JOHANNESBURG (miningweekly.com) – A swelling cost base and shrinking margins have dented the financial showing of South Africa’s mining industry over the past year, driving impairments up 145% to R49-million and resulting in a 19% contraction in the sector’s capital expenditure (capex) for the year to R57-billion, a report by professional services firm PwC has shown.

Presenting the findings of the sixth ‘SA Mine’ survey, PwC energy and mining assurance partner and deputy regional senior partner Dion Shango told a media roundtable in Johannesburg on Tuesday that international demand weaknesses, coupled with labour unrest, had further subdued sector performance in 2014.

In contrast with nonmining stocks listed on the JSE, the report identified a downward trend in market capitalisation over the year by mining firms, despite a temporary respite in June and July.

However, South African-listed mining stocks performed in “almost perfect correlation” with mining companies listed on international bourses, emulating global market conditions.

REVENUE SLICE
While diversified miners remained strong over the 12 months, holding a 38% market capitalisation, platinum companies benefited from a weaker rand and overtook this subsector to secure a 39% slice of the market.

Coal, meanwhile, retained its status as the biggest revenue generator, representing 29% of the country’s R351.3-billion overall yearly mining revenue.

Gold’s contribution decreased from 20% to 14% year-on-year, despite stable production, while the contribution of platinum-group metals increased marginally to 23% of total national earnings, as lower platinum production was offset by an improved rand basket price.

“Revenue from iron-ore comprised 19% of overall revenue, while other metals brought in 15% of total earnings,” Shango explained.

Looking to what he described as “the real rand story”, Shango noted that gold was the only South African commodity to show a real, albeit marginal, price growth since 2004.

“[In contrast], platinum and coal reflected unsustainable real price decreases and achieved their lowest real price in the last ten years,” he outlined.

TEMPORARY RELIEF
Shango further cautioned that the weak rand was only temporarily “saving” the South African mining industry and would eventually give rise to inflation and cost pressures.

“Mining companies will have to find a better way of maintaining margins in a declining dollar environment,” he said.

Iron-ore was the only commodity to show substantial production growth over the year, while gold showed a marginal improvement for the first time in recent years.

Platinum output, however, continued to be significantly impacted by labour unrest and diamond production continued its recovery from the prior year.

RISK MANAGEMENT
Disclosing general and enduring risks to the industry, the report outlined labour unrest, volatile prices and foreign exchange rates, infrastructure access and capacity, regulatory uncertainty, high input costs and skills shortages as the primary threats to growth and sustainability.

PwC energy and mining assurance partner Andries Rossouw added that the overarching challenge for mining companies would now be to integrate risk and performance management.

“There is no point in knowing these risks if they are not managed accordingly. For example, commodity prices can’t drop between 30% and 50% without it impacting on your business,” he asserted.

Elaborating on specific focus areas in a changed risk landscape, Rossouw said the industry would need to abandon an “instant gratification” approach and rather look at how to create longer-term gains.

“It’s not just labour that wants instant gratification in the form of higher wages without linked increases in productivity, but it is all stakeholders. Government, for example, wants higher taxes, while executives demand bonuses and increases and shareholders want dividends,” he remarked.

VALUE DISTRIBUTION
In an industry that required significant capital investment to maintain output, the report found that 34% of industry revenues were reinvested in 2014 – down from 41% the prior year – while employees received 38% of overall earnings.

Around 20% of overall industry income was directed to the State in the form of direct taxes, employee taxes and mining royalties.

Shareholder dividends, at 38% of revenues, remained flat year-on-year, indicating that the bulk of shareholders were not currently benefiting from mining-related investments.

“If shareholders don't get returns, they’re not going to invest in the industry. [Worryingly], mining companies are also borrowing more to pay dividends to shareholders,” added Shango.

Moreover, Rossouw said industry earnings before interest, taxes, depreciation and amortisation (Ebitda) margins were too low to support required capex, which would likely result in mining companies being forced to restructure.

In the current year, the Ebitda margin was 28% in the gold sector, 17% in the platinum sector and 40% in other subsectors.

“Margin pressure is threatening sustainability. Margins should be at around 35% to cover capex.

“[To remain in business], companies will have to restructure, implement cost-savings, sell assets and focus on productivity. Many firms are now reassessing assets to see which ones are making sense and which ones aren’t,” Rossouw noted.

Meanwhile, analysing year-on-year wage increases in the mining industry, excluding share-based benefits, PwC found that executive pay increased by an average of 6.5% in 2014, while management remuneration rose 6.6% and unionised staff pay by 8.8%.

This saw a total average lift to payroll of 7%, while the consumer price index rose 6.4% over the same period.

OUTLOOK
Reflecting on the industry’s showing, Shango said there was a need for suppliers of labour, capital and resources to the industry to understand their interdependency and mutual need for fair returns.

There had been “encouraging signs” by government on the importance of the industry and the Framework Agreement for a Sustainable Mining Industry.

While the industry was in a strong financial position, short-term liquidity concerns could hamper flexibility and global economic uncertainty would continue to impact on the sector, as reflected in the market capitalisation of mining companies.

Moreover, the changed risk environment required the committed, integrated management of risk and performance, and companies would need to increasingly consider strategies to optimise labour output to retain productivity levels.

“Never before has it been harder to manage a mining company in South Africa,” Shango concluded.

The PwC report was based on the aggregate financial performances of mining companies with a primary listing on the JSE, whose main operations were in Africa and had a market capitalisation of at least R200-million.

The report excluded majors Anglo American, BHP Billiton and Glencore, as PwC believed their scope and size meant that they did not necessarily reflect trends in the South African mining environment.