EY report bucks trend by urging growth switch
IF ONE were to compile a list of the biggest risk to metals and mining companies, planning and executing a renewed growth strategy is unlikely to be the top issue. But that’s exactly the view of consultants EY, who recently produced a report highlighting the top risks for metals and mining companies in the next year, and also how these have evolved since the peak of the commodity cycle in 2008.
There is merit in the idea of thinking ahead and preparing for an upswing in commodity demand and prices, even if that recovery is nowhere to be seen and to many in the industry seems as if it is not even on the horizon.
“Pro-cyclical, short-term behaviour currently prevails, with the collective industry mind-set focused on consolidation and capital returns in a lowgrowth environment,” EY said.
“But standing still is not an option: we believe now is the time to prepare for a switch to growth.”
There’s very little to argue with in EY’s reasoning, but it’s also hard to imagine any board of directors in a metals or mining company putting expansion planning atop their to-do list.
Most companies are in a siege mentality, battling low prices and muted demand growth for their products.
Take iron ore, where even the lowestcost producers such as Rio Tinto and BHP Billiton are very much focused on cutting costs and driving productivity.
In their investor presentations after reporting steep declines in profits, both companies talked a lot about what they were doing to run their businesses at maximum efficiency, and very little about what their future expansion plans were.
In some ways, the EY report is on the money, as it is always a good idea to buy assets when they are distressed and when the price cycle for the commodities they produce is near the bottom.
But very few companies will find themselves in a position where their balance sheet is strong enough to fund major acquisitions, even assuming their shareholders had the appetite to support ambitious growth plans. Perhaps large entities with the backing of governments with deep pockets, such as China’s stateowned enterprises, could consider takeovers or costly new projects, but even they seem more focused on managing the transition of their economy to a more consumerdriven model.
The difficulty of developing new mines is also shown by the travails of India’s Adani in getting its $16bn Carmichael coal mine in Australia’s Queensland state started.
The project has been repeatedly delayed by court actions by environmentalists, difficulties in obtaining finance and continuing concern over the economics of the project, so much so that Adani halted engineering work.
The difficulties of doing major acquisitions or new projects should not mean companies should abandon all growth opportunities, but a more realistic assessment is that most mining and metals companies will be more modest in ambition, perhaps seeking joint ventures as a way to grow without much capital input.
If growth is the top risk, what else does EY have on its list? Number two is productivity improvement, followed by access to capital. These speak more to the present situation of trying to survive in a market where most commodities are priced at multi-year lows.
Rounding out the top five are resource nationalism and social licence to operate.
Resource nationalism tends to be more of an issue in developing countries, as can be seen by Indonesia’s policies to ensure local ownership shares in coal mines and the restriction on the export of raw ores.
The social licence to operate is more of an issue in developed nations such as Australia and Canada, where environmentalists are often able to forge partnerships with rural or indigenous groups to challenge the development or expansion of mines.
Comparing EY’s business risks for today with those at the height of the commodities boom in 2008 shows social licence was the only common one in the top five.
The number one risk in 2008 was skills shortage, followed by industry consolidation and access to infrastructure.
It seems the mining and metals industry was largely successful in dealing with the skills issue, albeit at the cost of skyrocketing wages that are now trending down as companies cut projects and strive for efficiencies.
Industry consolidation was perhaps less successful, with several prominent acquisitions not delivering shareholder value, a good example being Rio Tinto’s $3.9bn purchase of Mozambican coal assets that were later written off and sold for $50m.
Access to infrastructure is another issue that appears to have been largely successfully dealt with, although again at massive expense given the cost of building new mines, railways and ports or expanding existing facilities.
A common element is that the challenges of 2008 were solved by investment, perhaps overinvestment in certain cases. The challenges of 2015 are more likely to be met by innovation and strategic nous, as the industry can no longer rely on the promise of an extended commodity super-cycle.