An attractive prize: The sector’s importance is promoting new cooperation

The mining industry has long been a driving force behind South Africa’s economic growth. Although some mines have reached maturity, the country still relies heavily on its mineral output and the industry’s producers have become global behemoths. South Africa’s total reserves, while diminished, remain some of the world’s most valuable, with an estimated worth of $2.5trn. The potential is clear, and a consistent mining policy increased investment in existing and new mines and, crucially, in the infrastructure serving them will create conditions for improved growth over the coming years.

RESOURCES: South Africa is perhaps best known for its gold, diamond and platinum riches – which remain massive, though gold reserves are believed to be declining – but its wealth in other metals and minerals have also helped support industry as new economic sectors have developed. Its production of platinum group metals (PGMs), chrome, manganese, nickel and iron ore, as well as its coal output, promise to ensure South Africa benefits from extractive revenues for years to come.

The country had gained in the past from increased appetites for commodities, especially in Asia and the Middle East, but like other major producer countries it was hit hard by the economic crisis and subsequent declines in demand. The South African mining sector’s GDP increased by 5.8% in 2010, but this was not enough to counteract GDP declines of 5.6% and 4.2% in 2008 and 2009, respectively.

The industry has also suffered due to the country’s long-term failure to adequately invest in infrastructure. An overwhelmed transport network and unreliable power supplies have affected mining output. Investor uncertainty has been fuelled by a vigorous debate on mining nationalisation; while the government has insisted nationalisation is not its policy, the sector still awaits a clear statement on future mining policy, particularly on issues of taxation and mining rights. The government has recognised the challenges the industry faces, however, over the past year, it has become increasingly vocal about its importance to South Africa and its intention to “partner” the industry back into a new period of growth.

AN ESTABLISHED SECTOR: South Africa’s mining sector remains one of the economy’s most important. In 2010 it contributed 18% of GDP, of which 8.6% is a direct contribution. The global economic crisis hit production hard, which precipitated a rapid decline in both commodity prices and demand for many minerals. But commodity cycles have recovered, driven by high structural demand from China and India, both of which South Africa is well-placed geographically to serve. The industry’s total income in 2010 was R424bn ($51.9bn). Overall, the country is estimated to have the world’s fifth-largest mining sector in terms of GDP value.

The sector makes other significant contributions to the South African economy. It represents more than 50% of foreign exchange earned in the country, as well as 20% of gross investment, of which 12% is direct. It accounts for over 50% of merchandise exports, if the exports of secondary beneficiated minerals such as catalytic converters, steel, chemicals and plastics are included. Further, it is vital in terms of employment: according to the Chamber of Mines, the sector employs around 500,000 workers directly and another 500,000 indirectly. Extraction-related industries are a key driver of the Johannesburg Stock Exchange, representing 42%, or R1.9trn ($232.56bn), of its value. Around 30% of capital inflows into the economy, coming in through the financial account of the balance of payments, are due to the mining industry. South Africa’s mining industry also provides the feedstock for about 94% of the country’s electricity generating capacity.

SECTOR STRUCTURE: South African mining spans all five major mineral categories – precious metals and minerals, energy minerals, non-ferrous metals and minerals, ferrous minerals and industrial minerals. According to the US Geological Survey, South Africa has the world’s largest reserves of manganese and PGMs, and amongst the largest reserves of gold, diamonds, chromite ore and vanadium. The value of total sales increased by 24.8% to R302.2bn ($37bn) in 2010, with notable rises in the sales of PGMs, manganese and iron ore (27.7%, 90.8% and 60%, respectively). Gold sales, thanks in part to steadily increasing prices due to monetary easing worldwide, also rose by 9% to R53.1bn ($6.5bn) with the three top-selling minerals – PGM, coal and gold – accounting for 66.3%, or R200.1bn ($24.5bn), of total mineral sales.

South Africa’s mineral reserves are well-mapped, but despite having the world’s largest in situ value of mineral resources, the country only accounts for 3% of total greenfield mining projects planned for the next decade. Exploration activities are limited, with mining companies focusing on existing mines or going over unused mining rights. One exploration project of note is by French nuclear group Areva, which is exploring uranium possibilities through a subsidiary.

