De Beers leads next diamond wave

As part of a second wave of new diamond mines coming on-stream in Canada, De Beers is spending $1.6 billion to build two new mines — the Snap Lake underground mine in the Northwest Territories, and the Victor open-pit operation in northern Ontario.

De Beers, the world’s leading diamond company, was forced to watch from the sidelines as BHP Billiton (BHP-N) put Ekati, Canada’s first diamond mine, into production, followed a couple of years later by the Diavik mine, owned by Rio Tinto (RTP-N) and Aber Diamond (ABZ-T, ABER-Q)

“There is absolutely no doubt that De Beers missed the boat in Canada,” acknowledged De Beers chairman Nicky Oppenheimer during a year-end conference call. De Beers first started exploring in Canada in the early 1960s under the guise of Canadian Rock Co., and later Monopros (now De Beers Canada Exploration).

“We were prospecting in Canada, but we pulled out at a time when there were tight fiscal situations,” Oppenheimer said. “But what is really encouraging, having missed the first round, (is that) in a second round, we’re clearly ahead of the game, and it is my belief that De Beers has assets in Canada better than anybody else’s.”

The Snap Lake diamond mine, 220 km northeast of Yellowknife, is a unique project designed to recover kimberlite ore from a shallow-dipping sill about 2.5 metres thick that slopes gently under Snap Lake at a 15 angle. This sheet of sub-cropping kimberlite extends over a confirmed strike length of 3.2 km north-south and 3.1 km downdip to at least 1 km deep. Minable ore reserves are estimated at 18.3 million tonnes grading 1.46 carats per tonne, equal to 26.7 million recoverable carats at a revised value of US$144 per carat.

A proposed 3,150-tonne-per-day (1.1 million tonnes annually) underground operation is expected to produce 1.5 million carats per year over a life of at least 22 years, beginning in late 2007 or early 2008. At an estimated cost of $636 million, the mine will create about 500 high-paying, permanent jobs.

“Snap Lake is a challenging project, there is no doubt about it,” said Gareth Penny, the new managing director of De Beers. “The project itself clearly is viable; it’s why we have gone ahead with it.”

Penny did acknowledge, however, that the company is facing some cost overruns at Snap Lake due to the rise in oil prices and a booming natural resource industry, particularly in Canada.

De Beers is also committed to building the Victor diamond mine in the James Bay Lowlands of northern Ontario at a capital cost of $982 million. The current project plan calls for the development of a 7,000-tonne-per-day (2.5 million tonnes per year) open-pit mine and on-site kimberlite processing plant. Minable reserves are estimated at 27.4 million tonnes averaging 0.23 carat per tonne, or about 6.3 million carats. The operation will produce as much as 600,000 carats annually over a 12- to 13-year life and employ upwards of 400 people once in production in late 2008 or early 2009.

De Beers is proposing to build a third mine, at Gahcho Ku in the Northwest Territories. Gahcho Ku is 300 km northeast of Yellowknife and centres on the Kennady Lake cluster of diamond-bearing pipes, including 5034, Hearne and Tuzo. De Beers is the operator and 51% owner of the joint-venture project. Mountain Province Diamonds (MPV-T, MDM-X) is a 44.1% carried partner, and Camphor Ventures (CFV-V, CMVIF-O) holds the remaining 4.9%. De Beers can boost its interest to 60% by taking the project to commercial production.

In November, De Beers began the permitting process by applying for a class A land-use permit and water licence to construct and operate an open-pit mine at Gahcho Ku. As currently proposed, the project would be an open-pit mine, producing 3 million carats annually over a life of 15 years. The indicated and inferred resources of the three pipes total 31.4 million tonnes averaging 1.48 carats per tonne, equal to 46.5 million carats at a value of US$70-US$77 per carat. Capital costs are estimated at $825 million. A winter drilling program is currently under way at Gahcho Ku.

De Beers’ board has also approved capital spending on two important projects in South Africa. Around US$177 million is being committed to reopening the Voorspoed mine, pending the approval of a mining licence. Voorspoed is a historic producer that closed in 1909. De Beers is also spending some US$115 million on equipping a vessel to begin mining for the first time off the coast of South Africa.

