COMMENTARY — Costs to drop with gold price

The gold price will sink to US$285 per oz. by 2002, though cash costs for Western World producers are also expected to fall, according to a report released by AME Mineral Economics.

A study of mine cash costs to 2002 concluded that Western World average cash operating costs in 1998 were US$193 per oz., down dramatically from the 1997 average of US$232 per oz. In real terms, the average cost fell by US$43 per oz., or 18%. Costs have fallen by US$52 per oz. in South Africa, US$40 per oz. in the U.S., US$43 per oz. in Australia and US$12 in Canada. The study evaluated 172 operations that account for 70% of Western World production.

Cash operating costs, as defined by the AME, include all cash expenditures incurred in operating a gold mine and plant to produce refined gold.

Operating costs include mining, milling, exploration on the mine property, administration and royalties.

Despite these costs plunging in unison with the gold price, the major component of the decrease in South Africa, Australia and Canada has been the depreciation of these currencies against the U.S. dollar. But falls in Canadian and South African costs did not reflect the full benefits of the currency depreciation, and costs in local terms actually rose in those countries. As these currencies recover some of their lost value, several mines in Australia and South Africa will be faced with possible closure.

Average cash costs for the Western World are forecast to fall, in real terms, to US$177 per oz. in 2002. The 90 percentile line is forecast to fall to US$258 per oz. by 2002 from US$344 in 1997. It fell to about US$280 per oz. in 1998, indicating that the current sub-US$300 gold prices are substantiated by actual mine costs and are not necessarily totally influenced by concerns of market oversupply from central bank sales and producer forward selling.

The progression to underground mining by many operations in Australia, the selective mining of higher-grade areas in South African mines and the large-scale, low-cost operations coming on-stream in Indonesia and Latin America will contribute to lowering costs.

South Africa, traditionally one of the lowest-cost producers in the industry, has become entrenched as the highest-cost Western World producer.

While the recovery of the South African rand is to blame, one of the major influences behind this reversal has been the high domestic inflation in mining costs. Wage inflation has also been high.

Cash cost improvements in South Africa are largely attributed to the closure of unprofitable areas and the mining of higher grade ore. Although the industry there has suffered significant cutbacks, gold output is forecast to remain stable in the order of 13 million oz. per year.

Australian cash operating costs consistently ranked second among the major producers from 1983 to 1990, but slipped to third in 1991. Australia is forecast to move back to second place in 1999.

The development of smaller oxide resources in existing goldfields, in association with carbon-in-pulp (CIP) treatment methods, has contributed significantly to the boom in Australian gold mining activity. Since these operations are quick to start up and have low capital requirements, they can be profitable at cash costs close to the market price.

The transition toward underground mining that is occurring at many of Australia’s gold producers has increased the average grade of ore mined. As a result, cash costs per ounce have decreased.

Production in Australia is forecast to decline as open-pit reserves are exhausted. In many cases, this production is being replaced by higher-grade underground ore. However, a plunge in the gold price has meant that relatively small oxide deposits that would have supported low-cost CIP plants in the past are no longer economic.

Canada’s cost ranking relative to the other major producers has improved over recent years, helped by devaluation of its dollar between 1991 and 1994. Canada’s gold is pulled mainly from relatively expensive underground operations, which means that its improved cash cost ranking is not reflected in better profitability.

Only a few contributors lowered cash costs over the past two years, including the Holloway and Holt-McDermott mines in northern Ontario, which increased throughput. The Pamour-Hoyle operation, in the same province, lowered cash costs through cost-cutting measures.

Although it cannot significantly change its operating methods, Canadian gold miners are forecast to produce at close to present levels over the next few years. The industry has remained relatively low-cost and does not need to take drastic measures to counteract low prices.

The lowest-cost producer for 10 of the past 11 years has been the United States. Several factors contributed to lower gold cash costs between 1996 and 1998, including the mining of higher-grade ore.

However, production is expected to fall as exploration dollars continue to be spent in other countries.