Beneficiation has been identified as a key area for potential growth, but downstream activities are already well-developed. Downstream products from the mining industry used locally include cement, steel, liquid fuels, electricity, polymers and plastics, with an estimated total sales value of R200bn ($24.48bn).

COMPANIES: The mining industry is dominated by large enterprises – defined as those with turnover equal or greater to R39m ($4.77m) – which account for 99% of active firms. According to the Chamber of Mines, half of the world’s leading 20 mining companies have operations in South Africa. These include BHP Billiton, Anglo American, Xstrata, Rio Tinto and Barrick Gold. The sector had previously been largely controlled by six mining finance houses, but restructuring has taken place since the 1990s involving the dismantling of the finance houses and their pyramid control structures.

The government has also sought to encourage junior mining companies, which are smaller groups generally relying on external funding instead of revenue from their mining operations. Growing out of the Mining and Petroleum Resources Development Act of 2006, which stipulated that mining rights not used for exploitation would revert to the state, juniors scooped up long dormant rights. The majors still dominate however, with the largest 13 resource companies listed on the Johannesburg Stock Exchange accounting for over 95% of total market capitalisation of all mining firms.

South Africa has also demonstrated its potential as an access point to other African markets – in particular its mining services and equipment sales businesses are finding significant interest across the continent.

“As a mature mining destination, our business is shifting towards providing services and spare parts,” Dave Moon, the vice-president for Southern Africa at Metso Minerals, told OBG. “For new equipment sales the majority of our order book is migrating north to where the bulk of fresh new projects are taking place.”

LOCAL ENGAGEMENT: Black economic empowerment targets apply to all firms, meaning a certain percentage of local assets must be sold to black South Africans, although transformation has not taken place at the hoped-for rate. With black ownership of the mining sector at 8.9% in 2009 – well below the target of 15% by 2007 – the government is putting significant pressure on firms to reach the next target of 26% by 2014.

South Africa’s mining industry has worked hard to develop its reputation for improved community engagement. By the admission of the Chamber of Mines, negative perceptions about the sector abound, including accusations that it does not care about workers’ lives or the environment. Many objectives are explicitly enshrined in the Mining Charter – which comes with performance scorecards – including near-mine community development and improved working conditions. In addition to environmental and water-use considerations, significant funds have been spent on education and health initiatives for workers and surrounding communities. Employee safety has become the focus of internal mechanisms at mining companies, while many have implemented voluntary counselling and testing programmes, and in some cases anti-retroviral drug provision, to help support employees with HIV/AIDS.

“Real changes have been made to the conditions of the workers and the people living around mines,” Sherilee Lakmidas, the former mining and resources editor for business news website Business Live, told OBG. “We’re seeing mining companies working to develop local communities.”

THE NATIONALISATION DEBATE: Understanding South African mining’s regulatory environment is critical to understanding the sector. In recent times, it has been dominated by debates over nationalisation, which has worried many operators but seems to be losing its radical edge (see analysis). Debates about licences, royalties and ownership have affected investor confidence though, particularly as transformation strategies have been less successful than anticipated.

The mining industry is regulated by the Mineral and Petroleum Resources Development Act (MPRDA), which became law in October 2002, and was elaborated upon in the Mineral and Petroleum Resources Development Regulations in 2004. Under the MPRDA, the state is the custodian of mining rights and companies pay royalties in return, shifting ownership away from private individuals with a view to furthering development. The Mining Charter, published in 2004 and reviewed every five years, is focused on socio-economic empowerment, including equitable access to the nation’s mineral resources and expansion of opportunities for historically disadvantaged South Africans. An ongoing debate about how South Africa can better utilise its resource assets to address poverty and unemployment came to the fore in 2011, in large part due to the polemics of Julius Malema, then leader of the African National Congress (ANC) Youth League (see analysis).

Proposing wholesale nationalisation of the country’s mines and intimating that the ruling ANC was considering such an option, Malema’s claims found an audience with unemployed youth. However, while the ANC commissioned a report on the impact of nationalisation in other countries, both President Jacob Zuma and the minister of mineral resources, Susan Shabangu, dismissed it as an option. “Unless we see a distinct revival of the nationalisation debate, I imagine that it will continue to disappear quietly,” said Lakmidas.

