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Is shareholder appeasement putting gold miners at risk?

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Hooray. Barclays has calculated that average gold cash costs have fallen 14 percent in Q3 2013. Not before time you may think. 

But are the cost cutting moves we have seen so far only a fudge to appease shareholders, and the institutional investors in particular.

In short, there is small evidence that the cost cutting we have seen to date is a result of efficiencies being made, except perhaps at the margins. It is still too early for management changes to have had much, if any, effect on operational efficiencies. Virtually all the so-called cost cutting we have seen so far could, in fact, be seen as being detrimental to the long term future of the companies who are making such a song and dance about their achievements in this endeavour to appease shareholders.

Just take a look at how the cost reductions have been achieved – some necessary and some perhaps long term detrimental: 

1.    Capital programmes are being halted or deferred:  Looks good in the books. It may even make some of the majors cash flow positive – perhaps not before time. But, that’s just an easy way of cutting headline costs without any real positive action. These represent the projects that would be the company’s future. True, better control of some capital projects may well be in order and we are pretty sure some of this is taking place with even big companies looking at ways of reducing project input expenditures – but this can only result in a relatively small reduction – and certainly not enough to satisfy the big institutional investors who tend only to look to the short term and are demanding wholesale cuts.  Such is their power in controlling policy at even the biggest companies that the mining industry executives tend to admit defeat and just make the very big cutbacks demanded.

2.    Cutting overhead costs: This is indeed a sensible exercise. Many bigger gold mining companies have become bloated in the good times with a far larger, and perhaps too highly paid, a head office staff than is absolutely necessary. They may have also seen a growth of regional offices which may well just duplicate some of the activities that may best be left to head offices as well as perhaps a larger mine staff than absolutely necessary. Savings can, and are, being made in all these areas but in the scheme of things hardly register on the overall cost cutting Richter scale.

3.    Cutting exploration expenditures:  Exploration is the lifeblood of the industry going forward.  While a major could perhaps expect to rely on picking up new projects instead from the junior exploration sector, under current circumstances junior exploration activity has also been cut back drastically as the juniors are running out of money to continue and, for the most part finance is not available.  Where are the mines of the future going to come from?  Again it can be an easy bottom line saving to cut exploration expenditures, but one that is potentially seriously detrimental to a mining company’s long term future – and mining is for the long term – it’s not a quick returns industry.

4.    Grade increases:  If you run higher grade material through the mill at the same rate you get higher production and unit and operating costs fall purely through producing more metal at the same total input cost. Simple.  One wonders why the miners hadn’t thought of that before!  Most of the so-called improvement in operating costs has been achieved in this manner.  But - and there is a big but - mining to a higher cut-off grade reduces the mining reserve and thus mine life.  This may look to be a satisfactory trade-off in the books and in short term bottom line figures but it may not necessarily be a good deal for long term stakeholders who see income and jobs from this source end earlier than they might have reasonably expected.  Maybe not much of a problem for an ultra long life operation, but for many of today’s new mines which may only have estimated operating lives of 10 years or less this can be a very significant factor indeed.

5.    Closure, or sale of underperforming, or loss making, operations to a smaller company which may be able to mine more efficiently.  This does actually make sense for the sometimes less flexible majors with high overheads to support.

So what should the gold mining companies do about cutting costs? The criticisms in the above points are a little simplistic in that elements of all of the above do need to be incorporated in any real cost cutting programme.  But the mining of higher grades perhaps needs to be reflected in a complete re-assessment of mine long term economics, while the capital programme cuts need to be undertaken with perhaps less vigour and more long term future analysis, although there is little doubt that there are some significant savings to be made here.

But in the long term interests of the mining company, perhaps the Board of Directors should be more prepared to hold out against some of the short termism imposed by many of the big institutional shareholders.  They got themselves into the current plight by bowing to the ‘growth at almost any cost’ pressures from the institutions in the past and are now suffering from the apparent reversal of this policy. 

Most of the mining companies have excellent and experienced operational personnel who would have been more than happy to point out the profligacy engendered in some past capital projects in particular, but were either not asked or not listened to.  In an industry nowadays mostly run by accountants and dictated to by financiers, actual operational basics have often been left behind or disregarded. Mining on paper is becoming divorced from mining on the ground. Somewhere there should be a happy medium.

This article appears courtesy of Mine Web. To read more international mining and resources finance news click here.

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