Mining sector globally under strain
South Africa has been criticised over political risk, but competitors have their own issues.
It is easy to come to the conclusion that South Africa has become an unpopular mining destination if one looks at the country in isolation. But reports and data suggest that many of the challenges facing the country are endemic to most countries today.
Last year was a sobering year for mine companies globally and many of the challenges facing miners are set to continue in 2013.
Ernest & Young, in its business risk report on Mining and Metals 2012-2013, said risk factors are becoming "more extreme because of the fast changing investment and operational environment".
Challenges that mining companies face include governments looking for larger pieces of the pie through new requirements such as mandated beneficiation, export levies, royalty tax and limits on foreign ownership. On top of this are cost inflation, price and currency volatility and infrastructure issues, which are becoming increasingly problematic as companies expand into less developed countries.
The fact that the world's top five diversified miners – with the exception of BHP Billiton – have replaced their chief executives in the past 18 months indicates the pressure that the sector is under from shareholders. And BHP Billiton, the world's largest miner, has been quoted publically as saying it is looking for a replacement for chief executive Marius Kloppers.
All the chief executives who have been replaced started their careers in a period of high growth in which the size of their companies grew exponentially. This was followed by a global financial and debt crisis.
As Rezco Asset mining manager Rob Spanjaard said, when companies are not performing as well as shareholders believe they should be, it is inevitably the chief executive "who takes the bullet".
In January, it was announced the Rio Tinto chief executive Tom Albanese would be the latest casualty. The reason appears to be a write-down of R14-billion relating to its Canadian aluminium company. It is alleged that he had paid too much for the company. Also accused of paying too much for assets was Cynthia Carroll, Anglo American's outgoing chief executive. Shareholders were also not impressed with the company's lacklustre performance.
Executive changes took place at Xstrata, Vale and smaller gold mining companies, including Barrick Gold, whose chief executive Aaron Regent was replaced even though it performed better than its peers.
The platinum industry showed clearly that it was under pressure because of lack of demand and pricing, and the chief executives of Impala Platinum, Amplats, Aquarius and Lonmin were replaced. Although in the case of Lonmin's chief executive Ian Farmer, the reason given was ill health.
There has been much talk in recent weeks that mining companies' exposure to South Africa may be leading to the discounting of South African shares, with shareholders allegedly putting pressure on chief executives to lessen exposure to the country.
Analysts have been unable to qualify the effect that investment in South Africa might be having on the share price, or even investor confidence in companies.
The risk in South Africa cannot be disputed. UBS downgraded Anglo American by nearly 40% in December last year, citing falling platinum and copper production and a "heightened South African risk".
Mining companies in South Africa face growing energy costs, labour unrest, above-inflation wage increases, older and deeper mines and currency fluctuations. Also, the regulatory environment is proving difficult to predict and recent comments by government are unlikely to increase investor confidence or encourage job creation. The most recent comment was made this week on SAFM by African National Congress secretary general Gwede Mantashe, who accused "British" Anglo American of stealing South Africa's money and said the government needed to take a bigger interest and more control of the mine.
Peter Major of Cadiz Corporate Solutions said Anglo American's share price definitely benefited from moving its primary listing to London in 1999. "Anglo's Price Earnings (PE) Ratio the first 10 years after it moved to the UK was 25% higher than years prior to that move," said Major. "Today – despite nearly 45% of Anglos earnings and assets being in South Africa – the company trades above Billiton on the PE ratio. In fact, Anglo's PE rating is still above most of its peers right now."
"If you look at today's PE ratios, Anglo American's is about 11.5: the same as BHP Billiton's. And Billiton has less than 5% of its assets in SA. Then there's Rio Tinto at 11.1 and Vale, ENRC and Vedanta all much lower still," he said.
Other listed companies like African Ranbow Minerals and Kumba Iron Ore – both on 12.3 PE's, Implala on 24, Gold One at 29 and Northam Platinum on 44. "So the South African discount is not easy to quantify in most of our mining shares, save our gold sector, who are trading on an average 10.2 PE, considerably lower than there international peers. The Ernst and Young study found resource nationalism to be the biggest concern for mining companies, compared with skills shortages, which was ranked first in 2008 and is now placed second.
Australia led the way in 2010 with the announcement of super profit taxes and since then other taxes or royalty taxes have been announced or enacted in countries including the Democratic Republic of Congo, Ghana, Mongolia, Peru, Poland and the United States. Finance minister Pravin Gordhan said this week that no mining tax hikes are planned in South Africa.
Many countries are looking to have minerals beneficiated. South Africa, Brazil, Indonesia, Vietnam and Zimbabwe all have beneficiation strategies. On the issue of state or national ownership, Indonesia has announced it plans to limit foreign ownership to 49% after 10 years, Zimbabwe has already commenced with its 51% indigenisation laws, Mongolia has placed a 49% cap on foreign ownership of strategic mines, and China and India have restrictions of foreign ownership of certain mines. South Africa has 26% black economic empowerment participation and discussions around stronger state control are being held, although not formally at this point.
Sharing of benefits
The importance of a strong infrastructure can also not be discounted. In Brazil, Anglo American has been forced to build a port to export iron ore from its Minas Rio mine and Rio Tinto is to write down the value of its coal assets in Mozambique by $3-billion, partly as a result of the difficulties it is having putting in place vital infrastructure. The report flagged the ANC's State Intervention in the Minerals Sector report, which supported significant state involvement in the mining sector despite rejecting nationalism, as something that makes South Africa "an important marker to watch" on the political risk front.
A new entrant on the skills list is "sharing of benefits", which refers to greater share of profits being demanded not only from shareholders but governments, local communities, employees and suppliers. The Marikana strike, which led to the death of more than 40 people, and four months of wage strikes, has placed South Africa on this list, but data looking at 2011 mining unrest showed that Indonesia had a three-month wage strike and BHP's Queensland coal business saw 3200 incidents of industrial action in 2011.
Spanjaard and Major, like Paul Mitchell – Ernst & Young's global mining and metals advisory leader – highlighted the importance of governments creating an environment that is conducive to mining and expansion.
"Operating environments for mining and metal companies are becoming more complex, posing both physical challenges and political challenges such as safety concerns and regime instability," said Mitchell.
"More complex operations generally mean more costly operations. Physical challenges can be addressed by investing in expensive new technology and infrastructure, but political challenges bring with them increased and constantly changing safety and environmental reporting, causing a substantial increase in compliance costs.