Leaked copies of the ANC report did suggest higher taxes be introduced, perhaps modelled on Australia’s controversial resources tax. Given the moves elsewhere to capture a greater portion of mining production profits, such as in Ghana, such an initiative would not come as a surprise. But the government was quick to deny a surprise windfall tax would be levied on the industry, conscious of the damage done to investor sentiment by mentioning nationalisation. Proposals are, however, reported to include a 50% tax on the sale of mining rights to prevent speculation and a tax of up to 50% on super-profits (profits exceeding a specified threshold), with the royalty tax reduced from 4% to 1%.

ROYALTIES: Mining royalties are governed by the Mineral and Petroleum Resources Royalty Act, which was passed in 2008 but the introduction of which was delayed until March 2010 to give companies some relief during the economic downturn. Royalties are based on profits, with firms required to pay between 0.5% and 7% on gross sales. The South African Revenue Service (SARS) collected more than R6bn ($734.4m) in the first year of application, but actors in the sector say the move undermines South African mining’s global competitiveness. “The negotiation between the industry and the government on royalties hasn’t really been settled yet,” Dick Kruger, the assistant adviser to the Chamber of Mines, told OBG. “Some have been agreed upon, but there is still a level of uncertainty about levies on beneficiation.”

LEGAL ACTIVITIES: Investors have also been concerned about the security of tenure of mining rights. But in December 2011, Kumba Iron Ore (KIO), a unit of London-headquartered Anglo American, won a court battle to overturn a rights award to a company with limited mining experience and established political connections. The ruling, which boosted investor confidence in the judicial system, dismissed the award of a 21.4% prospecting permit in the Sishen iron ore mine to Imperial Crown Trading (ICT).

ArcelorMittal South Africa (AMSA), a unit of the world’s largest steelmaker, had allowed the right to lapse in 2009, causing it to revert to the state and threatening a supply deal with Sishen to source discounted iron ore. The Department of Mineral Resources subsequently awarded the stake to ICT, reportedly ignoring Kumba’s application. However, the court ruled in 2011 that Sishen Iron Ore Co – owned by KIO and South Africa’s Exxaro Resources – has full operating rights to the deposit and that the lapsed portion was never available for conversion. The disputed supply contract remains subject to a separate arbitration process.

In addition to the nationalisation and taxation debates, recent industry concerns have focused on the proposed carbon tax, planned to come into effect in April 2013. Supporters of the tax point out much of the cost implied by industry’s heavy reliance on burning coal for energy is borne by ordinary consumers, rather than by industry itself. The state-owned power utility Eskom – which supplies 95% of the domestic market’s power needs – produces some 45% of South Africa’s greenhouse gas emissions.

But criticism of the tax has been vociferous. An ANC-commissioned report on the viability of mine nationalisation reportedly warned its introduction could “sterilise” the country’s mineral resources. Industry representatives have also expressed strong reservations about the tax. “We expect the carbon tax, but it is going to be very inconvenient,” said Kruger. “We currently need coal for the industry; it will take time to develop alternative energy sources.”

STRATEGIC PLANNING: In addition to dismissing nationalisation, the government has also stressed its commitment to ensuring the recovery of the sector and is likely to release a strategic plan in May 2012.

The 26-member National Planning Commission (NPC), led by the national planning minister, Trevor Manuel, is expected to present the plan in May 2012 to argue for raised mining output, increased value addition and government commitments to support infrastructure development. Discussing the plan at the annual Mining Indaba in February 2012, Manuel said mining can help make South Africa’s economy “more labour-absorbing and dynamic”. At the same event, Martin Kingston, the CEO of financial advisory group Rothschild South Africa, noted that declining foreign direct investment could be stemmed if predictability was assured in the investment environment (see analysis).

A mining summit in March 2010 laid the groundwork for the plan, with government, business and labour uniting behind a strategy prioritising sustainable growth. At the summit, Shabangu stressed that mining in South Africa was still a “sunrise industry”. Likewise, President Zuma promised in his February 2012 State of the Nation address that the country’s mining sector will be kept “globally competitive”.

