Exploration: Shifting from High Times to Low Expectations

2008 marked an all-time high for exploration spending, but the industry’s string of record-breaking years looks ready to snap in 2009

By Russell A. Carter, Managing Editor

Kyran Casteel, European Editor, and Magnus Ericsson, Raw Materials Group

For the mining industry—with apologies to poet T.S. Eliot—2008 ended not with a bang, but with a shudder.

During the last quarter of the year, global mining encountered a major speed bump in the form of an abrupt international economic slump that left producers and industry vendors nervously peering ahead to see if the next obstacle could possibly be a brick wall, or worse, a cliff. The go-go, feel-good atmosphere that permeated corporate hallways and trade-show exhibit halls for the past several years quickly vanished, and with a few industry-sector exceptions, has been replaced by a near-vacuum largely devoid of encouraging news or even faintly optimistic economic indicators.

A quick unravelling of commodity prices, disappearance of credit sources for juniors and a mass exodus of investors has put most mining companies in a position that traditionally spells trouble for mineral exploration funding and activity. Junior companies left without access to outside funding quickly turn to managing their existing cash reserves and in many cases will suspend or terminate exploration on all but the most advanced prospects. At the other end of the corporate spectrum, large producers likewise must focus on cost-cutting and cash preservation but often will also be squeezed in an entirely different financial vise—facing payments on loans taken out for acquisitions or projects during better times, while under constant pressure to find and develop additional mineral reserves to replace those depleted by production.

Under these conditions exploration budgets are usually one of the first cost-cutting targets, and this time around is no exception. For example, citing the precipitous drop in copper and molybdenum prices that occurred during the fourth quarter of 2008, Freeport McMoRan Copper & Gold announced on December 3 that after spending roughly $275 million on exploration in 2008, it would cut its 2009 budget to about $100 million.

Also in December, Rio Tinto issued a statement announcing that as part of its goal to reduce its debt commitment by $10 billion by the end of 2009, it was planning company-wide operational and capital cost cutting measures that would involve termination of 14,000 workers including about 8,500 contractors. This figure, according to Rio Tinto Chief Executive Tom Albanese, would include reductions in the company’s exploration division.

However, the exact targets of these cuts were unspecified in the announcement, and during a conference call with industry analysts on December 10, Albanese presented his personal outlook—and in doing so, actually offered a faint ray of hope against wholesale cuts in the company’s exploration division, commenting: “...I would just want to emphasize [my] views on exploration have not changed, that we have to retain long-term exploration capabilities.

“But,” he continued, “we have to be ready to ramp down exploration costs. As you know, a large part of our exploration and evaluation cost increase over the past three years have been associated with the follow-up evaluation on successful discoveries. I think we can see significant reductions in those types of evaluation costs. But I think the ability to carry out generative exploration is quite important in good times and bad.” (For additional insight into Rio Tinto’s exploration strategy, read the following report “Baltic Exchanges” by European Editor Kyran Casteel.)

BHP Billiton, with more than $4 billion in cash and cash equivalents in its coffers at the end of fiscal year 2008 and able to sell off less-than-top-tier mineral discoveries to fund ongoing exploration, would seem to be in an strong position to survive the market slump without massive cuts in exploration activity. However, with iron ore prices predicted by some to fall by as much as 50% in future negotiations with buyers, coking coal prices expected to decline to $120/mt from $300/mt, and with copper and nickel still in a downward slide, the world’s largest mining company announced on January 21 that it planned to cut about 6,000 jobs because of the global economic downturn and weakening demand for its products.

The layoffs represent about 6% of the company’s global workforce of 41,000 employees and 60,000 contractors, and include 3,400 jobs in Australia mostly in coal and nickel production, 2,000 base metals jobs in Chile and 550 positions at the Pinto Valley copper mine in the United States. How the cuts will affect the company’s exploration program remains to be seen.

BHP Billiton reported spending $357 million on exploration during the first half of its fiscal 2008-09 year.

Overall, industry nonferrous metal exploration spending during 2008 was in the vicinity of $13.2 billion, according to Halifax, Nova Scotia-based Metals Economics Group. When combined with uranium exploration spending, MEG estimates that the global spend was more than $14.4 billion. Taking into account only nonferrous exploration budgets, that level of spending represented a 26% increase over 2007 and the sixth consecutive yearly increase since the previous industry slump bottomed out in 2002. (For further details from the MEG study, see Markets, p. 64, this issue, “Nonferrous Exploration Budgets Peak in 2008.”)

Beyond the well-publicized cuts announced by the majors, it’s difficult to accurately assess how severely the global financial crunch has affected juniors. However, an oblique glimpse into the good times/bad times dichotomy of fiscal 2008—and specifically how it relates to exploration— can be gained in the second quarter financial report of Major Drilling Group International Inc. Based in Moncton, New Brunswick, Major is one of the world's largest metals and minerals contract drilling service companies, with current operations in Canada, the United States, South and Central America, Australia, Indonesia, Mongolia, and Africa.

