Short Term Pains Should Be Long Term Gains For Mining Sector

This story features OZ MINERALS LIMITED, and other companies. For more info SHARE ANALYSIS: OZL

By Chris Shaw

One of the more immediate impacts of falling metals prices is lower earnings for mining companies, exacerbated by these companies lowering their production levels. But as Barclays Capital points out, there are other impacts not as immediately obvious, as they take some time to flow through.

The most significant of these is the reduction in capital spending as companies move to sustain cash when both commodity prices are weak and credit market conditions are tight, as is currently the case. The group notes this eventually flows through into reduced production efficiency, as ore grades fall and as a lack of spending on equipment means an increase in the occurrence of technical problems.

The result of this is new production is likely to fall short of expectations, which Barclays suggests can have long-term implications for the mining industry. As an example of this, the metals experts point out it can take up to 10 years for a new copper mine to reach production stage. Lead times are generally expanding given the increasing complexity of new mining projects.

There is also a cost in terms of what the group refers to as human capital, as it expects significant job cuts within the mining sector. This should further exacerbate the shortage of skilled workers that characterised the sector in recent years. This shortage played a major role in terms of the supply side constraints and cost inflation most companies in the sector had to deal with over that time.

While such a boom-bust trend is par for the course for the mining sector, the speed at which it has happened this time around is surprising. Barclays notes rather than a relatively measured pace of decline this time around, spending has simply come to a sudden halt.

As a result, there is already a long list of projects that have been delayed or cancelled and in the group’s view this list will get significantly longer in coming months. The lower prices being experienced at present are also seeing exploration activity fall sharply and this all means when demand eventually recovers, the ability of the supply side to respond will be severely limited.

While this is of little comfort in the short-term where the outlook continues to be very bleak, according to Barclays Capital it does offer a very positive longer-term outlook for base metal prices.

In the short term, however, the dramatic fall in prices is forcing miners to delay projects or put them on care and maintenance. As credit remains tight, cash has become the all-overriding consideration. While OZ Minerals ((OZL)) is still trying to convince Commonwealth Bank ((CBA)) its debt facility should be rolled over without providing extra security, junior miner Anvil Mining ((AVM)) was forced last week to put its Dikulushi mine in the Democratic Republic of Congo on care and maintenance.

Several junior miners including CopperCo (CUO) and Matrix Metals ((MRX)) have already gone into receivership. Speculation is rife that others, such as PanAust ((PNA)), might follow.

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