The government has been spurred into action by a number of wake-up calls illustrating the decline in South African mining, with the sector’s real GDP in 2010 coming in at 2.8% smaller than in 1993. In 2010, the Canada-based Fraser Institute’s “Annual Survey of Mining Companies” – which ranks the attractiveness of the world’s mining destinations for investors – placed South Africa 67th out of 79 countries and territories in 2010, down from 37th out of 64 countries and territories in 2006. While it did climb 13 places in the 2011/12 survey to 54th out of 93 jurisdictions, the survey reflected widespread investor uncertainty about mining’s future in the country. In addition, the sector has significantly underperformed relative to its peers, with the world’s top 20 mining nations achieving average mining growth of 5% per year during the 2001-08 commodities boom, while South Africa shrank by 1%.

Realising the initiatives proposed by the NPC plan will likely involve the Mining Industry Growth, Development and Employment Task Team (MIGDETT), founded in December 2008 with the short-term goal of limiting the impact of the global financial crisis on the mining sector. In the long term, however, MIGDETT is mandated to improve the sector’s competitiveness, by helping coordinate and spur reforms to address infrastructure development, innovation in mining practices and additional exploration activities. Some commitments have already been made, with President Zuma announcing in February 2012 that the government-owned transport operator Transnet will spend R200bn ($24.48bn) over seven years on expansions to existing iron ore, coal and manganese export lines.

DOWNSTREAM: Developing South African mining’s downstream activities is a key government priority for revitalising the sector. A beneficiation strategy, focusing on the diversification of mineral activities towards value addition, was published in June 2011, and the government’s New Growth Path – released in December 2010 and aimed at creating 5m new jobs by 2020 – identifies mineral beneficiation as a priority growth area for job creation. Possible value chains to be developed may include further domestic steel production, the production of titanium dioxide pigment and titanium meta, as well as the development of catalytic converters and jewellery fabrication.

There are, however, concerns that the supporting infrastructure for beneficiation may be insufficient, or may take too long to become available. “Beneficiation generally involves smelting, which requires a lot of electricity,” said Kruger. “South Africa’s electricity supply will be constrained until at least 2016 or 2017, which means that there is no chance of building another steel plant or similar.” Others warn against penalising mining companies, amid reports that a tax on non-beneficiated exports is being considered. “We need to be careful about punishing miners for not beneficiating; in the end, they’re not beneficiators,” said Kevin Hodges, mining industry champion at the Industrial Development Corporation’s mining and mineral beneficiation unit, told OBG.

PGMS: PGMs are South Africa’s largest mineral export and the country’s reserves are the world’s biggest. They are in high demand for a diverse range of uses, including hard drives, chemical processing and catalytic converters. PGM markets suffered at the economic downturn’s beginning, due to a decline in automotive manufacturing industries, but demand recovered through 2010, increasing 20% from 493.8 tonnes in 2009 to 590 tonnes in 2010. South Africa supplied 244.2 tonnes of PGMs in 2010, but was unable to benefit significantly from the rise in demand due to domestic constraints – production only increased by 0.1% over 2009. The value of PGM sales did rise though, by 27.7% to R73.8bn ($9.03bn), as a result of a global recovery in PGM prices.

Overall, the PGM sector employed almost 182,000 workers in 2010. Continued growth looks likely, especially given the demand from China and India. However, South Africa must better harness that demand and seek to increase its output.

GOLD: South African gold production has declined significantly over the past four decades, peaking at around 1000 tonnes per annum in 1970 and decreasing to 191.4 tonnes per annum in 2010. Despite this decline, gold remains a vital commodity, accounting for 8.5% of total merchandise exports and R53.1bn ($6.5bn) of foreign currency earnings, and contributing around 2% of GDP. Given its reputation as a safe haven, gold prices have continued to rise in dollar terms. All of South Africa’s gold is refined locally, with some 157,000 people working in the sector.

New finds are rare and reports suggest dwindling reserves, but they remain the second largest in the world after Australia. The deep-level, hard-rock mines are becoming more difficult to work, leading to decreases in output. Companies – like the country’s two biggest, AngloGold and Gold Fields – are planning to dig deeper and wider in search of new veins. But some South African-based operations are choosing to look at alternative destinations on the continent.

