestic investors who know the businesses and have access to influential officials manage to get good deals in buying assets (Russia is another good example). Often the real value of the formerly government owned assets only becomes apparent after a couple of years of operation in private hands.

©2012 | Wilfred Visser | thebusinessofmining.com

• Australian Minerals Resource Rent Tax finally approved
  • The tax on high profits for Australian iron ore and coal projects which led to a change of premier in the country was finally passed by the parliament last week.
  • Officials from the mineral rich states of Western Australia and Queensland argued that the taxation should be a state arrangement rather than a federal law
  • Many critics expect the MRRT not to bring in the amount of cash the governments expect because of tax management by the largest players and potentially because of lower profit margins as a result of increasing costs.
  • Sources: Economist; Wall Street Journal
• Mixed signals on China’s iron ore demand
  • In the same week BHP warned that China’s demand for iron ore is slowing down and the Australian state of Western Australia increased its outlook for exports.
  • BHP still is bullish about long term demand in China and does not scale down its investment programs. However, in the short term the company ‘’gives caution” demand might drive down iron ore price to $120/t
  • Sources: Wall Street Journal; BHP Billiton presentation; Financial Times

  

• Power struggle for Rusal amidst debt issues
  • A new chairman was appointed to the board of Rusal and his predecessor, mr. Vekselberg, made public that the company was struggling with large debt problems and said it had management problems.
  • Rusal announced that it would write down a large part of the value of its Norilsk stake in an attempt to restructure its balance sheet.
  • Sources: Financial Times 1; Financial Times 2; Lex Video

Trends & Implications:

• Various of the large Russian miners are trying to diversify both in products and geographic presence. Key problems the companies appear to encounter are a clash of management and corporate governance styles between Russia and western investors and large debt burdens in combination with the need to reinvest most or all of free cash flow to modernize or expand.
• Australia basically kicked off a wave of mining taxation overhauls in countries around the world. Given the very large output of coal and iron ore operations in the country the implementation of the MRRT will be the most impactful for the overall profitability of the industry. As many of the new tax regimes are based on progressive operating margin scales and operating margins of most companies are decreasing because of cost inflation, it is questionable if the new regimes will result in the income countries are hoping for in the short term.

©2012 | Wilfred Visser | thebusinessofmining.com

• Xstrata buys more Canadian coking coal
  • Xstrata buys the Sukunka coking coal deposit from Talisman Energy for $500mln in cash. The deposit holds 236 million tonnes measured and indicated resource. The non-producing asset is located in the same region as two other assets bought by Xstrata last year.
  • Sources: Xstrata press release; Talisman press release; Financial Times
• Glencore/Xstrata merger debates
  • While the merger antitrust investigations for the GlenStrata merger are getting started, the executives of both companies are going on a tour to Xstrata’s major shareholders to get buy-in. Several large shareholders (Standard Life, Schroders) have indicated they will vote against the deal at the current 2.8 shares of Glencore per share of Xstrata valuation.
  • Sources: Financial Times; Bloomberg
• Molycorp integrates downstream with $1.3bln takeover
  • Molycorp, the largest non-Chinese miner of rare earth minerals, made a takeover bid for Canadian processing company Neo Material Technologies, for $1.2bln. The deal will be paid roughly in roughly 2/3 cash and 1/3 shares. The strategic objective of Molycorp is to become a strong player in processing rare earths into semi-finished goods and to gain a strong foothold in exports to China.
  • Sources: Molycorp press release; Wall Street Journal; Financial Times

Trends & Implications:

• The continued investment in iron ore and coal assets by both the major diversified miners and many smaller players is based on a belief that the long term demand for construction materials will increase for several decades driven by two main trends: global population growth (more persons), and resource intensity growth (more material per person). Rio Tinto’s latest iron ore presentation summarizes these two points in the pictures below:

• The large mining companies reiterate these points every in every single investor presentation. Because many investors want to see more cash returned to the shareholdes in relatively uncertain times, the companies have to stress continuously that long term fundamentals look good and that large investments are needed.

©2012 | Wilfred Visser | thebusinessofmining.com

• Rio Tinto invests over $0.5bln on driverless trains
  • Rio Tinto announced a large investment in its ‘Mine of the Future’ program to make the first of its approx. 150 trains on the Pilbara iron ore network driverless by 2014. The program will cost the company over $500mln, though it remains unclear what part of that amount is ‘research’ and what part is plain ‘hardware’.
  • Sources: Rio Tinto press release; Financial Times; Sydney Morning Herald on union reaction
• Kazakhmys sees costs rise faster than revenues
  • Kazakhmys, the Kazakh copper miner, posted flat profits as growth was offset by cost increase of over 20%, mainly due to skyrocketing labour costs in the country’s resource market. The company also made bullish statements about growth of the copper demand in China.
  • Sources: Company overview; Financial Times; Reuters

Trends & Implications:

• Driverless trains are only one step in the larger automation effort for which Rio Tinto is the technology leader. Other areas of research are improving exploration performance and increasing recovery, especially from underground mines. A lot of the automation work focuses on the iron ore operations in Northern Australia. These operations have the scale to enable large savings by automation, and they struggle continuously with finding sufficient skilled employees at acceptable costs.



• Whether or not Rio Tinto’s role as the ‘technology leader‘ is a smart strategy is debatable: one might argue that begin a ‘smart follower‘, and thus not paying for the disappointments any large-scale research program holds, is more cost-effective. However, Rio Tinto has taken the approach that any research that can pay for itself in the long term is worth doing. Clearly the company will try to protect its findings as much as possible, but other companies will certainly start using its innovations in some way, reducing demand for skilled labor in remote positions and improving recovery potential.

©2012 | Wilfred Visser | thebusinessofmining.com