From the Editor - Galore Creek Places the Spotlight on Feasibility Studies

- The lead news item for E&MJ this month covers the decision to suspend operations at Galore Creek based on escalating costs. Basically the owners, NovaGold and Teck Cominco, determined that capital costs would increase to C$5 billion or a 127% cost overrun. The study was completed during 2006, the decision was made to proceed, and less than two years later the joint venture partners were forced to pull the plug. The bad news for the mining business is that some suspect that this is the first of what could be a string of similar announcements. What makes this announcement so puzzling, especially to those that weathered more difficult periods for mining, is that this comes at a time when metal prices are at a zenith. But, so too are costs and then there’s the added twist of currency exchange rates. In this case, it’s a strengthening Canadian dollar.

In its simplest form, feasibility studies gather information to decide whether and how to proceed with a mining project. At the request of a mining company, an independent engineering firm defines the ore body based on anticipated metal prices. They then perform a wide survey of process development costs (mining plans, mill plans, etc.) and a cash flow analysis for the life of the mine based on an ore grade cut point. In the past, metal prices were the variables and mining costs were fairly constant. That is no longer the case today. Metal prices have steadily increased for the past two years, while mining costs have skyrocketed. It seems that no matter how fast the engineers recalibrate the equations, they can’t avoid cost overruns.

Theoretically, a properly prepared feasibility study should stop an unprofitable project from breaking ground. The Galore Creek study used a copper price of around $1.50/lb. The price of copper has not been that low since July 2005, which would lead one to believe that the project had a cushion. What the study didn’t account for was an accelerated increase in costs, including labor, equipment, steel, electricity, fuel, etc. In the case of this particular project, which is located in British Columbia, the potential labor pool for Galore Creek faced stiff competition from existing metal mines, coal mines and oil sands operations. The straw that broke the camel’s back, according to the company, was the tailings dam.

Ultimately, the suspension of Galore Creek will place more scrutiny on bankable feasibility studies worldwide. Cost overruns have become commonplace in the mining business. By definition, mining is a high-risk investment and well-informed investors know that high-risk means it’s likely that they will lose their money. The banks and stockholders that lend and lose the venture capital will not continue to accept this practice. Mining companies instinctively ask for as much latitude as possible before they undertake any project. To stay in business, the independent engineering firms will need to balance the needs of the mining company with more conservative calculations.

More conservative feasibility studies, however, will reduce the number of new projects in the pipeline. Less projects in the pipeline leads to higher metals prices on speculation, which enhances the economics of the ore body and the process comes full circle. The industry is only now coming to grips with how to deal with new projects in the era of the mining super cycle. Mining companies are considering lower grade deposits in more remote/risky parts of the world. Assuming that demand remains constant— and there are no signs that it will not—the engineers that succeed in this market will be the ones nimble enough to react to accelerated swings in costs. It also helps to have an investor with mining experience, deep pockets and patience.

Steve Fiscor, Editor-in-Chief, E&MJ

As featured in Womp 07 Vol 9 -