COAL: Coal production is set to enjoy assured growth as new mines come on stream in the Waterberg coalfields. Total coal sales increased by 3.79% in 2010 over 2009, rising from 245.2 megatons (MT) to 254.2 MT. In 2010, some 26.1% of the coal mined in South Africa was exported. South African coal is of low quality – whatever is exported to the EU needs to be beneficiated first. Of the locally retained coal output, the majority – some 61% – is used for electricity generation, while a further 23% is used for the production of synthetic fuels and petrochemicals by-products via coal-to-liquid technology. About 51% of commercial coal mining is done underground, and the rest using open-cast methods. “South Africa has become rather complacent as the only coal exporter in sub-Saharan Africa,” said Kruger. “But with Mozambique and Botswana coming on-line, the country will have to keep on its toes.”

IRON ORE: Iron ore remains a major player in South Africa’s mining industry, with total sales growing 60% in 2010 to R43.4b ($5.31bn), making it the country’s fourth-largest mining strand by sales value (see analysis). The price of iron ore has surged, in large part driven by demand from China’s steel industry, as well as other emerging markets. Global steel and iron ore production grew by 5.1% in 2010, recovering from a 0.9% decline in output in 2009. Just over 70% of South Africa’s iron ore is produced by KIO at its Sishen mines, while Assmang, owned by African Rainbow Minerals and Assore, is the next biggest producer from the Khumani and Beeshoek mines. In 2010 the sector employed over 18,000 people. Some 81.8% of total iron ore production – or 47.5m tonnes – was destined for export in 2010, with the remainder used domestically.

DIAMONDS: South Africa’s diamond sector enjoyed a recovery through 2010, although production had fallen dramatically the previous year. Output increased 45.1% to 8.8m carats; more than 50% of rough diamonds mined in the country are sold locally to the downstream diamond cutting industry.

One of the mining industry’s biggest developments in 2010 took place in the diamond segment, with the announcement that London-headquartered Anglo American was buying an additional 40% stake in De Beers for $5.1bn, ending the Oppenheimer family’s nearly century-long control of the company. Anglo American – an investor in De Beers since 1926 – now owns 85% of the company, which has a 39% share of the diamond market. The government of Botswana holds the remaining stake. Anglo American has described the diamond market as “rapidly evolving”, with demand rising in China, India and the Gulf.

INFRASTRUCTURE CHALLENGES: One major constraint on future growth in South African mining is infrastructure. The industry relies heavily on transportation, as well as electricity and water resources, all of which are sectors that are struggling to meet demand. “Infrastructure development began to slow in the 1980s and now is probably 10 to 20 years behind schedule,” said Hodges. “This is true across all segments: electricity, water, road and rail.”

Much of the existing transport infrastructure was developed to ship mineral products, which continue to constitute a major part of the nation’s freight. Transnet Freight Rail, a division of the state-owned transport operator Transnet, operates the heavy-haul railway lines moving bulk commodities from mines in the interior to the coast for export. The operation of the dedicated mineral export lines has been criticised for deteriorating quality track and trains, and poor management. Limited capacity on heavy-haul rail lines sees tonnage trucked to its destination, which degrades roads.

The Richards Bay export line, transporting coal from Mpumalanga; the Port Elizabeth export line, carrying manganese; and the heavy-haul line to Saldanha Bay port, which shifts iron ore from the Sishen mine, comprise the primary freight lines. All three will be targeted for capacity expansion over the next seven years, with Transnet promising to spend R200bn ($24.48bn) on their upgrade. One planned project will be extending tonnage on the iron ore export line to 100m tonnes per annum. Another R300bn ($36.72bn) will be allocated to expanding port capacity. The manganese export terminal is set to be moved from Port Elizabeth to the deep-water Ngqura port at Coega, with earlier announcements of planned capacity increases for that line. In January 2012 Transnet and Swaziland Railway announced a new 14- km connection will be constructed between the two countries, helping to open up access to the Waterberg coalfields, expected to be the primary coal source in the future.

ENERGY: Electricity supply and pricing is of significant concern to the industry, which is a voracious consumer. South Africa’s energy sector is heavily dependent on coal, while the country’s overall energy demands are rising faster than Eskom can meet them. Power supply reached a crisis point in 2008, when the country was subject to rolling blackouts, shutting down mines and smelters for days. In January 2012 Eskom cautioned it was again operating at low reserve margins and might need to call on mining and manufacturing industries to reduce demand.

“The country’s industries are the biggest customers of Eskom,” said Lakmidas. “The system came close to collapse in January 2008 and remains tight: mining had to cut electricity use by 10% in the period after the 2008 power crisis, which it did by seeking alternative sources and shutting down certain shafts.”