In the report, issued in early December for Major’s second fiscal-year quarter ended October 21, 2008, the company said that it had posted record profits from the highest quarterly revenue and the highest quarterly earnings in its history. However, noted Major Drilling’s President and CEO, Francis McGuire, despite its recent record-breaking performance, the company had to take quick cost-cutting actions ranging from lowering 2009 capex to worker layoffs, as well as retirement of less-productive older rigs that had until recently been busy drilling on contract, in order to prepare for what he termed “a significant slowdown” in calendar 2009 as the industry’s exploration outlook remained unclear.

One of the few bright points in the exploration picture was gold, which has so far managed to keep its price strong throughout the economic nosedive—and which accounts for a high percentage of exploration activity. In Major Drilling’s case, gold represents 50% of its contract drilling work and prospects for continued activity through 2009 remained quite positive, according to McGuire, who noted that gold, copper, uranium and gas drilling account for 80% of the company’s business.

Another encouraging development is the growing interest in exploring the mineral potential of Sweden, Finland and Norway. E&MJ guest contributor Magnus Ericsson, principal of Stockholm, Sweden-based Raw Materials Group, reports on recent Nordic activity further along in this article.

A recurring theme in end-of-year 2008 statements and financial reports from various mining industry sectors was “lack of visibility”—management simply had little or no indication of whether the metals market slump would get better, worse or drag on in its current dismal state throughout 2009. An additional complicating factor going into late 2008, at least in North America, was the onset of the traditional holiday break in drilling and other exploration activity. Drilling services companies, equipment suppliers and others involved in exploration held their collective breath to see if activity would resume following the break, and in many cases were rewarded only by continued silence in the new year as their customers extended the break while sifting through their options to weather the storm.

Even industry observers that are closely attuned to exploration spending patterns remain baffled by near-term prospects. In its most recent analysis of exploration spending referenced above, MEG concludes, “Given the uncertain financial outlook for the mining industry, and the global economy in general, just how deeply explorers cut spending next year and how long the down cycle will last are impossible to predict at this point. That said, given the decline in metals prices and the continuing volatility and financial instability at the time of writing, an overall decrease in 2009 exploration spending similar in scale to the year-on-year declines during the first few years of the last downturn is certainly possible.”

Baltic Exchanges

Two conferences held in Sweden during the fourth quarter of 2008 provided broad-based assessments of the exploration situation in the Nordic countries. The earlier one, held in Skellefteå from October 21–23, was a new event: Euro Mine Expo 2008. The second was the established Raw Materials Group Mining & Exploration Conference in Stockholm a month later.

The joint organizers of the inaugural Euro Mine Expo—Georange and Nolia AB—rightfully regard the event as a success, with roughly 1,000 attendees from 24 countries arriving in Skellefteå, the service hub for the Västerbotten mining industry, to participate. Some 96 companies exhibited, two thirds of them technology suppliers and the others mainly either mining or consulting firms active in the region. As well as a full program of presentations in the main conference room there were short seminar-style meetings concerning specific technologies led by suppliers. Prior to the Expo, attendees had the option to visit Boliden’s nearby Rönnskär smelter, Renström and Kristineberg mines and the Swedish Geological Survey’s Mineral Resources Information Office in Malå.

Margareta Lundquist, CEO of the event organizing specialist Nolia, said: “Our objective was to create a recurring international meeting point and we could not have got off to a better start. Feedback has been very positive and we are looking forward to the next Euro Mine Expo June 8–10, 2010”.

Lennart Gustavsson, chairman of Georange (a key member of Sweden’s mineral industry research and development triple helix), commented: “The mining industry has long been in need of an international meeting place in Europe where we can inspire each other, forge new business links and exchange experience. This is all the more true today as the financial crisis affects the industry and sets it new challenges. The timing of Euro Mine Expo could therefore not have been better.”

Although the high level of attendance probably reflected the boom in exploration and mine development within the region, the technical program also included global perspectives and covered related issues such as manpower availability and comprehensive land use planning.

The opening session included two keynote presentations on exploration. Eric Finlayson, who is head of exploration at Rio Tinto plc, covered the global perspective from the point of view of a major mining company. He explained how Rio Tinto’s exploration and development strategies are based on the company’s primary need to have a long-term pipeline of very large mining projects for each of the metals and minerals the company produces. For a company the size of Rio Tinto, discovery and development of so-called Tier 1 deposits—the largest, highest quality prospects—are necessary for survival, and according to Finlayson, Rio Tinto has performed very well in this quest, producing what he termed “an unrivalled track record” in Tier 1 discoveries (see accompanying chart). Since 2000, Rio Tinto has made six Tier discoveries at a net cost of $91 million per discovery.

