Australian miners face rising costs

13-Feb-2013 Intellasia | | 6:00 AM Print This Post

Shortly before resigning last month, Tom Albanese, the former chief executive of Rio Tinto, outlined his priorities for the year ahead.

It is a message his successor, Sam Walsh, is likely to repeat on Thursday when Rio is expected to report a 40 per cent fall in annual earnings and will be heard many more times throughout the sector’s upcoming reporting season.

Australia has become one of the most expensive places in the world to develop a mine, according to the Minerals Council of Australia.

Due to rising capital costs cash spent on land, building and construction Australian iron ore projects have become a third more expensive to develop than the global average. For thermal coal, the figure is almost two-thirds.


Operating costs are also rising partly because of the large number of mega projects already under development, but also due to increasing energy costs and the strength of the Australian dollar.

“In some ways the situation at the moment is more challenging than during the financial crisis because the Australian dollar has remained high notwithstanding declines in commodity prices. Often the two are connected, and that provides some protection against falling prices,” says Stephen Reid, a partner in Deloitte’s Melbourne corporate finance practice.

These pressures, however, are not just confined to the mining industry. Natural gas, expected to drive the next export leg of the country’s resources boom, has also been hit. Chevron recently revealed a $15bn cost over-run at Gorgon, Australia’s biggest natural gas project.

It is against this backdrop that final investment decisions will be taken this year on 10 resource projects worth more than A$125bn.

The near 80 per cent recovery in the iron ore price from its September lows and the apparent willingness of China’s new leaders to support steel intensive growth has raised expectations that many of the mining projects in the pipeline will be approved. These include Gina Rinehart’s $9.5bn Roy Hill Iron ore project.

“If it [the iron ore price] were sustained, that would be good news for many mid-tier high-cost miners, with iron projects under consideration more likely to go ahead,” Deloitte Access Economics says in its latest Investment Monitor.

However, many analysts and industry executives believe the surge in the iron ore price will be temporary because it reflects restocking by Chinese steel mills that ran down inventories last year. Nev Power, the chief executive of Fortescue, for example, thinks the iron price will average $120 a tonne, against its current price of $155.

The analysts also note that the thermal and metallurgical coal prices have not had a similar rally and project economics in this sector remain difficult.

In natural gas, Royal Dutch Shell has said that it is in “go-slow” mode on new LNG projects in Australia. Shell is a partner in Woodside Petroleum’s $40bn Browse venture, due for final investment decision later this year.

Having already reassessed plans to spend billions of dollars on huge new projects because of cash constraints, BHP Billiton and Rio, Australia’s biggest miners by market value, find themselves in a different position, say analysts.

“Following several years of pushing the growth message to investors, and boasting about large capex budgets, BHP and Rio have moved to a more conservative stance,” says Lyndon Fagan, mining analyst at JPMorgan, in a recent report.

“The message to the market is now about capital discipline, taking costs out and lowering gearing.”

This is likely to be well received by investors who are pushing for increased dividends given the more subdued outlook for commodity prices.

“The big miners are in a streamlining phase and are simplifying their portfolios in an attempt to grow production, maintain their A credit ratings and at least maintain and then rebase the annual dividend payment,” says Rob Clifford, Deutsche Bank analyst.

BHP has sold a string of non-core assets over the past year including its stake in Browse for A$1.5bn, while Fortescue is seeking buyers for a stake in its infrastructure assets, a deal that could raise A$3bn and help pay down debt.

Rio has also been selling assets and has announced plans to cut operating and support costs by $5bn over the next two years. Although BHP is yet to bind itself to a target, Deutsche Bank estimates there are opportunities to cut $.4.2bn of costs.

“The most common question we have received from investors over the past 12 months is: ‘When will mining companies stop building and start raising dividends?” says Andrew Keen, Global Head of Metals & Mining Research. -By Neil Hume


Category: ResourceAsia

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