Diavik Exceeds Expectations

Despite the challenges created by the premature closure of the winter road in early 2006, the Diavik diamond mine in the Northwest Territories successfully kept operations and construction on track during the year.

Owned 60% by Rio Tinto (RTP-N) and 40% by Aber Diamond (ABZ-T, aber-q), Diavik is the country’s largest diamond producer and plays a key role in Canada’s status in the industry on the world stage. In 2005, Canada was the fourth-largest diamond-producing country in the world in terms of value (behind South Africa, Russia and Botswana) and ranked sixth in the amount of carats mined.

London-based Rio Tinto is the operator of Diavik, which entered into production at the start of 2003 based on a feasibility plan to mine four kimberlite pipes over a life of 20 years. The pipes — A-154 South, A-154 North, A-418 and A-21 — lie just offshore of East Island in the waters of Lac de Gras, 300 km northeast of Yellowknife and 30 km southeast of BHP Billiton’s (BHP-N) Ekati diamond mine.

The feasibility stage mine plan was based on kimberlite reserves of 27.1 million tonnes grading 3.9 carats per tonne, equal to 107 million carats averaging US$62 apiece. Diavik has since mined a little more than 27 million carats to date from the A-154 South and North pipes at a considerably higher carat value than predicted in the feasibility study.

The original plan was to mine each of the four pipes sequentially by open-pit methods, followed by underground mining on A-154 South and A-418 in the later years of the project’s life. The first of a series of three water-retaining dykes was built out from the shores of East Island and around the A-154 South and North pipes, which, at only 100 metres apart, were initially being mined from the same pit. The dykes are designed to hold back the waters of Lac de Gras so that the pipes can be mined by open pit.

The A-154 dyke is almost 4 km long and was built in waters averaging nearly 12 metres deep. The water is as deep as 25 metres on the north side.

At the start of 2005, the Diavik partners approved a change in the mine plan that would accelerate production, and embarked on an initial $363-million capital investment program that included spending $103 million on underground feasibility studies and process plant optimization. The revised mine plan calls for the A-418 pipe to come on-stream earlier than first planned. The A-154 North pipe was also added to the underground mining plan.

The construction of a new 1.3-km-long water retention dyke surrounding the A-418 kimberlite body was completed on schedule by the end of the third quarter in 2006. Unseasonably warm winter weather played havoc with a seasonal ice road in the first quarter of last year. The Yellowknife-to-Contwoyto winter ice road and its arteries are used to supply many of the mines and exploration projects in Canada’s Arctic.

For the first time in its over 20-year history, the winter road closed prematurely in March. The 520-km-long winter road, which was several weeks late in opening, was only open for 42 days in 2006, compared with a total of 70 days during the 2005 season.

The early road closure resulted in significant quantities of fuel, construction materials and equipment being stranded. Diavik embarked on an aggressive airlift campaign to fly the necessary materials to the mine site, and began fuel conservation programs. By flying in critical construction materials around the clock in the second quarter, the rock berm surrounding the A-418 kimberlite pipe was made watertight in early September. Parts of the A-418 dyke have crossed waters somewhat deeper than the A-154 dyke, at about 35 metres.

Dewatering

The dewatering of some 2.5 million cubic litres of “pool water” within the confines of the A-418 dyke was completed in early October. About three-quarters of the pool was pumped directly into the pristine waters of Lac de Gras. The remainder was pumped to an on-land sedimentation pond and transferred through the mine’s water treatment plant to remove any suspended silt particles before being returned to Lac de Gras.

“With dewatering of the pool complete, we can now begin to excavate what will eventually become our second open pit,” said Mark Anderson, president of Diavik Diamond Mines, a subsidiary of Rio Tinto. Development of the road system into the new pit area is already under way in preparation of the prestripping of lake-bottom sediments and glacial tills covering the A-418 pipe.

In addition, Rio Tinto has launched a feasibility study to determine the best underground approach for mining the A-154 South, A-154 North and A-418 pipes. A production-sized decline is being driven to provide access to the three bodies in order to test underground stoping methods and assess ground and water conditions. Crews reached the A-418 pipe in late September. Work continues on the ramp to the A-154 North pipe, with another 700 metres of tunnelling left to complete.

“The Rio Tinto board of directors has now approved the next phase of the underground development program, which leads to underground production to supplement open-pit ore by the end of 2008,” Aber’s chairman Bob Gannicott told analysts during the third-quarter conference call. “Provided that the A-21 bulk sample delivers an economic result, this combined production will allow a throughput of 2.3 million tonnes per year through 2021, based on the existing resource base.”

At the end of 2005, proven and probable ore reserves in the A-154 South, A-154 North and A-418 pipes totalled 28.2 million tonnes grading 3.2 carats per tonne, equal to 90.2 million carats. Inferred resources contain an additional 23.4 million carats in 7.8 million tonnes averaging 3 carats per tonne, of which A-21 holds 4.8 million tonnes for a total of 14.6 million carats.

“Geophysical profiling all of the kimberlite pipes in the mine plan at depths below the existing resource cutoff level has indicated deeper extensions, which could deliver additional reserves following better definition,” Gannicott predicted.

Ongoing exploration on the Diavik property has yet to turn up anything else that looks economic.