However, not every discovered deposit is Tier 1 class, and lower-quality Tier 2 discoveries play an important role also in Rio Tinto’s business strategy. By promptly selling off Tier 2 holdings, the company can apply the proceeds to its self-financed exploration program; in fact, between 2000 and 2007, these divestitures returned $405 million to the company’s exploration effort, spending for which totalled $952 million during that period.

According to Finlayson, roughly 42% of Rio Tinto’s projected 2008 exploration spending was in copper, followed by 21% for iron ore and coking coal deposits. Other targets included diamonds (13%), bauxite and industrial minerals (8% each), uranium (5%), and nickel (3%). Fifty-three percent of the 2008 exploration budget was directed towards non-OECD countries

Clearly, Rio Tinto’s—as well as other large producers’— exploration programs march to a different drummer than does a junior exploration and mining enterprise. But, as Finlayson noted, the “deflation” of the junior sector has opened up a wide avenue of acquisition opportunities for his company.

The Scandinavian exploration scene was reviewed by Karl-Axel Waplan, formerly with Lundin Mining but now managing the European operations of Northland Resources. Despite the immediate financing problems faced by the local and foreign junior companies with programs in the region, Waplan believes the factors that had made Norway, Sweden and Finland attractive for mineral exploration would reassert themselves in the medium term.

Exploration strategies and technological developments were discussed in papers by Pierre Heeroma of Boliden Mineral; Professor Per Weihed of Luleå University of Technology, Sweden; Duncan Large, a consulting geologist based in Germany; and Mark Saxon, vice president–exploration with the Canadian company Mawson Resources which is active in the region.

New technology for mechanized small-scale mining was the focus of presentations by Rod Pickering of Sandvik Mining & Construction and Lars Bergkvist of Atlas Copco Construction & Mining Technique, while case studies were outlined by Hans Thorshag of Lundin Mining Exploration (the Storliden mine in Sweden) and Timo Lundborg of Endomines (the Pampalo operation in Finland).

Various aspects of future global and European raw materials demand and supply were examined by: Magnus Ericsson of the Raw Materials Group in Sweden; Paul Anciaux from the Enterprise and Industry directorate-general of the European Commission; Olle Östensson, who heads the Minerals, Metals and Energy section of the Commoditiesd branch of UNCTAD; and Corina Hebestreit, director of Euromines, the European mining industries’ association.

Other sessions covered human resources issues in Canada, Australia, Sweden and Europe generally, and land use, social and environmental protection inter-relationships.

Nordic Scene—Better Days Ahead
Raw Materials Group’s annual conference continued its quest to highlight the Nordic region’s mining industry on analysts' radar screens and place Sweden, Finland and Norway on mining companies' maps of potential investments. The conference drew more than 140 participants from the financial sector in Sweden, Norway and Finland for a wide-ranging program that spanned two days in November.

The mood in the industry was aptly summarized by Adam Rowley of the Australian investment bank Macquarie: "We have for eight years witnessed the longest and largest price rallies of base metals ever. Three months ago demand started to collapse and prices have been falling since. But it is a temporary decline in metal prices. By the end of 2009 and during 2010, stimulus packages will have a positive impact, not the least in China. In the long run I am optimistic but in the short term I am still worried."

Much of the information available at the conference was offered by European mining companies interested in the region’s prospects. For example, Polish copper producer KGHM Polish Copper participated for the first time. Not widely known and even less appreciated, KGHM is by far Europe’s largest metal mining company and is significantly bigger than both Boliden and LKAB, the leading Nordic miners. Having recently launched an exploration cooperation with Boliden, KGHM will no doubt raise its profile in Scandinavia.

Another newcomer in the Nordic region is the Canadian company Agnico-Eagle, with the newly opened Kittilä mine (formerly known as Suurikuusikko) in Finnish Lapland (see E&MJ, October 2008, pp 68–70). The company's business activity and strategy was explained by its European chief, Ingmar Haga. Agnico’s successful European venture proves that the Nordic countries are a very attractive region for exploration and mining and that the company will be a serious competitor to the older established players in this part of the world.

As of mid-November 2008, Agnico-Eagle Mines’ Kittila gold mine in northern Finland had achieved mechanical completion and gold concentrate production was under way..

Agnico-Eagle’s plan for Kittila is to initially conduct surface mining at the site, then phase-in underground mining after 3-4 years. Approximately 7 million mt of material had been stripped in the main Suuri pit as of mid-November, and approximately 280,000 mt of ore had been blasted.

