For a more detailed discussion of each of the top ten issues that Deloitte’s global network of mining professionals believe will influence the mining sector most in the coming year, read the full report. Tracking the Trends 2010
Deloitte report recommends cautious expansion and forward-looking approach
Toronto, December 15, 2009 — Volatility seems a mild word to apply to what has been happening in the mining sector over the past year. Deloitte today released a new report showing that, given the continued uncertainties facing the mining sector, the winners will be the companies that learn to manage volatility more effectively by adopting an integrated, forward-looking approach that defines responses to a range of anticipated futures.
“In an industry as notoriously cyclical as mining, more than ever before, organizations must have sufficiently flexible strategies to weather both market upswings and downswings,” says Glenn Ives, North American Mining Leader, Deloitte. “Achieving this flexibility requires advance planning for various potential risks and scenarios. Without this approach, many companies are bound to experience project delays, talent shortages, and spiraling costs as demand recovers — which could ultimately result in an endless series of boom and bust cycles.”
According to a new Deloitte report, Tracking the Trends 2010: A look at 10 of the top issues mining companies will face, mining industry activity has often been disproportionately influenced by short-term outlooks. When commodity prices were hitting record highs two years ago, optimism was expressed with almost giddy expansion as companies rushed to develop and build even marginal, and often technically complex, assets. The result was a precipitous increase in costs for raw materials, energy, equipment, supplies, and labour. When commodity prices subsequently dropped in the wake of the downturn, saddled with committed capital expenses at suddenly uneconomical prices, mining companies turned cost containment into a mantra and began cutting across the board, shedding non-core, and in some cases, high-quality assets, halting production, scaling back workforces, and putting deals on hold.
Now, commodity prices are rebounding again. By August 2009, base metal prices had already returned to profitable mid-cycle levels, recovering at a faster pace than most industry participants predicted. From a low of US$1.25/lb last fall, copper climbed to over US$3/lb. In October 2009, gold surged to a near-term high of US$1,160 per ounce and silver is demonstrating similar buoyancy.
“These moves seem to indicate that despite recent declines, long-term demand remains set to rise and could potentially outstrip supply once more,” says Ives. “In response, too conservative a view can hamper organizational ability to capitalize on the opportunities, but at the same time, companies need to manage their risks more effectively and consider very carefully whether demand fundamentals can sustain prices at these levels.”
The report explains that as the market rebounds, mining companies must resist the urge to place fundamental challenges on the backburner, and instead seek to manage an array of issues including commodity price uncertainty, regulatory risks, sustainable development, attracting top talent, acquiring scarce capital, and exploring longer-term strategies for growth.
“The past 12 months have reinforced the importance of taking a ‘stronger for longer’ view in the mining industry,” explains Tony Zoghby, Global Mining Leader, Deloitte (South Africa). “To survive ongoing volatility, companies need to enhance their operational excellence and plan for varying potential scenarios. Putting band-aids over endemic issues will not make them disappear. Instead, organizations must take active steps to strengthen their business fundamentals.”
A roadmap for the coming 12 to 18 months
If a company’s strategic planning is not sufficiently flexible to accommodate a range of potential scenarios, the future of their business may be at risk. Given the uncertainties facing the mining sector, the time is ripe for organizations to assess the entire industry landscape, both domestically and globally, to understand the implications of today’s challenges on their business, with the ultimate goal being to develop a wide range of strategic options that they can choose to pursue if specific trigger events come to pass. By mastering the area of uncertainty management by planning for various possible scenarios and risks, companies can also align their executive team to move towards clearly defined long-term objectives.
“Mining companies already understand the value of contingency planning for major incidents such as health and safety,” says Ives. “Strategic flexibility simply extends the concept of scenario planning to operational issues. By envisioning multiple scenarios, this process can help companies maximize their success no matter what the future holds.”
Ten of the top issues emerging within the mining sector
To help organizations take a forward-looking approach to their business planning in the face of new market realities, Deloitte’s mining practitioners from around the world have identified ten of the top issues emerging in the global mining sector, presented in order of priority:
1. Securing local supply: Is the demand from growing nations sustainable?
As foreign companies buy into domestic markets, companies are facing unprecedented competition in their own backyard. On the one hand, industry stakeholders speculate that this stockpiling is unsustainable and may be artificially affecting prices. On the other hand, experts point to the astonishing underlying demand likely to resurge as China, India, and the other emerging nations continue to modernize. As well, geo-political pressures around foreign ownership may influence government regulations and shift the business landscape in different ways across jurisdictions. Given the plausibility of numerous scenarios, mining companies need the strategic flexibility to adapt to either one.
