Although South African mines are holding their own globally, they face unique cost challenges.
South African mining companies appear to be holding their own against international competitors, but perceptions can be deceptive and the challenge will be to get stakeholders such as employees to take into account a much darker long-term view.
A report released this week by PricewaterhouseCoopers (PwC) found that the tough economic conditions South African mines were facing were not unlike those of mining companies elsewhere in the world, but there were some conditions that were unique to South Africa and this was making the environment a little more challenging to local companies in the long term.
The report, SA Mine 2012: Highlighting Trends in the South African Mining Industry, is based on the financial results and existing economic data of 39 top mining companies listed on the JSE.
Global companies Anglo American and BHP Billiton were excluded so that South African trends would not be skewed, according to PwC.
A review of the global mining sector is expected to be released by PwC in June 2013.
Hein Boegman, African mining industry leader of PwC in South Africa, said the biggest challenge for companies, which on the whole reported price and exchange rate-driven profits and dividends for shareholders, would be to explain to workers in particular that these results did not necessarily reflect their long-term prospects.
A higher cost base and shrinking margins are expected to add to pressure on these companies in the future.
Changing risk landscape
PwC is adamant that the mining sector's survival is dependent on its ability to recognise and adapt to a changing risk landscape that will involve chief executives and chief risk officers engaging in regular interaction and communication.
Boegman said looking at South African mining's cost inflation against national inflation in comparison with the rest of the world, the country was at the higher end of the scale.
"Mining companies worldwide are under pressure and if you look at the upcoming global report on mining, you will see similar issues of cost components outstripping basket prices."
He said although companies globally were experiencing increased electricity and transport costs, mining competitors in other countries were coming off a much higher base in terms of electricity in particular and the impact of the increases were not as obvious.
Labour costs in South Africa are also rising above inflation.
In South Africa, employee benefits and contractor costs increased by 9.8% for the year to June against 5.6% the previous year, and transportation costs increased by 15.3% against an inflation-related increase of 6.3% for last year. Consumables and mining supplies also leapt by 13.5% against 4.2% in 2011.
Boegman said growing operational expenses would obviously have a negative impact on the long-term performance of South African mining companies.
Increase in expenses
"What we are seeing is a general increase in expenses despite stable or lower production levels, increased employee costs despite declining productivity in the industry and above-inflation costs of utilities, transport and consumables, which all result in increased margin pressure," he said.
Would this push companies to consider mechanisation to reduce labour costs?
The four months of labour unrest on the mines, which has spread to the wine-farm sector, had led to increased discussion about whether mines should consider mechanisation to reduce labour costs, improve declining productivity and lessen the uncertainty around labour issues and the introduction of a new, untested union.
But the full impact of the industrial action and decrease in production on the profitability of companies and their cash resources will be felt only in the next few months.
Boegman thinks that mechanisation is unlikely to be considered in the short term because business recognises the need to create jobs, but he warned that if operational costs continued to put pressure on revenue something would have to give.
On the face of it, South African mining companies look good compared to mining companies globally. According to PwC, the mining sector has a strong balance-sheet position compared with the global picture, with gearing at 7% against 12% globally and better solvency ratings.
However, this is where the long-term prospects of mines in South Africa become gloomy.
All the mining companies reviewed shed all the gains made since 2008 and showed significant underperformance against the JSE. But this is similar to the rest of the world.
"The results worldwide reflect the inherent undercurrents that come with the sector," said Boegman.
In South Africa, market capitalisation for the companies reviewed dropped by 9% to June this year and then a further 5% to September.
"I am not sure if this further drop could be attributed to the mining unrest, but it must have had an impact," Boegman said, warning that further impact, particularly in the platinum sector, would be felt only later because of delays in processing.
He said there were 19 companies – compared with 11 the previous financial year to June 2012 – with net book values in excess of market values, seven of which are platinum companies, against two the previous year.
Boegman questioned why R17-billion in assets was being set aside for sale by Exxaro, First Uranium, Harmony and Northam Platinum. "Positioning for leaner times?" he said.
Anton van Wyk, adviser for consumer and industrial products, energy and mining for PwC, said South African companies' earnings before interest, taxes, depreciation and amortisation margin was in line with the global margin, but their labour costs were coming off a higher base.
The report also highlighted long-term production challenges.
"Iron ore was the only commodity to show production growth, while gold continues its long-term slide," he said.
In terms of platinum, the effect of Marikana will be reflected only in the December 2012 and March 2013 quarters.
An interesting side effect of the industrial disputes and possible mothballing of some operations by mines under pressure was safety.
The PwC report pointed out that local companies had shown increasingly improved safety results, but warned that the closure of operations led to a deterioration of assets and required the retraining of staff. This could result in more accidents and a deterioration of safety performance in the next year.