May 2016

Mining, the loonie and energy

By Mauro Chiesa

Mauro Chiesa

Mining is a changing business within a changing world. Existing operations and new projects cover more continents, have thinner grades, higher capital cost needs and more remote situations (not to mention host governments who now are hesitant to pick up costs such as roads or energy subsidies). Thus, feasibility work should include a careful review of currencies, energy costs and procurement options.

Why introduce these issues? The economic landscape is changing and increasingly cautious investors do not want their investments crushed unexpectedly; they will query the issues and the mining company must show some degree of forethought and distinguish itself from global competitors. The U.S. economy is finally rebounding and has become more diversified, having developed into a net energy exporter – two simultaneous factors which boost the U.S. dollar, relative to other currencies, including the loonie. The global economic slowdown and slowing demand for oil has added a damper on oil prices and on the currencies of other oil-exporting countries whose economies rely more heavily on energy exports. Four countries in particular – Venezuela, Nigeria, Russia, and Iran – are very crude-dependent and thus looking to increase production in order to mitigate the fall in revenues. Canada is also in such a bind with very high-cost oil defining the value of the loonie. While commodity-misery generally associated with slowing demand would be the first reaction for anyone to consider, there are silver linings associated with the fall in currency and oil prices, and the relationship between a host currency and the price of oil. A mining company should take note as it reviews its feasibility work – be it existing or expansion via brownfield or greenfield projects.

First consideration: the loonie’s fall from par with the U.S. dollar is not as bad as indicated. With most of the world’s commodities priced in American dollars, gold at US$1,200 per ounce with the loonie at US$0.75 offers the same revenue in Canadian dollars as gold at US$1,600 when the loonie was at par. And the weaker loonie, in US$-terms, means operating costs are at 75 per cent of their former at-par levels.

Secondly, should a mine be situated in a country where the currency is closely tied to the price of oil, like Canada, the benefits are further compounded. Not only are the operating expenses reduced because of the discounted loonie, but mining companies’ energy costs are also down as the US$-denominated price of energy has fallen by about 70 to 75 per cent. If a project is in, say, Nunavut, where diesel fuel is essential for year-round operation, the compounded effect does make a difference.

Lastly is the issue of capital expenditure procurement, both during construction and operation. Many feasibility studies focus on US$-denominated costs, without a mention on local versus foreign procurement differentials, should currencies differ. Given the discounted currencies relative to the U.S. dollar and the cost of energy, a mining company must re-assess its procurement process, or “re-procure,” in its feasibility study and make sure the CAPEX estimates now reflect a procurement model that is consistent with the new assumptions. The sourcing of technical staff should also be re-assessed using these new assumptions.

The issue of identifying local versus foreign procurement options packs additional advantages that could expedite the project, especially when capital is tight. Armed with the local procurement estimates for a project’s construction and operation, a mining company has the information and the third-party validation with which to negotiate and secure financial assistance from the local public sector. Crown corporations such as Export Development Canada (EDC) and the Business Development Bank of Canada focus both on the export benefits and on the Canadian content input of any project they are asked to co-finance. Given the economic slowdown, governments look to support domestic supply of both capital goods and services, such as training or immigration of specialised staff. Governments have now realised that these projects have multi-faceted benefits to their regions, especially in rural situations.

In summary, currencies, energy exposure and procurement are variables that require careful consideration for each operation evaluated and each project considered. With the swings seen in the last 18 months and the global economic slowdown, mining companies need additional skill sets to avoid supporting a dud or neglecting a star, whether it is an operation or a development project; they can also expedite a project by facilitating co-financing and policy support from the public sector.

Mauro Chiesa has over 35 years of experience in financing and advising extractive and infrastructure projects. He has worked with multinational banks in New York City, at the World Bank Group and EDC.
Got an opinion on one of our columns? Send your comments to editor@cim.org.

Table of Contents
     Feature
    Project Profile
    Technology
Post a comment

Comments

PDF Version