2. Commodities, currency, and costs: The rollercoaster ride continues
Commodity prices have recovered remarkably quickly to a strong level, making the mining sector more buoyant than people had expected. While it is encouraging to see prices rebound, more than ever before, commodity prices have revealed themselves to be fickle masters and companies must explore ways to hedge against currency and commodity volatility.
3. Ramping back up: Success hinges on effective demand management
Faced with plummeting demand, lower prices, and capital constraints over the past year, many organizations shut down locations to avoid holding inventory, put exploration on hold, and reduced the flow of new projects to a trickle. In the face of changing market realities, these same organizations must now seek to ramp production back up. However, until mining companies understand what is driving demand, they will have difficulty thinking ahead of the curve, planning exploration and development investments, and differentiating themselves in the global commodities marketplace. Central to this challenge is also a looming talent shortage in critical areas that are crucial to successful exploration, operations, and investment planning.
4. The spread of sustainability: Earning a social license to operate requires an integrated approach
In the face of heightened regulation, more vocal investor activism and changing consumer expectations, sustainability now encompasses the creation of business processes that benefit all stakeholders. Mining companies increasingly need to collaborate with governments, communities and non-governmental organizations. As well, shareholder and regulatory pressure for improved transparency and disclosure is mandating a more mature governance approach.
5. No easy money: The cost of capital dampens growth
Mining is an exceptionally capital-intensive industry. Therefore, when the debt markets shut down and equity deals started falling through last year, the mining sector was disproportionately affected. In the wake of the global financial crisis, equity financing has lost much of its lustre. As well, liquidity challenges on London’s AIM have slowed deal flow through this market, and while the Toronto Stock Exchange (TSX) has been recovering, equity financing mostly remains confined to classes of commodities, such as copper, gold and silver. Although the credit markets are opening slowly, financing remains difficult to attain, pitting organizations in a battle against each other to gain access to capital.
6. Contending with a changing climate: The risks to the mining industry are rising
For many years, mining companies considered climate change a purely environmental risk that could potentially hamper productivity due to unpredictable drought or flooding. Those days are over: Beyond the environmental impacts of climate change, the issue poses real risks to the mining industry more broadly, including: physical operations, financial risks, strategic risks related to accounting for uncertainty, supply chain risks, and litigation risks. Companies must continuously refine climate change strategies if they are to keep pace.
7. Extreme mining: Searching for the industry’s next frontier
With each passing year, the easy-to-reach deposits are depleting, forcing mining companies to consider more extreme locations, such as following the oil and gas industry’s lead by exploring the feasibility of commercializing underwater mining. Keeping pace with this shift requires mining companies to invest in powerful technology to access difficult-to-reach reserves and navigate complex geological structures.
8. The valuation abyss: The need to merge still exists, but the desire does not
Burned by the breathtaking drop in value across the world’s markets, many would-be acquirers are hesitant about entering new deals. Where buyers are in fact actively trying to take advantage of lower market valuations to acquire quality assets, sellers are attempting to ignore the stock market on the belief that they are being undervalued—making it nearly impossible to find a middle ground. With the notable exception of China who has continued to engage in a considerable number of transactions throughout the downturn, the pace of mergers and acquisitions in most areas of the market is likely to remain slow.
9. Big brother is watching: Government intervention takes a toll
In some countries, shifting tax and royalty policies target the mining sector and eat into profitability. And with so many governments short on cash following the global recession, this may become a larger risk going forward. Moreover, in some emerging nations, the risk of corruption remains. In September 2009, for instance, police in the Democratic Republic of Congo (DRC) sealed off a copper mine owned by Canada’s First Quantum Minerals Ltd., forcing the company to halt construction and lay off 700 employees. The shutdown followed a decision made by the DRC government in August 2009 to cancel First Quantum’s contract. However, this prospect of government intervention is present in all regions around the world, including Canada. To anticipate and hedge against this kind of risk, mining companies will need to engage in more sophisticated scenario and response planning.
10. No bridge to cross: Infrastructure costs are on the rise
As mining companies move into more remote regions, lack of infrastructure threatens to endanger operations, forcing companies to bear the costs of infrastructure development. If the trend continues in this direction, mining companies may find themselves investing in and managing an entirely new class of assets. While this move may support local communities in some areas, it also mandates considerably more collaboration with government stakeholders around the world.
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