New WGC gold cost guide should have investors dancing in the streets
While by no means a silver bullet, today’s announcement by the WGC of a guidance note on all-sustaining costs and all-in cost metrics is a very large step in the right direction.
Posted: Thursday , 27 Jun 2013
GRONINGEN (Mineweb) -
The World Gold Council’s (WGC) announcement today of a Guidance Note on “all-in sustaining costs” and “all-in costs” metrics should have investors dancing in the streets.
Its unlikely to happen because gold miners aren’t renowned for public displays of dancing - especially with markets as depressed as they are - but it is a cause for celebration.
Admittedly it is not a binding measure, but it is a definite move toward greater clarity on the issue of gold mine cost reporting, something for which Mineweb has been clamouring for a long time.
The guidance note has been expected for a while, as the issue of costs has come increasingly to the fore in the past year or so; according to the WGC, it has been working “closely with its member companies to develop these non-GAAP measures which are intended to provide further transparency into the costs associated with producing gold.”
The two new metrics, “all-in sustaining cost” and the “all-in cost”, says the WGC “will be helpful to investors, governments, local communities and other stakeholders in understanding the economics of gold mining.”
In response to emailed questions, Terry Heymann, Director Responsible Gold, World Gold Council, told Mineweb, in the past, “A number of companies have provided guidance using the “cash costs” methodology, developed by the Gold Institute. However, the Gold Institute is no longer operational and there is a lack of consistency in what costs are and are not included and the basis on which this metric is reported. In developing the Guidance Note, we want to develop a more meaningful metric that reflects the cost of producing gold – both at existing operations and over the life-cycle of a mine, for example, including exploration spend and capital expenditure related to the development of new mines.”
But, why should this be such welcome news, and why do people need help understanding the mechanics of gold mining?
Simply put, this is an attempt by gold miners to loosen somewhat the reporting rope which was has been tightening around their respective necks since the start of the 13-year bull run. A run that has pushed prices dramatically higher - at one point, higher than they have ever been in real terms.
As prices of gold moved increasingly upwards, so investors looked to get in on the action and, one of the ways to do so was gold mining equities which provided leverage to the metal price and traded at a premium to the rest of the mining equities. And, the thinking went, metal prices seemed to be moving swiftly beyond the cost of getting an ounce of gold out of the ground, so the profits should be pretty good.
And, it wasn’t only investors that were expecting super profits, governments too wanted to get in on the action and raised royalty rates accordingly.
Yet, fast forward to today and most of these equities have failed to produce the kinds of profits investors had expected; many have had their CEOs replaced as a result and despite gold trading between $1,200 and $1,300 (more than double its price 13 years ago) an ounce many mines are looking decidedly marginal
So, what exactly happened?
The quick answer is: while prices rose sharply during the last 13 years, costs have risen even higher. Labour inputs, energy and the aforementioned royalties have all contributed to huge cost inflation within the sector.
But, this begs another question: why was there such a mismatch between expectation of profits from those looking in, and the reality of the cost situation?
Part of the reason can be attributed to an influx of new investors into a sector that was becoming increasingly “legitimate” as an asset class – investors with less experience in the very long time lines and higher risks attached to mining.
But, much of the blame must fall squarely on the shoulders of the gold miners themselves.
For many years, gold miners have used a number of what my former colleague, Barry Sergeant, described as “accounting acrobatics” to keep their cash costs low. By-product and co-product credits are added back, while other costs, such as those associated with trying to find replacement ounces were excluded.
As a result, costs seemed, to the casual observer, to be decidedly lower than they actually were.
As US Global’s Ralph Aldis explained to Mineweb earlier this year: “The companies talk about this cash cost measure with these ridiculous levels but you don’t see it ever come down to the bottom line as a profit. Companies are reporting profits now, but 'cash costs' was a concept that came up because at one point, when gold prices were low, nobody made any money and no-one wanted to talk about being underwater although they were. To me that’s why it’s the hot topic issue; now these companies are profitable and I think they really need to talk about what their all-in costs are.”
The irony and, urgency of the situation has not been lost on the miners themselves but, it has taken a while for things to actually begin to change.
Indeed, to this writer, the tipping point came during a speech by Gold Fields CEO, Nick Holland to the Melbourne Mining Club.
He pointed out that while the gold price has gone up at a compound annual growth rate of 21% from 2006 to 2011, all-in costs, what Gold Fields refers to as Notional Cash Expenditure, has risen 16%. As a result, he said, the gold miners have lost a lot of the upside.
But, "At investor conferences the industry often extols its cash cost performance - that we are making significant operating cash flow margins - sometimes in excess of $1,000 an ounce.
"Who are we trying to kid? We don't kid the investors because they know how much cash we really generate after everything is accounted for. The sell-side also understands this. The only people we're kidding are governments and communities who, not surprisingly, say, okay, you're making super profits, please pay up. And before we know it we have windfall taxes, higher royalties and so on."
Since Holland made that speech in August 2012, other miners have come on board, Barrick and Yamana in particular have been vocal on the matter and, now, we have a clear – well, clearer – definition of how much it costs not only to pull an ounce of gold out of the ground but, ensure that there will still be ounces of gold in the ground to pull out at a later date.
While Heymann was careful to make clear that these standards are by no means compulsory, he was also quick to point out that the initiative was driven by the WGC’s members who asked the body to act in a facilitation role. “This has been a collective effort with significant commitment and input from our member companies. This suggests that the gold mining industry recognise that there’s a need for further transparency in the economics of gold mining,” he told Mineweb.
It is by no means a silver bullet, it does nothing to actually reduce the cost inflation that is weighing these companies down. The sector is still depressed and the investors, many of whom still have tingling fingers, are giving these companies the cold shoulder. But, it is a step in the right direction and one that can only help in the future -assuming of course companies make use of the new standards.