Integrated Annual Review 2012 Annual Financial Report 2012 Mineral Resources and Mineral Reserves Regional overview  
 

3.1.4 Issue 4: Cost pressures

Issue

Operational cost inflation is a major challenge for the global mining sector. For example, Deutsche Bank has estimated that cost inflation averaged between 5% – 7% a year over the last 10 years and accelerated to 10% – 15% in 2011.1 This trend is expected to continue over the next few years.

This is taking place within a broader context in which mining companies’ capital expenditure (itself subject to strong inflationary pressure) is increasingly targeting the replacement of diminishing Mineral Resources and Mineral Reserves – instead of growth.

“We’ve got to change the lens through which we and the world view this industry, and start talking about what it really costs to produce an ounce of gold. I don’t care if we call it NCE or something else, but to talk about cash costs only is not telling the full story.”

Nick Holland, CEO
Gold Fields at the Melbourne Mining Club on 31 July 2012


1 Commodity Online, Cost Inflation is Major Theme for Metals Production: Deutsche Bank, 16 April 2012, http://www.commodityonline.com/news/cost-inflation-ismajor- theme-for-metals-production-deutshe-bank-47470-3-47471.html

Drivers

Key drivers behind cash cost inflation include:

  • A global mining and engineering skills shortage, resulting in higher labour costs (p130131)
  • General cost inflation around inputs, including not only steel, concrete and associated materials, but also energy
  • Currency volatility relative to the US dollar, which further impacts on local prices for equipment, input materials and labour2

Meanwhile, ore grades are falling across the gold mining industry – with average yields amongst major producers falling by around 5% a year over the last five years. At the same time, the industry has also faced an estimated increase in capital expenditure per ounce mined of 32% per year over the past ten years – driven by spending on sustaining greenfields exploration and development projects.

Put simply, the industry is having to mine more tonnes at lower grade to get the same gold output and it is costing more on a per-ounce basis to sustain existing operations and develop new projects.

Figure 3.2: Portfolio Review – operations

  Location Cost reduction actions
 
Group
Rationalisation of our corporate office and regional structures
Reduction in greenfields exploration to US$80 million (2012: US$129 million)
 
Agnew
Cessation of mining on low-grade Main and Rajah ore bodies
Focusing of all mining activity on the high-grade Kim ore body
 
St Ives
Completion of the conversion to owner-mining at the open pit operations – with associated cost savings
Closure of high cost heap leach operation
 
Damang
Restructuring the operation to achieve a long-term, sustainable NCE margin of at least 20%
Evaluation of Damang pit cut-back and underground options
 
Tarkwa
Closure of the high cost South Heap Leach operation

2 Deloitte, Tracking the Trends 2013: The Top 10 Issues Mining Companies May Face in the Coming Year, 2012, http://www.deloitte.com/view/en_CA/ca/industries/ energyandresources/mining/tracking-the-trends-2013/index.htm?id=gx_theme_TT13

Implications

Higher costs are destroying much of the leverage gold mining companies would otherwise enjoy to higher gold prices. This is not always well communicated. In part, this is due to many companies reporting their operational cost rather than their ‘all-in’ costs (including, for example, expenditure on the ongoing replacement of finite Mineral Resources and Mineral Reserves).

This ultimately gives a false impression of the profits being enjoyed by the industry – and is helping drive resource nationalism (p151152). In reality, it is estimated that ‘all-in’ Notional Cash Expenditure (NCE) for the industry has doubled over the last five years. As a result, the profits being made by most gold producers are relatively modest – and remain contingent on further increases in the price of gold. In this context – and amidst rising costs in general – many within the industry are reviewing their existing production portfolios, with more marginal mines likely to face divestment or even closure. Likewise, existing capital expenditure plans are being seriously undermined by ever-higher capital costs. As a result, a number of projects in the global development pipeline are likely to be put on hold or abandoned. In the medium- to long-term, this suggests that gold is becoming a scarce commodity and may help support higher gold prices.

Strategic response

Our existing cost-reduction efforts are focused on a range of initiatives, including:

  • Owner operation: This includes our transition to owner operation at our Australian and Ghanaian operations – supported by our new Heavy Mining Equipment Strategy, which is developing sector best practice and group-wide guidance and protocol around fleet management systems, among others (p78). This helps ensure we are able to reap the maximum rewards from our own operations, without having to pay contractor premiums
  • Business Process Re-engineering (BPR): Our ongoing BPR programme was initiated in the South Africa region in 2010 and subsequently rolled out to our Australasia and West Africa regions. This helps identify and exploit opportunities to improve the efficiency of – and the costs associated with – a wide range of operational and business processes
  • Fit-for-purpose structures: After the unbundling of Sibanye Gold, the corporate and administrative functions of the Group have been adjusted to reflect Gold Fields reduced production platform
  • Mine reconciliation and ore flow accounting: The project was initiated to analyse the effectiveness of existing ore flow and reconciliation processes across the Group – and provide operations with actions plans to enhance their performance from the stope to the pouring of gold, including the minimisation of dilution. These outcomes are currently being implemented

Nonetheless, after considerable success in addressing our operational costs, further cost-reduction opportunities are becoming rarer. As a result, we are also focusing on the quality of (i.e. the return from) our production and growth projects, which, in some cases, has resulted in the downscaling of marginal production – to ensure we are able to maintain healthy margins.

Rising costs – and the resulting erosion of the gold mining sector’s leveraging of the gold price – was a key theme in the much publicised speech by our CEO Nick Holland to the Melbourne Mining Club in July 2012.1

This included analysis on the rise of Exchange Traded Funds (ETFs), which have diverted investor attention away from gold mining stocks. This is largely due to their insulation from ever-higher extraction costs (as well as other challenges facing the industry) and their ability to offer better leverage to the gold price.

We are adopting a ‘private equity’ approach towards our operations to address this challenge – based on the maximisation of cash flow generation (p34). This includes the maximisation of the cash-generating potential of our current operations without compromising their long-term sustainability; i.e. we would not introduce short-term measures to improve cash flows whose benefits would evaporate quickly.

In this context, we undertook a major Portfolio Review to ensure that our existing operations and growth projects support this aim. Details of actions undertaken at our mines as part of this review can be found in Figure 5.5 on p78.

Furthermore, we plan to support this aim in future through a focus on low-risk, high-return near-mine growth opportunities, which includes evaluating potential at Cerro Corona, Damang, St Ives and Agnew (p108) – whilst taking a highly disciplined approach towards the development of greenfields projects (p110).