Although De Beers has known for 20 years that there were diamonds off the coast of South Africa, Oppenheimer said the company couldn’t figure out a way to extract them profitably until now; the gems are smaller than the diamonds found off the coast of Namibia.

Group production of 49 million carats in 2005 was above target and 4% higher than the previous year. Debswana, the leading mining company in the De Beers group, produced 31.9 million carats from its four operations in Botswana — a 2% increase over 2004. The Debswana Diamond Company, a 50/50 partnership with the government of Botswana, accounted for 65% of the De Beers group’s output in 2005.

The Jwaneng mine posted record production of 15.6 million carats, a substantial 13% increase over 2004 — not a particularly good year for the project, which experienced equipment failures and a disruptive labour strike. On the other hand, Orapa was 7% under budget.

“The combination of these two things was actually very favourable for Debswana, in as much as Jwaneng produces carats which are substantially more valuable than Orapa carats,” said outgoing managing director Gary Ralfe. “When we get the sort of asset utilization that we need to be driving towards in Orapa, as well as at Jwaneng, then this company should do even better.”

At Jwaneng, asset utilization rose to 80% in 2005 from a paltry 62% in the year 2004.

“For the world’s richest diamond mine, that is an extremely important result,” Ralfe noted.

This year at Orapa, Debswana will be investing in a new kimberlite processing plant to replace the original Orapa 1 plant, which has reached the end of its working life. The new Orapa 3 plant is expected to achieve “far higher” recovery grades.

The South African operations of De Beers Consolidated Mines (DBCM) achieved a record performance of 15.2 million carats, ahead 10% over 2004. Venetia alone was responsible for 8.5 million carats, accounting for the lion’s share of the profits generated by DBCM.

Five of De Beers’ seven South African operations were losing money at the start of 2005. Through the course of the year, there was a substantial reorganization of management and restructuring of the company, resulting in the closure of underground operations at Kimberley and Koffiefontein, and the loss of 1,250 jobs.

“Despite the changes that were required and the difficult decisions that had to be taken, DBCM has come out with some extraordinary strong results for the year, which is very satisfying,” Oppenheimer remarked.

“Through important initiatives, like the business model review, we have certainly produced great results in the year 2005,” Ralfe added.

Four out of six operations are now profitable. The two mines that are still not profitable are Oaks, a small operation that has a short remaining life, and Cullinan, a large kimberlitic resource.

The business model review, together with the underground mine closures, has led to a 20% reduction in the overall workforce of DBCM, including a 30% slash in management.

Black empowerment deal

In November 2005, De Beers announced the proposed R3.8-billion (US$671 million) sale, at fair market value, of a 26% indirect equity interest in DBCM to Ponahalo Investment Holdings, a broad-based black economic empowerment (BEE) company. Oppenheimer called this an extraordinary and innovative deal; 50% of Ponahalo will be owned by past and present employees of DBCM.

Ownership of
Ponahalo, a company formed specifically for this transaction, will include a 35% stake owned by the Equal Allocation Trust, under which some 18,000 current employees and pensioners of DBCM will be entitled to a specified beneficial interest in the trust on an equal basis. Another 15% of Ponahalo will be owned by the Key Employee Trust, whereby nominated current and future key employees will be allocated an interest in the trust as an incentive mechanism. About 72% of the employees and pensioners, and a majority of the key employee group, qualify as “historically disadvantaged” South Africans.

Led by chairman Manne Dipico, a former premier of the Northern Cape province, Ponahalo Investment Holdings 50% ownership is held by a consortium of seven prominent individuals and three trusts. The beneficiaries of the trusts, which will collectively own an indirect 22.5% interest in Ponahalo, are disadvantaged women, disabled people and the local mining communities centred around the DBCM mines.

Under the BEE agreement, Ponahalo is obliged to invest R10 million (US$1.6 million) annually of its dividend income, or more than R100 million (US$16.2 million) over the first 10 years, in South Africa, and pay out R5 million (US$811,000) annually to the three focused-group trusts.

