25 February 2016

Dark clouds hang over Cape Town’s mining Indaba

By William Clowes

Following an extended period of unprecedented success, Africa’s mining industry is on its knees. The heady days of record commodity prices are long gone.

For anyone involved in the African mining industry, Cape Town in February means one thing: Indaba. Held this year between 8 and 11 February, the Investing in African Mining Indaba is a microcosm of what’s happening in the industry and continues to draw thousands of mining executives, investors and ministers, as well as professional and technical service providers. Jonathan Moore, the Indaba’s managing director, describes the event as ‘four days where the entire mining world is focused on Africa’.

It is inevitable that Indaba should reflect the mood of the wider African mining sector – in both good times and bad. Starting in the early 2000s, for just over a decade ‘the world lived through one of the longest periods of high commodity prices, which is commonly known as the “supercycle” and was created mainly by demand for mineral resources from the Asian countries, especially China’, says Paulo de Sa, head of the World Bank’s energy and extractives division. During that time, according to Paul Miller, a mining and metals investment banker at Nedbank Capital, ‘There were some events at Indaba which the mining industry wouldn’t have been proud to admit were held. There were lavish events, boat cruises on the bay and parties in mansions. Some people who’d had some big success used to show it off.’

We are now several years into a bear market. Whereas miners and investors once wondered how high commodity prices could go, they now pray – seemingly in vain – that they will not sink any lower. To illustrate, copper peaked in 2011 at just under $10,000 a tonne and has since crashed to about $4,500. In a similar period the price of gold has slid from $1,900 an ounce to about $1,200 and platinum has deteriorated from more than $1,800 an ounce to a little above $900. To compound the gloom, the World Bank recently predicted that metals will drop a further 10 percent in 2016 after a 21 percent decline last year.

What has happened? Ryan Cochrane, senior research analyst at Wood Mackenzie, explains that China’s modernisation created ‘incentives to fire up a huge number of mining projects’, but industry sentiment does not change overnight and it takes significant time to react accordingly. You can’t just flick a switch and add capacity. There’s a long delay. It takes a long time for optimism to translate into new mines because you must find the minerals, study them, prove their economic worth, raise the finance, build it, and then get it into production.

Therefore, China’s galloping demand was never going to be matched immediately by sufficiently ramped up supply. According to de Sa, mining companies ‘did not realise that this was going to last for a substantial period of time so were late to respond in terms of adding the capacity needed – so that’s why prices stayed high for so long’.

When companies did react, de Sa says, ‘the problem was that everyone was so euphoric that they spent a lot of money on bad projects’ and developed numerous mineral properties which would only be viable in times of high commodity prices. ‘Now that prices have fallen the mining companies have found themselves with lots of debt on their balance sheets, having invested in projects which aren’t competitive’. Today, according to Cochrane, ‘a huge amount of supply is coming to the fore and with the slowdown in China’s growth we’ve seen the oversupply of markets which has put downward pressure on prices’.

Whereas previous Indabas were characterised by ambitious discussions of building new projects and raising finance, today companies generally prioritise simple survival in these lean times. ‘They are restructuring, cost cutting and re-strengthening their balance sheets’, says Miller. The current imperative, according to de Sa, is to control supply. ‘Producers need to show a bit of discipline, delay new projects and refrain from oversupplying the market so it returns to normal prices’.

This understandable turn away from new projects has had a knock-on impact on the African mining’s premier conference. Taxi drivers spoke of business being down this year, on account of the much diminished number of people who come to Cape Town to do business on the Indaba’s periphery rather than buy a pricey delegate’s badge. There are also fewer paying attendees. This year’s Indaba attracted about 6,000 participants, a fall of about 700 from last year.

However, in some quarters, the conversation appears to be turning back towards buying and building rather than retrenching. In spite of the melancholy narrative, faint signals of reviving optimism were detectable within the corridors and lobbies of the Indaba. In Moore’s view, ‘companies nowadays often send six people instead of ten but it’s the six that really matter’. One can find discussions making preparations for the return of more favourable commodity prices so that some companies will be ready when the market is blighted by undersupply. According to Miller, ‘there’s no equity capital for new exploration, no grassroots work being done, no money being raised to build new mines so mines will come to the end of their lives and we’ll start again because now there will be a shortage in the market’.

‘With low commodity prices mining assets are cheap and lots of companies are thinking about where to grow’, says Michael Kloss, a director at McKinsey’s Johannesburg office. ‘If you are serious about expanding your portfolio, this is a great time’. Moore claims that investors are talking about ‘tremendous buying opportunities’ driven by a belief that companies currently in possession of African exploration permits are valued far below the minerals under the ground.

To Moore’s mind, this shift in mood represents the ‘initial groundswell you see when coming out of a cyclical low’. There is much uncertainty over when and why commodity prices will again begin to tick upwards, but everyone is sure that eventually they will, if perhaps not with the same vigour as the early part of this century. According to Miller: ‘The cycle has happened many times for multiple reasons. The impetus for the “supercycle” was China’s growth and next time it’ll be something else, Africa’s own growth for example’.

De Sa cautions, however, that ‘over the long term demand will dictate where prices go and unfortunately the World Bank is not expecting any more of high growth rates in China which led towards this huge boom in demand’.

Despite these measured words, mining in Africa attracts hard-headed yet optimistic types and some of them at least are beginning to contemplate sunnier days.

William Clowes is a British journalist based in the Democratic Republic of Congo