Underground development was also moving forward, with 4.9 km of underground development completed. The mine’s production decline is also being used for exploration drilling, focusing on both resource-to-reserve conversion and deep exploration. Plans call for roughly 4 km of underground development to be completed annually from 2009 on until the startup of underground production.

Agnico-Eagle is enthusiastic about the long-term possibilities of its Finnish Lapland holdings. As the company explained, Kittila’s principal deposit, named Suurikuusikko, is centrally located in a greenstone belt that extends from the Norwegian coast through Sweden and Finland and into Russia. The belt is similar in characteristics to other large greenstone belts in Australia, North America and Africa, and is relatively unexplored compared with them. Nevertheless, it has produced severable notable copper and gold deposits including Pahtohavare (Cu, Au), Viscaria (Cu, Au), Kautokeino (Cu, Au), Saattopora (Au) and Pahtavaara (Au).

As of late 2008, eight drills were operating on the Kittila mining lease, seven on the surface and one underground. Four of the surface drills were engaged in resource-to-reserve conversion drilling while the remaining three were exploring the deposit’s Main zone at depth. The underground drill was dedicated to ore delineation for production purposes. Exploration also was continuing outside of the mining lease area, along the 15 km Suurikuusikko gold trend.

According to the company, recent deep drilling has continued to expand gold resources at depth. Intended goals for its 2009 program include more than 40 km of exploration drilling by the eight rigs on site, along with more than 25 km of resource-to-reserve conversion drilling.

Represented for the first time at RMG's conference, the Swedish firm Grängesberg Iron Ore and Canada’s Vanadis Mining Corp. are among the more interesting junior companies. Vanadis Mining, with plans for an IPO in the Nordic countries, is a subsidiary of Adriana Resources. The company’s focus is on a major vanadium deposit in Mustavaara, Finland. Grängesberg outlined its projects, including two in the mining areas of Bergslagen and Norrbotten, as well as a pellet plant in Oxelösund. 

Liu Fan, of RMG’s Chinese partner, metals market analyst Antaike, provided an updated picture of China’s lead and zinc industry. China is the largest zinc producer in the world and developments in the country both in terms of mining of lead and zinc ores and demand will directly affect Boliden et al. There is a slowdown in Chinese demand, production will be consolidated and many of the thousands of small mines will suffer or fail. The outlook is mixed, certainly, but by no means totally bleak.

U.S.-based steel analyst Chris Plummer of Metal Strategies presented a detailed analysis of and outlook for the steel industry. He sees a sharp decline in steel demand in the coming years, but painted a slightly more positive picture of iron ore price trends based on production cuts and fewer new projects. The fact that the industry is dominated by three giants who can affect iron ore prices by throttling production is also important.

Don Newport, Standard Bank Ltd., ended the first day of the conference with an analysis of the mining industry's financial condition, descriptively summarized by the title of his presentation: “Blasting, Crushing and Grinding—The Future of Mining Finance?” According to Newport, the following points apply for funding through stock and credit markets:

-There are only a few powerful companies that can successfully launch IPOs.
-There is no correlation between share prices and metal prices.
-Share prices have little to do with the true value of company balance sheets or prospects.
-There is a general shortage of capital for industry.
-Most non-specialized banks do not want to hear from the mining sector at all.
-No longer is the question the price of credit, but the availability of credit.

At the time of the conference, the global financial crisis and incipient economic recession had not yet fully reached the mining sector. All analysts were, however, in agreement that the mining industry's future does not look quite as bleak as that of European industry in general. Most of the increase in demand in recent years has come from developing countries and from Eastern Europe, Russia and other former Soviet states. Admittedly, even this will decline but not nearly as drastically as in Western Europe, the United States and Japan.

It is also important to consider that two of the three major metals are still doing fairly well: gold and iron ore. The gold price remains at a high level and Jeff Christian of CPM Group in New York predicted at the conference that prices will remain high. Christian maintained that, while investment demand for gold determines its price, demand from jewelry manufacturing and industrial uses will be lesser driving forces. During these economic uncertainties gold can continue to be considered a safe investment.

Following conference custom, Jan Häggström from the Swedish resource bank Handelsbanken opened the 2008 conference with a global macro analysis, with particular focus on developments in China and India. He too finished his presentation by saying: "Prices will eventually go up again!"

In his speech on exploration in the Nordic countries Magnus Ericsson, RMG’s founder, principal shareholder and conference initiator, asserted that the mining industry faces rough weather in 2009 and it is clear that exploration investment will decline sharply in the Nordic region, but not as fast as in the rest of the world. The Nordic region is seen internationally as an attractive region offering a combination of good geological conditions, sensible legislation and well-developed infrastructures. Ericsson stated that, if the Swedish government were to follow the Finnish example of supporting the industry, it could contribute greatly towards Sweden winning the battle for future exploration and new mining investments.

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