“It has been quite a long time coming, not because we were reluctant to do it but because we were determined to do it well,” Oppenheimer said when he made the BEE announcement. The company wanted to make sure the strategy would “empower the many and not the few,” and benefit those who needed it most, he added.

“The shareholders in Ponahalo . . . represent the broadest possible cross-section of South African society, both men and women, from business leaders and the urban skilled, to people with disabilities and the rural poor. They include the communities around De Beers’ mines and the people — black and white — who work or have worked in those mines and elsewhere for DBCM.”

Significant progress has been made on closing the BEE transaction, reports De Beers. The sale is likely to be completed by the middle part of the year, once the due diligence process has been concluded and appropriate funding arranged.

“We at De Beers realize that, here in southern Africa, we need to become an ally of the government . . . in helping to stimulate job creation,” Ralfe said.

Namdeb

Production from the Namdeb joint venture in Namibia was off 5% over 2004 and 7% under budget at 1.8 million carats. It included a record 922,000 carats of diamonds from marine operations in Atlantic 1. Ralfe notes that there were some technical challenges at the Elizabeth Bay plant with regard to treating a diamond-bearing conglomerate, but this plant, which was 47% under budget in 2005, is now said to be reaching its capacity.

The long-term resources of Namdeb lie offshore in depths of up to 100 metres.

“There are millions of carats there,” Ralfe said. “The challenge is to drive down the operating costs of recovering those carats, (thereby) reducing the cutoff grade at which those deposits can be mined.”

During the past year, the joint venture carried out an “important” dredging experiment to find new ways of developing the resource.

“I am confident, with the sort of technology that De Beers can bring to bear in Namdeb, that we will be mining diamonds on the seabed there for a long, long time to come,” Ralfe said.

The aging 75%-owned Williamson mine in Tanzania produced around 200,000 carats last year, under budget by 25% and down 33% from 2004.

Penny expects group production in 2006 will see limited additional carat growth in terms of what is budgeted. Looking out over a 5-year-plus period, production is anticipated to grow by 10% to around 55 million carats, with the new Canadian mines accounting for about half of that increase.

On the exploration side, De Beers discovered 34 new kimberlites worldwide in 2005 in Botswana, Canada, Zimbabwe, India and Australia. The company entered into 30 new joint ventures with various governments and junior explorers, which brings the total to something like 105 joint ventures across the globe.

De Beers also reports that a new Bell gravity geophysical system that is being tested in Botswana using a Zeppelin airship is yielding highly encouraging results.

“We really believe that this is an innovation which will pay dividends in the future,” Oppenheimer said.

De Beers continues to push ahead on its evaluation of the promising AK6 kimberlite in Botswana, one of 30 known kimberlites covered by the Boteti project, a 51%-49% joint venture with AIM-listed African Diamonds (AFCDF-O, AFD-L). De Beers can increase its interest to 70% by carrying African Diamonds through to completion of a positive bankable feasibility study. The project’s proposed budget in 2006 is US$22 million.

At 9.5 hectares in surface area, AK6 is reported to contain 59 million tonnes to a depth of 400 metres, with a preliminary grade of 25 carats per 100 tonnes (or 0.25 carat per tonne). Based on a small, 21.9-carat parcel of recovered diamonds valued at US$82 per carat, De Beers has modelled a value averaging US$138 per carat. A large-diameter, 15-hole drilling program designed to recover at least 500 carats has just been completed. So far, 442.8 carats of diamonds have been recovered from 1,719 tonnes of sample collected from nine of the holes, giving an overall grade of 25.8 carats per 100 tonnes. One of the largest diamonds recovered from AK6 is a 4.56-carat octahedral. Results are pending for the final four holes, which are the deepest holes to penetrate AK6 at 408 metres depth.

The AK6 kimberlite pipe is within 10 km of Lethlakane diamond mine and 22 km of the Orapa diamond mine.

Oppenheimer pointed out that De Beers is now operating in many other places in Africa, most importantly in Angola and the Democratic Republic of the Congo.

“In both of those areas, we believe that we have prospective ground and we very much hope in future meetings like this, we will be able to report that our geologists have been successful in finding mines in both those countries,” Oppenheimer added.

