Editorial: Spreadsheets vs. reality

The best-laid schemes o’ the mining industry’s mice an’ men gang aft agley an awful lot these days, leaving investors with nothing but “grief an’ pain, for promis’d joy!”

Yea, the inability of mining companies and their consulting companies to properly estimate the costs of building a mine is emerging as one of the most serious problems facing the industry this decade.

At the junior level, the tragicomedy of Baja Mining’s Boleo blow-up in Mexico’s Baja Peninsula shows all that can go wrong when you combine quirky management with a heap of foreign money, difficult metallurgy and vast, untested project scale.

Having been kicked around for years, the Boleo copper-cobalt-zinc project was always a case of the rising tide of higher metal prices lifting all the world’s marginal mineral deposits — including Boleo — up into profitability.

But, as has happened so often in the industry in the past few years, the astute insight by investors that metal prices were on a sustained upward trajectory was equally matched by a failure to grasp that the costs of just about every input in mine construction — from steel to concrete to labour — would be rising just as fast.

At half-built Boleo, a 2010 feasibility study update pegged total estimated capital costs at US$890 million, but these could now be a wallet-busting US$1.7 billion.

Estimated operating cost estimates have also gone up to between US$50 and US$60 per tonne — i.e., around the actual value of the rock, depending on your price inputs and recovery estimates — from roughly US$33 to US$44 per tonne in the 2010 study.

Having recovered some balance after a wholesale management turnover, Baja just can’t catch a break these days.

Mired in debt and unable to finance the new, swollen construction costs, Baja had little time to celebrate bagging a US$90-million interim financing deal before getting slapped with a class-action lawsuit that alleges the company and certain present and former directors and employees made misrepresentations contrary to Ontario’s Securities Act between November 2010 and April 23, 2012.

Joseph Sue-Tang started the class-action suit and is seeking general and special damages of $250 million, punitive damages of $10 million, interest and costs. Baja said it will defend itself against the allegations, but shares were knocked down another 31% on the news to an all-time low of 5.5¢. That’s compared to a dollar in April when news of the major cost overruns broke.

It’s a textbook example of how common shareholders are hit first and hit hardest when a public company careens off the road and into the ditch (unless you’re a General Motors bondholder — then, of course, you’re first in line for a pounding under the might-makes-right rules of Chicago thug politics).

As for that US$90-million lifeline, it’s being thrown by the Korean consortium that holds 30% of the subsidiary that controls the Boleo project. The consortium includes Korea Resources, LS-Nikko Copper, Hyundai Hysco, SK Networks and Iljin Materials. The US$90 million is dependent on Baja extending the existing standstill agreement on other outstanding loans, due to expire Aug. 1, until Sept. 30.

With the cash infusion, Baja’s stake in Boleo would immediately drop from 70% to 49%, and shrink in stages to 10% if further financing milestones are attained.

Lest anyone working for the majors get too smug about Baja’s “wee-bit housie, too, in ruin,” we have the spectacle of Barrick Gold’s second-quarter results, as detailed on our front page, which could have had the subhead: “Industry’s alpha dog heads inside for a nap.”

Translated into corporate-speak, that comes out in Barrick’s release as “preliminary results currently indicate an approximate 50% to 60% increase in capital costs [at Pascua-Lama] from the top end of the previously announced estimate of US$4.7 billion to $5 billion, with first production in mid-2014,” and later, “In light of the current economic environment and Barrick’s increased rigor on disciplined capital allocation, the company has determined that various pipeline projects do not currently meet its investment hurdles.”

In ounce terms, that means the world’s biggest gold miner has been humbled into trimming its production outlook to around 8 million oz. gold in 2015, compared to its previous ambition of 9 million oz. gold annually by 2016.