16 November 2009

South Africa: Pondering the Lack of Shine On Country's Gold


Johannesburg — THIS week in SA produced one of the most profound but yet unacknowledged ironies: the gold price reached (yet another) record, settling above 1122 for the first time, and Stats SA announced gold output for the first nine months had fallen 9,3%.

The decline of the gold industry in SA is at once completely obvious and also very difficult to understand. But it's amazing that the demise of this once-great industry is not getting more notice than it is. Small job losses in the motor manufacturing industry appear to get immediate public and government response, but not the mining industry .

Presumably, the reason partly is because it's primarily a rural or quasi-rural industry. It employs heaps of foreigners, so the job- losses are experienced in Mozambique and Malawi rather than here. Also, the expansion of South African gold mining companies means that they can run down their local production and expand into other parts of the continent, so that shareholders don't feel a noticeable decline in production and the value of their shares.

I also suspect it's partly because the industry is somehow regarded as backward, a kind of unpleasant reminder of a previous age, as opposed to the motor industry , which has the glamour of modern industrial production. Gold mining still means what it did years ago; backbreaking work on a stope shifting rock.

Still, there seems to be a bizarre lack of public outcry, parliamentary inquiries or even public comment about the fact that the South African gold industry has dropped from producing about two-thirds of the world's total production to less than 10%. What that means in job losses you can only imagine.

The gold mining industry is such a complex matrix you would have thought that by now some systematic inquiry would have been launched into the precise reasons, as opposed to the reasons publicly expressed by industry representatives, into what exactly is happening here.

Perhaps this is partly because the factors apparently causing the decline in the industry are so well known. From a macro point of view, the South African gold industry is caught in an odd ambiguity, which has never been better demonstrated than it is now. As the dollar declines, so gold rises, and as gold rises, so the rand strengthens. For the gold miners , this tends to negate the improvements in operating environment that they might get.

The other problems are pretty well known. Gold mining in SA is a very old industry and grades have been on the decline for years. Chamber of Mines lists of grades from 1910 to 2007, show a marked decline from their peak in the late '60s and '70s, between 11 and 13 grams per ton (g/t). They are now below 5g/t ( "low" grade ore) and have been in most years since 1995. They have never been lower than in 2007 at 4,2g/t.

Mining depths in SA are a huge challenge . Several mines are now digging below 4000m, which is not only uncomfortable and dangerous, but expensive. Every increase in depth means more cooling is necessary, longer trips to the ore-face, and the rock has to be transported further.

Because all this movement and cooling is so crucial, electricity is major element of the mix. Gold Fields CEO Nick Holland has said the costs of the roughly 580MW of power it used would increase costs of the SA operations by 30%. AngloGold Ashanti CEO Mark Cutifani described the Eskom increases as "not viable". Yet there seems no evidence their pleas are being heard.

Some problems of the South African industry are problems of the industry as a whole. Newmont Mining, the second-largest gold miner in the world, saw its average gold mining costs rise by two- thirds per ounce between 2002 and 2007. At the same time, new big discoveries are starting to dry up, BullionVault.com reports. Westhouse Securities estimates that between 1985 and 2003, new gold ounce discoveries slipped 30% from the previous 15 years. Each new troy ounce discovered cost 2,6 times as much to locate, too. And large deposits --judged at 2,5-million ounces or more -- have been too few and far between to replace the major companies' current rate of production.

Yet, however significant these problems are , as a total explanation they ring a little hollow to me. Grades are low, but have been for a decade or more. They dropped below 5g/t 15 years ago when SA was mining three times more ore than it is now.

Mines are deep, but this too is not a new problem. Western Deep Levels reached a depth of 3581m way back in 1977.

Neither is investment particularly the problem. Gold Fields announced in September last year it would invest R4,7bn in deepening operations at its two flagship SA mines -- Kloof and Driefontein, although the investment was not intended to actually increase production.

I suspect the problem is the politically unmentionable: black economic empowerment (BEE), wage levels, high taxation levels and general government hostility towards the industry. BEE, as we all know, is socially necessary. But it also increases massively the cost of creating a new mine, because effectively investors have to increase the profitability 25% for any given level of viability.

This is a tough call, and weirdly, starting a new mine in SA does not require a lesser BEE stake, which would give the operation a chance to set down some roots, but a higher participation. I don't know what wage levels are now, but it seems too little attention is being paid to productivity levels.

Perhaps the local industry will begin to turn around now. Governments are buying gold again, and SA has the big advantage that at least it knows the ore exists, even if it's expensive to mine.

But a clear and objective analysis of the industry would be helpful in trying to clarify why SA is mining less gold now than it did in 1906 when cars were a rarity.

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