By Clara Ferreira-Marques
LONDON Feb 27 A generation of new bosses taking
the helm at the world's biggest mining companies is unanimous in
preaching austerity: no major project approvals, no blockbuster
deals, no risks.
The result, analysts say, could be a medium-term supply
squeeze and subsequent price spike in some unloved base metals
like zinc from 2016, as key investment decisions are put off and
projects turned down or sold off. Good news for miners if the
squeeze lifts prices - even on lower volumes.
But, more importantly, the tough talk - amid unprecedented
pressure from institutional investors - marks a major shift for
the mining sector's behemoths, whose decision-making, they say,
is focused on margins and returns after years of chasing ever
"The big guys really screwed up," Glencore Chief Executive
Ivan Glasenberg told a conference this week, in a typically
direct criticism from the sector's self-proclaimed iconoclast.
The "big guys", he said, failed to control supply growth,
pouring money into projects and deals as soon as the market
Indeed, capital expenditure in the sector soared 136 percent
between 2009 and 2012, when miners aggressively embraced growth
as the Chinese economy responded to stimulus measures.
"When the markets do get stronger, no need to keep building
a new asset and let's keep the market tight for a while,"
Glasenberg told analysts and investors in Florida.
"You, the investors, want to get returns on our assets and
it's easily done if we just use our brains."
Glencore, clearly, does not have to balance some of the
tricky political dilemmas facing larger rivals, whose pipeline
includes blockbuster projects like the Simandou iron ore project
in Guinea for Rio Tinto and BHP Billiton's now
delayed Olympic Dam copper and uranium mine in Australia.
There, just sitting tight, without implementing investments,
could jeopardise plans in an environment where governments want
to see jobs created and taxes trickling into state coffers.
Similarly, cost cuts - Rio has a $5 billion target - have to
be set against other considerations. For example, the risk Rio's
salary freeze for its energy division might cause labour unrest.
But investors agree with Glasenberg's rallying call. For the
last two years they been demanding a tighter control of capital
allocation and better returns, after a string of poor boom-year
acquisitions crumbled into multi-billion dollar writedowns. They
prompted the exit of some of the sector's biggest names.
If miners practise what they preach, the effects could be
long-lasting for a sector where players have long viewed project
cuts as a threat to market share, not a boon for prices.
"The reality is that when you bring new mines online you do
have an impact on price, and they are starting to react to
that," analyst Chris LaFemina at Jefferies investment bank said.
"So the consequence of austerity in mining is that you get
not only higher prices, but greater profitability, even on lower
volumes - unit margins go up so much, that it is a net positive
for the industry.
"This sets the sector up for a very strong bull market."
It may not be so simple, however. The miners' moves away
from new projects and a price spike could bring in new players
or increase material substitution - as with cheaper aluminium
for copper, for example, or Chinese nickel pig iron for nickel.
But investors are willing for now to embrace the prospect of
improved profitability, lower debt and better returns from a
sector that has long been criticised for its poor yields.
BASE METALS HIT
A supply squeeze, if tough actions match tough talk, is not
for now - miners are coming off peak years for growth spending,
base metals like zinc and nickel are mired in oversupply and
iron ore is facing a wave of new production.
But it could be on the cards for the next bull run, or three
to five years from now, and most likely in base metals, as
mining companies are directing their investments into iron ore
and even oil and gas. Adding to the impact, smaller producers
who loom large in metals like zinc are also cutting back, hit by
tougher markets and a funding squeeze.
In 2008-9, during the last drive for cost control and
restraint, some analysts estimate almost 2 million tonnes of
copper was affected in some way by project delays - more than
the world's largest producer, Codelco, churned out last year.
"On a broader level we see base metals at most risk of metal
deficits, purely because this is the sector that is the least
attractive to the major miners," said Paul Robinson, Director,
Multi Commodity Projects, at consultancy CRU.
He said the zinc market was particularly vulnerable to
shortages of supply on a 4- to 5-year horizon, given the
proportion of smaller miners, and a number of large mines coming
to the end of their producing life.
"Our base case is that by 2017 there will be a supply
shortage in zinc. We see the deficit reappearing from 2016,
principally due to the exhaustion of zinc mines and in our
scenario they are not being replaced by new mines," he said.
Others also highlight the potential for a squeeze in copper,
where annual supply has for years failed to meet forecasts, and
even lead and nickel - though the supply of nickel pig iron from
China could offset the impact of any cuts there.
"When you look at what the market consensus is expecting by
2015 or so, consensus is expecting the copper market to be in
surplus. The reality might be something quite different, because
the spending cuts will delay some of that future growth in
production," said metals analyst Gayle Berry at Barclays.
Berry pointed to the impact from reduced investment
spending, but also the potential hit from cuts to "sustaining"
spending - cash spent on maintenance, new equipment and so forth
- which could raise the risk of supply disruption:
"There is potential for a double-whammy impact depending on
where the miners cut and how aggressively they cut spending."
The key will be to cut, but to balance - and to learn the
lessons of 2009, when production was taken off and then replaced
at high cost. Even Rio, with one of the most publicised
cost-cutting targets that includes slashing sustaining capital
spending and exploration, stresses that it will not overdo it.
"We are mindful of the lessons learned when we put projects
on ice in the wake of the global financial crisis in 2009," Rio
CFO Guy Elliott told analysts earlier this month.
"It can be significantly more expensive to demobilise and
then restart projects than to keep going."