Zimbabwe and the appetite for risk

Six to nine months ago when Ian Saunders tried to get a meeting with the investment community in Toronto or Vancouver about his company’s gold mine in Zimbabwe, no one wanted to talk to him.

“You’d say you’ve got assets in Zimbabwe and it would be tough to get a meeting,” recalls the Zimbabwe resident and past president of the Zimbabwe Chamber of Mines. “They thought it was too risky.”

But things are definitely changing for the better, says Saunders, president and chief executive of New Dawn Mining (ND-T), which is producing gold at its Turk mine in southwestern Zimbabwe.

“Now we’re seeing people prepared to listen and actually prepared to get involved and take a look at us,” he says. “There’s more of a wider interest… The risks are being mitigated now by the positive political and economic changes whereas twelve months ago people thought the risk was too high… Overall the economy is growing, teachers are back in the classrooms, there is food on the shelves and hospitals are functioning. None of this was evident a year ago.”

Like other mining companies attempting to navigate the economic and political volatility of Zimbabwe, New Dawn has certainly enjoyed its fair share of problems over the course of its twelve-year history. Most recently it faced no choice but to put its Turk mine on care and maintenance in early October 2008 because it still had not been paid for gold it had deposited with the Reserve Bank, Zimbabwe’s central bank.

But in March 2009 New Dawn put the mine back into production after the Reserve Bank said it would introduce key changes to its monetary policies that among other things would allow mining companies to directly market their gold overseas and retain 100% of sales in U.S. currency rather than having to sell it to Zimbabwe’s central bank.

Prior to the changes, gold producers had to sell their gold to the Reserve Bank of Zimbabwe and the gold was paid for in a combination of Zimbabwe dollars and U.S. dollars. The payment structure was such that 50% of the payment due was to be paid out four days after delivery, and the remaining 50% in 25 days. But as things began to unwind in Zimbabwe, Saunders explains, the Zimbabwe dollar payment was made per schedule, but the U.S. dollar portion payment was delayed. By Oct. 2008, New Dawn had not been paid the U.S. dollar portion for its gold for about 14 months.

The new rules have instilled some confidence, Saunders argues, as gold producers can export and market gold bullion to a refiner of their choice at world prices. The proceeds from the sale of gold must be paid directly into the exporter’s foreign currency account at a Zimbabwean commercial bank and the producer is allowed to retain 100% of the proceeds, less a royalty of 3.5%.

Today New Dawn exports and sells all of its gold to Rand Refiners in South Africa and receives all of  the proceeds in U.S. dollars ten to fourteen days after delivery.

In the quarter ended on Dec. 31 gold sales from the Turk mine reached US$3.97 million, a 43% increase over the previous quarter.

“The gains in terms of the changed operating environment are now a year old and they haven’t gone backward,” Saunders says. “There have been no retrogressive changes. People had a lot of doubt when the changes were made. Had the government done them temporarily? Would they change the rules? But in fact, they just renewed them, which gives you comfort that the changes are well inculcated into the system and you can plan and manage your business around them.”

New Dawn also owns the Angelus mine, an advanced stage project, 400 metres northeast of the Turk mine that is connected to the Turk workings by underground access tunnels. The two mines are about 55 km north of Bulawayo, the second largest city in Zimbabwe.

“Because of the mineral prospectivity of Zimbabwe it’s probably one of the last untapped frontiers of mining,” Saunders maintains. “But because of its recent history it missed a generation or a cycle of investment, of new exploration techniques, and mining technology.”

Decades of autocratic rule and financial mismanagement under President Robert Mugabe created deep uncertainty for foreign investors. It also drove the economy to ruins. In July 2008 Zimbabwe had the world’s highest inflation rate, officially above 231 million percent. The economy was operating at approximately 10% of capacity and foreign currency shortages forced many mining companies to cease operations. The country moved from being the third-largest gold producer in Africa in 1999 to being the ninth largest today.

The Zimbabwe dollar ceased to be a functional currency in Feb. 2009 and was replaced with a multi-currency system. A year has passed since then, and Saunders of New Dawn says inflation is now zero and the economy is operating at 50% of capacity. The World Bank is forecasting economic growth of 7.1% for 2010 and 6.3% in 2011. “Various economists believe the Zimbabwe economy is expected to grow between 7-10% in 2010,” Saunders says. “Within the mining sector, growth is expected to be even greater.”

