Ayear ago, South Africa’s gold producers were i n the midst of a heavy costcut t ing d r ive as the i mpact of t he decline i n t he gold price, which had started si x months previously, hit home.
Analysts now think that most of the corporate and operational costcutting is out of the way, leaving the likes of Gold Fields and AngloGold Ashanti with little space to manoeuvre should the gold price weaken further or the rand strengthen against the dollar. If either of those events takes place, only large-scale restructuring can result.
According to David Davis, an analyst at Standard Bank Group Securities (SBGS), it’s a question of the law of diminishing returns – an economic term used to describe the counterproductive effects of adding too many factors to production. For instance, adding too many workers to a shop f loor will eventually result in bottlenecks and materialise as less eff icient production on a per-unit basis.
“We believe the cost-savings exercises will likely soon have reached the ‘ l aw of diminishing ret urns’,” said Davis in a research note dated 7 July. “Therefore, mine right- sizing, closure or sale will likely result,” he said.
Since last year, it ’s estimated that SA’s gold counters have cut their all- i n costs ( AIC), which i nclude t he cost of replacing reser ves t hrough exploration as well as sundry corporate costs, by 36% to 45% − a massive improvement, with Harmony Gold leading the way.
It slashed AIC $573/oz to $1 224/ oz, but at the current gold price of $1 308/oz that still leaves the company with precious l it t le margin in dollar terms. Mercifully, most of its mines are in SA, so its top-line revenue benefits from rand conversion.
Gold Fields cut an estimated $458/ oz while AngloGold Ashanti reduced it s AIC by $ 544/oz, l eaving both companies with a break-even of about $1 114/oz. This is hardly a wealth of margin at the current gold price, especially for Gold Fields which has unbundled most of its SA production into Sibanye Gold, a company that reduced its costs the least in the last year, but has the best margin at an AIC of $1 101/oz.
Said Davis: “We believe that these levels of savings, especially in capital expenditure, are not sustainable in the medium to long term at current pro- duction rates [at low gold prices].”
It is bad for the SA gold sector in terms of its ability to generate foreign exchange, and obviously its employment levels, but it’s good for the longterm prospects of the gold price and those left standing to benefit from it. Davis expects that at an annual cost inf lation of 10%, the gold price would need to be at around $1 700/oz by 2018.
It’s one of the reasons why analysts continue to show interest in Sibanye Gold.
Although t he share has a l most doubled in the last year, its strategy of extracting as much value as it can in a benign gold price environment has been underestimated by the market, according to Eugene King, an analyst for Goldman Sachs in London.
He believes recent acquisitions by Sibanye Gold, including its cut-price purchase of former JSE gold stock, Wits Gold, will translate into higher than average yields of 3.6% and 4.6% in the 2015 and 2016 f inancial years, respectively.
AngloGold Ashanti’s Cuiaba gold mine in Sabara, Brazil.
Johannesburg, the city built on gold