Short-term political gains must not slay golden goose

13 November 2012 - 02:02 By David Shapiro

For the past few months, the unlawful strike action on our gold and platinum mines has attracted widespread media coverage.

While investigations into the tragic deaths that occurred in the early stages of the protests are currently raising sobering questions about the capability of our police force, the political and social costs are now beginning to show in the numbers.

Last week, Finance Minister Pravin Gordhan acknowledged that lost production on South Africa's platinum and gold mines would thump exports by R12.5-billion, a shortfall we can little afford. The slowdown in demand in the global economy and the slump in commodity prices were enough strains on our trade account without the added strike pressure.

The official numbers revealed that platinum production in September was down a devastating 17% from a year ago. Gold was not far behind, declining 10% year-on-year. Iron ore exports provided some comfort, but the increase was not sufficient to counterbalance an 8% decline in total mining output.

Unfortunately, a significant portion of manufacturing in the country is tied to the mining industry. Thus it was hardly surprising to see that factory output also contracted in the past 12 months. Overall, economists forecast the disruption and strife will probably lop off a half percentage point from South Africa's GDP.

In time, when the demonstrators agree to return to work, production on our mines might be fully restored, but it is doubtful the industry will ever return to normal. The harm to South Africa's reputation as a mining destination will be long-lasting.

Last Friday, Lonmin, the world's third-largest platinum miner and owner of the Marikana mine at which the labour conflict first erupted, announced an $817-million rights issue - vital for management to address debt covenant issues and a deteriorating balance sheet. Admittedly, even before the recent tumult, Lonmin was battling with shrinking demand, rising input costs and mounting debt servicing charges. But the added challenge of meeting massive increases in wage settlements on top of the pain of lost production pushed the embattled miner's finances to the edge of a precipice.

What astonished me are the punitive terms of the issue. I might be off-beam, but, in my mind, they highlight the high premium management has to pay to attract permanent (equity) capital to South Africa's shores.

Lonmin is a London-listed company with a secondary listing on the JSE. It has a large international following, but - converting the terms to rands for ease of explanation - shareholders will be offered nine new shares at around R19 to R50 for every five shares held. Besides being highly dilutionary, the take-up price is at a 70% discount to the level at which the shares are currently trading - R61. Once the rights issue is complete, the shares should settle at around R34, a 45% discount to ruling price.

That represents the level at which advisers believe shareholders - and underwriters - will support further equity investment in the mine. It takes into account the macro risks facing the platinum industry and the odds of earning a fair return on one's money. Considering that Lonmin's shares were at R400 in 2007 and R140 last December, it highlights foreign shareholders' scepticism of the prospects on the platinum belt and the concessions producers may have to make to attract crucial capital to South Africa's mines.

Platinum is considered a noble metal and is often associated with wealth and success. Because of its resistance to corrosion, it is used extensively by the motor industry to clean carbon emissions. The slowdown in vehicle sales, particularly in Europe, has forced the price below gold for the first time in decades. Still, demand for platinum jewellery from the East remains robust and its application in the electronics industry is increasing all the time. South Africa is blessed with 80% of the world's platinum reserves. Over the past decade, the economic expansion in emerging markets has doubled demand and, with the pressure now building on countries, especially those in the developing world, to address their carbon footprint, it is only a matter of time before platinum converters become standard equipment on all new vehicles at a global level.

But the cost of producing an ounce of platinum on our mines has been rising dramatically, driven higher by out-of-control increases in wages, power and other administrative charges. The fall in margins has weighed on profits, leaving the miners short of funds key to financing future growth.

Lonmin's dilemma is a major concern for the success of our critical development plans - the other large platinum producers are only slightly more secure. South Africa is well placed to flourish once the lull in global business activity lifts, but, to benefit, it's in our interest to make sure the industry survives, even if it means forfeiting some short-term political gains.

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