A low metal-price environment such as the current one understandably leads mining companies to be cautious, cut spending and rein in expansion; however, that very behaviour means they run the risk of not being ready when the upswing comes.
Being unprepared for the upswing is the number one risk facing global mining – and copper mining in particular. That’s according to Business risks facing mining and metals: 2015-2016, a report issued every year by global professional services firm, Ernst & Young.
It is also the number one risk to the Zambian copper-mining industry. According to the World Bank’s 2015 Zambia economic brief, “growth in production will begin to slow after around 2019. Along with the decline in production there will be a decline in government revenue, mining industry jobs, and foreign exchange”.
“Investment, access to energy and resource nationalism are major risks”
So, three to five years from now, Zambia could wake up with a mining industry that is unable to cash in on renewed global demand for copper, unless there is further investment in new production capacity and improved productivity. While the consequences may seem a long way off, the Ernst & Young report makes clear this is a real and present risk: “given the long lead time to develop new supply, decisions to invest for future growth have to be made now”.
This key Ernst & Young finding about renewed investment suggests that investors in the Zambian mining industry must have the vision and courage to commit billions of dollars to long-term expansion, secure in the knowledge that it will generate a decent return. It also suggests that the Zambian government must have the vision and courage to facilitate this investment by creating an investor-friendly environment in terms of a stable and predictable policy framework, an internationally competitive tax regime and simplified, more responsive business regulation.
Investors have become increasingly risk-averse in recent years, and mining now competes for investor capital with currently more-attractive business sectors, such as the digital economy. The Ernst & Young report identifies access to capital as a major risk, calling it “a survival issue” for the global mining industry.
The second major risk facing the global copper mining industry is access to energy. “Mining is an energy-intensive activity, with the cost of energy representing up to 40% of a company’s total cost base, making it a keenly managed component of any operation,” the report says.
Securing “sustainable, cost-effective and reliable” energy becomes even more critical as mining companies expand operations to remote areas with under-developed energy infrastructure. Underinvestment in electricity generation, and rising domestic demand for energy, has caused power shortages in many countries – from South Africa and the Congo to Indonesia and Brazil, the report says.
“In addition, the increasing affluence in developing markets has translated into greater demand for residential energy.”
This was evident in Zambia from 2000 onwards, when more than $12 billion of investment by the mining industry boosted economic growth, employment and disposable incomes – leading to increased electricity usage by domestic users in their homes.
The importance accorded to energy by the Ernst & Young report comes as no surprise to Zambia, where there is not even enough power for existing mines. They continue to face power restrictions, and cannot access all of their contractual power allocation – if they want more, they have to purchase expensive top-up power on the open market.
Current power constraints mean that even if there was the desired massive wave of new mining investment in Zambia, new or expanded mines would stand idle for lack of electricity. The good news, however, is there are several power generation projects planned, under construction, or nearing completion in Zambia, and the first of these are scheduled to come on stream within the next three to five years, and will help to alleviate the current power deficit. Of course, this power needs to be both efficiently generated and affordably priced to be attractive to industrial and domestic users. It is for this reason that a Cost of Service Study, funded by the African Development Bank, has been commissioned and is scheduled to start in 2017.
Another major risk identified in the Ernst & Young report is resource nationalism, which is broadly defined as the tendency by people and governments to assert control over the natural resources located on their territory. This is typically reflected in high taxes on mining companies, mandated beneficiation (a requirement to add economic value to mineral ore, rather than exporting it in raw form), restrictions on imports and foreign workers, and so on.
Resource nationalism continues apace, and taxes and royalties are still being increased around the world, the report says – but “not with the vigour of previous years”. Since 2014, countries have been improving their investment environment to encourage capital flows, a trend the report describes as positive. “In more extreme cases where disinvestment was a threat, countries have reversed their position on resource nationalism action, which is a sign that a turning point has been reached.” The report cites Australia and Zambia as examples of countries that have repealed punitive royalty tax rates.
Commenting on the Ernst & Young report, Zambia Chamber of Mines president, Nathan Chishimba, says: “The report is useful in that it shows Zambia’s challenges are not unique to the country, and exist in a global context. That said, the various risks outlined are proportionately more important for a single-commodity economy like Zambia’s, than for larger, more diversified economies.”
He adds that the report also shows how everything is connected from a policy perspective in the quest for higher revenues from copper – higher revenues imply higher copper production; higher copper production implies more investment; more investment implies an investor-friendly environment; and an investor-friendly environment implies a reliable supply of energy, without which no new production can take place.
“This is why strategic, long-term vision is so critical – both by the mining industry which invests, and the government which establishes the policy framework within which that investment takes place,” says Chishimba.