Eskom is working to install additional capacity, but larger mines are exploring other supply options, including investing in their own generation facilities. Significant decreases in output during the 2008 crisis and soaring costs have shown mining companies the risks associated with being dependent on a single power supplier. Moves by the government to end Eskom’s monopoly should allow more independent power producers – including miners – to enter the market. “The single biggest constraint to the growth of the mining industry is power,” Moon told OBG. “Any mining house undertaking a big investment needs an assurance that the power will be there.”

LABOUR CHALLENGES: The industry employed nearly 500,000 people in 2010, down from a recent peak of just under 520,000 in 2008. While average annual earnings per employee stood at the relatively respectable R149,006 ($18,238), this figure masks the fact that mining is a huge employer of low-skilled and low-wage workers in South Africa. The sector historically relied heavily on migrant labour, although this has since declined to a small group largely consisting of skilled legal migrants. The sector’s wage bill is one of its largest outlays: in 2009, 17.78% of industry expenditure was spent on salaries and wages.

Industry actors estimate wage hikes of 10% or more will start to impact the sector’s bottom line due to other cost pressures, but the National Union of Mineworkers (NUM) is still pushing for significant wage increases, demanding a 14% rise at the start of 2011.

Labour issues have long been significant for mining operators in South Africa, which has a history of trade union activity. Labour unrest occurs frequently, generally relating to pay disputes or worker conditions, and strike settlements in 2011 resulted in wage increases of 7-10%, significantly above inflation. Closures due to strikes have proven detrimental to output: by August, strikes in the mining and fuel industries in the 2011 strike “season” cost over $200m in output losses.

An acknowledged shortage of mining engineers also complicates local labour supply, particularly in a competitive global market. The country continues to produce top mining talent in large numbers, but is well known as a poaching ground – only 15% of South African mining engineering graduates join the local industry. In addition, the existing pool of mining technicians and engineers are ageing faster than new workers can be trained to replace them.

Historically, skills were developed in mining schools or through apprenticeships. But after the government stopped subsidising these programmes, many were forced to close. Amendments to the Mining Charter in 2010 stipulate that companies must spend 3% of their annual payroll on skills development, rising to 5% by 2014. Bursaries are the typical mechanism, but recent declines in pass rates in engineering have alarmed the sector. In the period from 1998 to 2008, enrolment for engineering degrees and diplomas totalled 388,606, but only 53,342 of those students graduated, a pass rate of 13.7% against an international average of 25%.

ENVIRONMENTAL IMPACTS: As in all mineral-rich countries, extractive industries have had significant ecological and environmental consequences for South Africa. The industry’s considerable demand for energy and water, along with drainage and runoff issues, affects local biodiversity and groundwater. But while there is important work to be done in addressing environmental legacy problems, mining companies are increasingly bound by a strict legislative framework.

The issue of acid mine drainage particularly dominated headlines during 2011. Environmental campaigners have drawn attention to the threat of acidic water – the product of rain and groundwater seepage into disused mine tunnels where it becomes highly acidic due to a chemical reaction with pyrite – spilling into the water table. In late 2010 the government announced a 10-year clean-up plan covering 6000 abandoned mines, but has since called on the companies that previously operated the mines to contribute to costs. The clean-up operation will also work to rehabilitate disused mines – including asbestos sites and open pits – posing an immediate threat to communities.

Both the MPRDA and the National Environmental Management Act outline environmental standards for mines. Increasingly, the Department of Environmental Affairs is reported to be taking the place of the Department of Mineral Resources in handling environmental issues in mining. Its roving “Green Scorpions” have closed down mines, such as the Vele colliery (7 km from a world heritage site) that do not meet the terms of their environmental licence.

OUTLOOK: South Africa’s mining industry – while remaining one of the world’s most important – is widely perceived to have experienced an extended period of decline. Its relative underperformance has become a concern for the government, which in the last year has repeatedly stressed its intention to support and invest in South African mining as a strategic economic sector. Significant steps forward will be required: in infrastructure provision, further development of a market-friendly mining policy, improving skills and in encouraging major investment in the industry. The prize is attractive enough, however, that it has finally begun to encourage greater coordination between the government, labour and business.