Contrarians survive mining market cycles

[] – IF you accept the definition of insanity as “doing the same thing over and over again while expecting a different result”, then we must be crazy in this industry. Every last one of us.

The failure rate of mining projects and companies is remarkable and possibly unique in business, and yet we keep developing projects badly and wasting money in the same ways.

An analysis of mining project failure over the last four decades reveals that the causes of failure are remarkably consistent.

In a nutshell: inappropriately qualified (and too often unscrupulous) and incentivised people are being given too much money with too little oversight to develop projects with too little merit when commodity prices are high. This leads to wholesale failure and value destruction when commodity prices are low.

In fact, when measured by total quantum of investment and return, the industry as a whole has given a negative return on the investment made in the 2002 to 2012 commodity super cycle.

You could say Mining Inc. is bust!

Underlying this, is the fact that successfully developing a mine is an inherently risky proposition. What we are looking for and planning to extract is rare in the earth’s crust and often very rare even in the deposits that we discover and mine. The average mined gold grade ranges from 0,0001% to 0,0008%!

We then evaluate projects to make a large investment decision through sampling a tiny fraction of this tiny fraction! It takes an average of 12 to 17 years to find a mine and bring it into production, and several more years before the project breaks even and starts to make a return.

Commodity cycles don’t last that long so on average it will take several cycles – and usually several companies – to take a project through discovery, evaluation and into capital raising, construction and production.

All of this within a regime that has to be fiscally and politically stable for 15 or 20 or more years with a commodity price that will likely rise and fall by at least 50% more than once during this period.

Add to this the fact that mining is probably more capital intensive than any other industrial activity and requires constant reinvestment of capital into an asset of diminishing value. It’s no wonder we’re not popular with accountants!

Consider also that we have found all the easy, shallow, high grade, good infrastructure, low sovereign risk, low environmental impact stuff and that mining project lead times are set to become longer. So should we all pack it in and do something else? Absolutely not.

There is always opportunity in the market for those who understand that the quality of their people and management is at least as important as the quality of the orebody, and who never forget that the market will always be cyclical and volatile, and that one must, must, be a contrarian.

Companies with good management, strong balance sheets and well laid plans will capitalize on a poor market.

Well run companies that keep their heads, don’t buy overpriced assets, control their costs, and plan for the 50% plus drop in the market of the last several cycles, will take advantage of the inevitable downturn that follows.

We have largely lost the ability to be price makers, so we must live by a golden rule; price takers live and die by cost control and should never overpay. For contrarians it’s always a good market.

Keith Scott is the MD of MSA Group.

This article was published as a foreword to the 2016 edition of Rainmakers & Potstirrers. The digital version of Rainmakers & Potstirrers will be published on Miningmx in March.