The A-21 kimberlite, originally part of the reserves and mine plan, was downgraded to the resource category in 2004 pending the evaluation of a larger underground bulk sample. Diamonds from the A-21 pipe were originally valued at only US$28 per carat, based on a limited 90-carat parcel of rough stones recovered from a mini-bulk drill sample of just 30.5 tonnes.

“The reason it’s not in the reserve is because we don’t have a reliable diamond price estimate,” explained Gannicott last year.

The Diavik partners are highly optimistic regarding A-21 based on the higher-than-expected valuation of the diamonds from A-154 North. A large 19,342-tonne production-scale bulk sample was mined in 2003 from the top of A-154 North, and the quality of the diamonds proved to be a lot better than originally assumed. A recovered parcel of 11,771 carats was valued at US$82 per carat, compared with the original price estimate of US$33 per carat, which was based on a limited parcel of only 157 carats recovered during prefeasibility-stage, large-diameter drilling.

A-21 bulk sample

Diavik reached the A-21 pipe in early October with a smaller, 1.3-km-long decline or tunnel. To better define the pipe’s grade and value, the extraction of a 10,000-tonne bulk sample will begin in the first quarter.

“In the kind of size and value distribution that the Diavik orebodies have, larger samples have so far always meant to us improved diamond prices,” Gannicott explained.

Diavik is continuing to pursue ways to optimize throughput as mining proceeds in the A-154 pit, which is now about 150 metres deep, or about halfway to its final depth. A new 520-tonne, hydraulic loading shovel is at work in the pit, replacing an excavator destroyed by fire late last year.

Efforts are being made in the mill to enhance the recovery of small diamonds and to reduce b
reakage of larger stones.

Other plans designed to improve production include the underground testing of a continuous mining machine, or roadheader, that could reduce diamond breakage by avoiding the drill and blast cycle. The roadheader is an electrically powered mining machine that chips out the kimberlite without using any drilling and blasting. It’s currently being used to extract an underground test sample from the A-418 pipe.

Diavik produced close to 8.3 million carats of rough diamonds in 2005, up 9% over 2004, by treating 2.2 million tonnes of kimberlite ore averaging 3.72 carats per tonne at a cash operating cost of US$23 per carat.

During the first nine months of 2006, Diavik cranked out just over 7.3 million carats by processing 1.8 million tonnes of ore grading 4.03 carats per tonne at a cash operating cost of US$24 per carat. This compares to 6.4 million carats produced over the same period of 2005 at a cash cost of US$22 per carat.

The higher cash costs are due in part to the added costs of flying in fuel and freight as a result of the early road closure, and a strengthening of the Canadian dollar.

Diavik operated at a robust processing rate of 722,000 tonnes in the third quarter, representing an annualized rate of 2.9 million tonnes, one of its best-ever quarters.

The mine is expected to end the calendar year with more than 9 million carats produced, exceeding original forecasts of 8.5 million carats. Over the course of the next two years, annual production is expected to climb to a peak of somewhere between 10 and 11 million carats.

Diavik’s current 7-year water licence expires in August 2007 and applications have been made for a 15-year extension to cover the remaining mine life. Public hearings hosted by the new Wek’eezhii Land and Water Board were held in November.

Aber’s 40% interest in the Diavik mine accounted for US$252 million in diamond sales for the 9-month fiscal 2007 period ended Oct. 31, 2006, virtually unchanged from the fiscal 2006 period. Neither Aber nor Rio Tinto will disclose realized carat prices or volumes.

In the 2000 feasibility study, a modelled value of US$79 per carat was predicted for A-154 South. In March 2003, Aber sold its first parcel of rough diamonds from the A-154 South pipe for US$96 per carat. Aber estimated that the higher-than-expected diamond value was due to improved diamond quality and fewer small, low-value stones recovered.

Canaccord Adams’ Steven Butler estimates the Diavik stones commanded a price in the range of US$80-US$90 per carat in Aber’s third and second fiscal quarter, down from more than US$100 per carat in the first quarter. Sales in the third quarter were affected by a finer size distribution, which would have had a negative impact on realized prices.

“Overall rough diamond prices strengthened slightly during the quarter due to higher demand for polished goods as retailers prepared for the upcoming holiday shopping season,” reported Aber at the end of the third quarter. “The trend for higher prices on the larger, better quality, white rough diamonds continued as demand remains undersupplied.”

Heading into the Christmas holiday retail selling season, Aber earned a record US$77 million (or US$1.32 per share) in the first nine months of fiscal 2007, versus US$66.3 million (US$1.14 per share) in the same period a year earlier.

During the third quarter, the company completed the US$157-million buyout of its minority partners in high-end retail jeweller Harry Winston, boosting its ownership to 100% from 52.8%. Sales from Harry Winston, which operates 13 stores worldwide, totalled US$54 million for the quarter just ended, compared to US$41 million in the preceding year’s quarter. Nine-month sales amounted to US$153 million, versus US$128 million over the same period a year previous.

“We saw strong sales in the existing store network. . . our newly opened stores performed better than expected, particularly in the U.S. and Japan,” explained Tom O’Neill, Aber’s president and CEO of Harry Winston. “We have also seen a strong demand in Harry Winston timepieces. These results are encouraging as we head into the all-important fourth quarter.”

Harry Winston opened new stores in Tokyo and London this past year, and celebrated the opening of its 13th store in Dallas late November.

The retail jeweller posted an operating loss of US$666,000 for the 9-month period ended Oct. 31, 2006, compared to US$6.9 million in profit for the comparable period of the previous year.