Monetary changes and the positive impact they will have on the mining industry are trumpeted in Zimbabwe’s state-owned daily newspaper The Herald, which published an article in January 2010 that the mining sector is “poised for rapid growth this year that should see it surpassing the projections of 40% growth made in the 2010 National Budget.” The paper quoted Chamber of Mines chief executive Chris Hokonya as saying massive investments already have been made in platinum and nearly all gold mines have opened.

Not all Zimbabwe observers are as optimistic about the country’s political or economic future, however. In September 2009 after visiting Harare, European Union officials said they would not lift targeted sanctions on Zimbabwe because the government had not yet made needed reforms.

Mark Schroeder, director of Sub-Saharan Africa analysis at Stratfor, a global intelligence company based in Austin, Texas, says there has been very little reinvestment in the economy over the last year, or since a transitional, power-sharing government was formed between President Robert Mugabe’s Zimbabwean African National Union-Patriotic Front (ZANU-PF) and Prime Minister Morgan Tsvangirai’s Movement for Democratic Change (MDC) in late 2008.

“The government and in particular the MDC part of the government have been pretty wishful about trying to get foreign investment and official development assistance but there hasn’t been a whole lot of money delivered,” Schroeder says. “In the middle of last year they went around to a lot of Western governments trying to get budgetary support and they got maybe 10% of what they were looking for.”

Schroeder argues that Western governments in particular, including Canada, the U.S., and those making up the European Union, are not willing to give much money to Zimbabwe as long as Mugabe, who has ruled the country with an iron fist for nearly three decades, is in power. There’s a little money trickling in from South Africa and China but it’s on a small scale and hasn’t lead to any kind of general improvement in the economy, Schroeder maintains.

“Overall it’s still pretty bleak there,” he says. “It’s a little bit more liberalized in the last couple of years but the industry that is going in there right now is very frontier. You have to have a very strong appetite for risk to go in there.”

In the political sphere, 85-year-old Mugabe and members of his ZANU-PF party still control the country’s judiciary and armed forces and continue to attack members of civil society who oppose them, critics say. Human Rights Watch has documented ongoing human rights abuses and cases in which the ZANU-PF have intimidated, harassed and arbitrarily arrested MDC supporters and jailed human rights defenders.

Schroeder says his group is also watching what happens to the country’s indigenization and empowerment bill that was originally proposed in 2007, passed into law in 2008, but has
yet to be implemented. The law, if activated, would force foreign business operators that have an asset value in Zimbabwe of more than US$500,000 to give a majority ownership to Zimbabweans. The law doesn’t specify which sectors of the economy or which companies would be affected by the law but it doesn’t exclude any either, he notes.

“It’s been two years since it was signed into law but they haven’t done anything with it,” he explains. “They propose these things because it can help when it comes down to electoral politics but at the end of the day, they don’t want to actualize on them because they want to safeguard sectors of the economy that they personally benefit from.”

Apart from New Dawn Mining there are a number of other foreign mining companies currently operating in the country. Some have had more success than others, and all seem determined to stay and hope for the best.

In late January, Caledonia Mining (CAL-T, CMC-L) made public that the Reserve Bank had defaulted on bond repayments to its Blanket gold mine. The bond was to have been redeemed on Feb. 1 2010 at a value of US$3.18 million.

Outstanding amounts due to Caledonia and to other gold producers were converted into bonds accruing interest at 8% a year. But the Reserve Bank has indicated that all bonds will be rolled over for an additional six months while negotiations over the re-capitalization of the bank continued with the treasury.

The news has put Caledonia into a fix as it tries to complete an expansion project of its No. 4 shaft, which when finished should boost production to 40,000 oz. gold a year. The combined effects of the late repayments and continuing unscheduled power outages are hurting the company’s cash flow. In a news release at the end of January Caledonia said completing the expansion project has now been delayed “by several years”.

Caledonia purchased the Blanket mine from Kinross Gold (K-T) in 2006. The mine, about 560 km southwest of Harare, Zimbabwe’s capital, and 150 km south of Bulawayo, has produced more than 1 million oz. gold over the course of its history.