De Beers will be spending in the neighbourhood of US$100 million on grassroots exploration in 2006.

Record rough sales

Rough diamond sales by De Beers’ marketing arm, the Diamond Trading Company (DTC), again reached record levels of more than US$6.5 billion in 2005, 15% ahead of the previous year. They were, in Oppenheimer’s words, “extremely satisfactory.” The DTC raised its rough diamond prices on two occasions in 2005, which resulted in prices averaging 9.5% higher year-on-year.

Rough diamonds are sourced by the DTC through some 20 mines De Beers owns and operates in South Africa and in partnerships in Botswana, Namibia and Tanzania. In addition, De Beers has continued to buy rough stones from Russian diamond producer Alrosa on a willing-buyer/willing-seller basis while it awaits approval from the European Commission for a 5-year contract signed with Alrosa in December 2002.

Ralfe said the company is hoping for final confirmation from the EU shortly.

The DTC added 10 new clients in June, expanding its customer base to 93 in total under its supplier-of-choice strategy. Five of the new clients are in South Africa.

De Beers estimates that global retail sales of diamond jewelry for 2005 recorded growth of 6-7% over the previous year.

“It’s important that America records that sort of growth, which it has,” Ralfe emphasized. The U.S. accounts for over 50% of diamond jewelry sales by value.

Double-digit growth was attained in India for the third straight year.

“Curious how the world’s birthplace of diamonds, the place where 11 out of 12 diamonds are now polished, should at the same time become such an important consumer market,” Ralfe remarked.

Elsewhere in the world, Asia Arabia experienced a strong double-digit increase in sales and the increase in Asia Pacific was in the low single digits while Europe was fl
at. De Beers is targeting 7% growth in consumer demand for diamond jewelry in 2006. The company’s marketing budget has been fairly consistent at around US$200 million.

De Beers’ foray into the retail side, with the launch of its own brand through De Beers LV, has so far been disappointing, Ralfe said.

“It clearly takes rather more than the name of De Beers for the diamond jewelry to fall off the shelves.”

The first De Beers LV salon in London and two of the four stores launched in Japan during a second wave of openings are now more than breaking even at the shop level. De Beers LV showed a 61% increase in store-wide sales over 2004 at US$30 million.

“We would like to think we are reaching a turning point where we will start to see the sort of growth in this business that we predicted when we went into it,” Ralfe said.

The company has invested about US$120 million in the retail venture.

When De Beers had its strategic review and changed its business model around the turn of the millennium, the company set out to become legally compliant in all the jurisdictions where it operated. While Ralfe stressed that De Beers has never operated in the U.S, and is not subject to its jurisdiction, it is the world’s major diamond market.

“On a matter of reputation, we would like to ensure we are legally compliant in America as well,” Ralfe explained.

It’s in that context that De Beers reached a provisional settlement, which was signed in November, and made a provisional order of court, to resolve the majority of the civil litigation against De Beers for US$250 million.

“When you add that on to the resolution of the indictment by the (United States) Department of Justice against De Beers in 2004, it really does represent full legal emancipation in the United States of America, and in terms of our reputation, that’s very important,” Ralfe said.

De Beers’ own earnings of US$782 million for 2005, included a Canadian tax credit of US$148 million that was granted following the approval of construction of the Victor mine. Without this abnormal benefit, De Beers’ own earnings were only 2% higher than in 2004. Headline earnings, which take into account the company’s share of Debswana and Namdeb, were up 26% at US$824 million, or just 4% higher year-on-year if the deferred tax gain is excluded.

Operating cash flow was down 27% at US$723 million (before a US$250-million class-action payment), mainly as a result of an increase in working capital requirements during 2005. De Beers paid out US$400 million in dividends, compared with US$450 million in 2004.

In other news, De Beers Canada president and CEO Richard Molyneux has announced his retirement effective the end of April, following a 30-year career with Anglo American and De Beers, including six years in his present position.

Molyneux will be replaced by Canadian Jim Gowans, who has 30 years’ experience with such majors as Placer Dome, Inco and Cominco.