February 11, 2013 1:58 pm

Gold miners in search of richer seams

With gold being the commodity of choice during periods of economic upheaval and demand rising in China and India, it would be easy to assume that producers of the precious metal have been enjoying buoyant times.

But the mood among gold mining executives paints a different picture. Rather than talking about increasing production or expanding, they describe an industry under stress and in need of a significant shift in how it does business. The result is likely to mean companies delaying development projects and focusing less on production targets and more on cash generation to appease investors as executives acknowledge the need to right past mistakes.

Gold price and equities

Gold price and equities

“The gold industry in South Africa and worldwide is going to be characterised by tightening supply, project deferrals and further curtailment of high-cost production,” says Nick Holland, chief executive of Gold Fields.

“In past, the philosophy was ‘let’s increase the ounces, let’s go for the marginal ounce’ . . . I think we got that wrong because . . . that marginal ounce cost you a lot more than you thought it was going to cost.”

Gold Fields has already taken drastic action to restructure its business by announcing the splitting off of its older South African assets into a new company that listed in Johannesburg and New York as a separate entity on Monday.

The move will test investors’ appetite for Gold Fields’ global portfolio, as well as mature South African mines that sit in Sibanye Gold, the new entity.

But while that restructuring put a focus on the challenging state of South Africa’s gold industry, a fundamental shift in the sector is expected across the board.

Mark Bristow, chief executive of Randgold, a smaller, African-focused producer, warns that much of the industry is under severe stress, predicting that some companies will have to follow the example of Anglo American Platinum, which recently announced radical restructuring proposals that include the closure of two mines and plans to sell another mine complex.

“If you look at any of the big gold companies, and there are always exceptions, the fact is the gold industry is ex-growth – it hasn’t invested in its future,” he says. “I think we are going to see guys go bust or they are going to have to do what Amplats is doing – drastic reinvention, cutting back capital and dismissing massive amounts of people.”

One of the most conspicuous signs of the problems afflicting gold miners has been the underperformance of gold equities relative to the gold price. The gold price rose more than 200 per cent between 2006 and 2012 and is currently trading at about $1,660 an ounce. In contrast, major gold equities have been flat, an underperformance that is partly explained by the rapid growth of exchange traded funds (ETFs).

ETFs provide investors the upside exposure to prices without the downside risks attached to companies and the talk of change in the industry is partly fuelled by declining investor appetite for gold producers.

“When investors start voting with their feet then the penny drops in the case of most boardrooms,” says Srinivasan Venkatakrishnan, chief financial officer at AngloGold Ashanti.

He believes that if the gold price flattens there could be an investor shift from ETFs to selective equities. But he also says companies have gone wrong in the past by stacking up capital projects “so what you see is capital expenditure spike which blows the balance sheet”.

“Gone are the days when people said ‘big is beautiful’, it’s more a case of what is delivering true returns to our shareholders,” Mr Venkatakrishnan says. “You are likely to see more partnering with other companies as they go into larger projects and you will start to see people putting more rigour into their project planning and delivery.”

Companies also complain that they face spiralling costs and lower quality ore bodies, while untapped or unexplored reserves tend to be in more esoteric emerging markets that can be more challenging to operate in. The global trend towards resources nationalism, with governments looking to reap more benefits from their natural resources through measures including high taxes or greater state intervention, has also added to costs and uncertainty.

But Mr Holland says miners will have to look to newer frontiers for exploration, including the Philippines, Latin America and Africa – Gold Fields is exploring in Ethiopia for the first time.

“We are going to focus on smaller but higher-grade deposits,” he says.

“What Gold Fields might be in five years’ time, we might be a company with maybe 15 mines producing 3.5m ounces, previously we were eight mines producing 3.5m ounces.”

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