Mwana Africa (MWA-L) is another gold producer that resumed production at its Freda Rebecca mine in March 2009 following Zimbabwe’s rule changes regarding gold sales. The low-grade underground operation, 90 km northeast of Harare, had historically suffered from low-revenue receipts in Zimbabwe’s hyperinflationary environment. Mwana purchased a 100% stake in the mine from AngloGold Ashanti (AU-N) for US$2.5 million, with an obligation to sell 15% to a local investor.

In 2003, Mwana acquired a 53% interest in Bindura Nickel Corp. from Anglo American (AAUK-Q, AAL-L). The company owns and operates the Shangani and Trojan nickel mines, which have hoisting and treatment capacity of 1 million tonnes and 1.1 million tonnes a year respectively.

The Shangani and Trojan mines and the Bindura smelter and refinery complex were placed on care and maintenance in November 2008 and expenditures on capital projects were put on hold as a result of continued production difficulties and a sharp decline in the price of nickel, the company outlines on its website.

Following an improvement in commodity prices and changes in Zimbabwe mining regulations, Mwana and Bindura Nickel are now redeveloping options for a new business model that may result in a lower cost of supply from BNC’s mines, while maintaining BNC’s smelting and refining capacity. The two companies are also “investigating the availability of external funding for any additional investment that may be required.”

In addition, Mwana Africa owns 100% of the Makaha gold deposit, 140 km northeast of Harare, 50% of the dormant Maligreen gold mine in the Nkayi-Silobela greenstone belt; and the Hunters Road nickel deposit in central Zimbabwe.

Other mining companies active in Zimbabwe include Zimplats (ZIM-A), a subsidiary of South Africa-based Implats, the world’s second-biggest platinum producer, which has invested heavily in the country’s huge platinum deposits. Zimplats holds about two thirds of the Hartley Complex, the largest of the platinum hosting centres of the Great Dyke. The Great Dyke is estimated to be 2.6 billion years old and is a sinuous, layered, mafic-ultramafic intrusion, which is 550 km long with a width ranging from 4 km to 11 km.

In a commentary announcing its financials for the quarter ended Dec. 31 2009, Zimplats said the country’s central bank has yet to refund more than US$34.13 million. The money had been deposited in the central bank and was intended to be drawn from in Zimbabwe dollars to pay local costs. The bank has said it is unable to refund the deposit and argues that the government should assume the debt.

Other challenges are particularly pronounced in the diamond sector. Human Rights Watch has documented human rights violations perpetrated by Zimbabwe’s security forces in the Marange diamond fields. In an August 2009 report entitled “False Dawn,” the New York-based human rights group claimed that Zimbabwe’s armed forces, under the control of Mugabe’s ZANU-PF, “seized power in the diamond fields in late October 2008, a month after the signing of the power sharing agreement, after killing more than 200 people.”

“The government of Zimbabwe has failed to remove its armed forces from the diamond fields and to end related human rights violations there despite calls by the global diamond industry body. Nonetheless, in November 2009 the Kimberley Process Certification Scheme, an international body in charge of monitoring the diamond trade that was designed to shut down the trade in blood diamonds, refused to suspend Zimbabwe or ban the sale of its stones. Why? Because conflict or blood diamonds are defined as those mined by rebel groups, not bad governments.

In the meantime, Zimbabwe continues to violate human rights in Marange.

“Diamond mining, illegal smuggling, that’s going right into the pockets of the ZANU-PF,” says Schroeder. “The party is very careful to make sure the diamond sector is still in business but they also have their own mines in private hands that they can use to supplement their own sources of revenue.”

African Consolidated Resources (AFCR-L), which holds gold, platinum group metals, nickel and diamond properties in Zimbabwe has been fighting for legal title to a diamond find it made at Marange. The company acquired the claims in early 2006 but was evicted in October 2006.

African Consolidated Resources then started legal action to recover legal title in the Zimbabwe High Court. Since then it has also tried to work with the government and reach a joint-venture agreement. In September 2009 the High Court issued a judgement in favour of the company and its claims but in October the Zimbabwe government announced it would appeal the decision.

In the meantime, the Supreme Court ordered in late January 2010 that diamonds seized from the company in January 2007 and all diamonds acquired from the Marange claims should be surrendered to the Reserve Bank pending the determination of the appeal.

Andrew Cranswick, the company’s chief executive, could not be reached for comment before presstime.