Wednesday, August 8, 2012

The Growing Disconnect In Mining

Investors At Odds With Management

There is a growing disconnect between shareholders and management within the mining industry.

"Investors are demanding capital discipline to increase shareholder returns while miners are looking to use cash from record results to develop new projects."
Steve Ralbovsky, U.S. mining leader at PwC is supportive of the management of the mining companies.

"This disconnect was driven by a number of factors, including the fact that the mining industry is a bellwether for the global economy and, with the European debt crisis and fears of a slowdown in global growth during the second half of the year, stocks have been highly volatile. In spite of these factors, we believe the demand story remains robust and long-term growth in emerging markets is more significant to the mining industry than short-term jitters in the developed world."
Investors are clearly not buying the demand story. They want to see higher dividends and more stock buy-backs. They want to see the mining industry defer capital investment. The purpose of this article is to examine these greatly differing views, and answer the question: What should the investor do now?

The mining industry has shown increases in revenue and profit each year since 2002, with the exception of 2009, which was a down year. In 2011, the Top 40 posted record revenues of over $700 billion along with record net profit of over $130 billion, increases over 2010 of 26% and 21%, respectively. Returns to stockholders were up 156%.


The mining industry contends that future supply is its biggest concern. Industry executives lined up $140 Billion in expansion projects for 2012 alone; some of these funds are for initial work on long-term expensive projects. Investors fear that industry concerns about supply are exaggerated.

"Shareholders are desperately concerned about CAPEX inflation. CAPEX inflation without a concomitant increase in the underlying price of the commodity is not good and at the moment we are seeing commodity prices flat to down," analyst Des Kilalea at RBC Capital in London said.
The fact that this mine has at least a 60-year productive life does not seem to excite investors. Missing the cost estimates by a factor of three is bound to concern investors, the owners of the company.

Miners recite the litany of issues facing supply: structural changes to cost bases caused by decreasing grades and increasing input costs, changing fiscal regimes and resource nationalism, ongoing disruptions to production and remoteness of certain locations and increasing capital expenditure requirements to bring supply to market.

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