Industry profits near 1979-80 levels

Although base metal prices, in real terms, remain significantly below those prevailing during 1979-80, the rise in prices this year has restored industry profitability to levels approaching those earlier boom conditions.

The above observation is contained in the 1987 edition of the London-based Metals and Minerals Publication Ltd.’s Metals Analysis Five Year Outlook, which reviews the market prospects to 1991 for six base metals (aluminum, copper, lead, nickel, tin and zinc) and three precious metals (gold, platinum and silver).

The authors of the publication calculate that in 1979-80, operating profit margins, before deduction of depreciation and finance charges, for the base metals industry was in the region of 35-40%. In other words, for every one dollar of revenue, the industry, as a whole, made an operating profit of 35-40 cents .

By 1982, however, at the depth of the market recession, the industry was losing 10 cents on every dollar of sales. Even last year, the cash profit had only recovered to 5 cents and since depreciation and interest typically accounted for a further 10 cents , the industry was still making an accounting loss.

From the beginning of January of this year, however, base metal prices have risen on average by 55% and industry operating profit margins now amount to about 35 cents per dollar of sales. Higher profit margin

Allowing for the likelihood current price levels will be significantly above the 1987 annual averages, the authors estimate that for the year as a whole, the industry-wide average operating profit margin will still be in excess of 20%, or more than three times last year’s outcome.

The last five years have witnessed a shift in base metals production to inherently low-cost mines and regions, the accompanying closure of high-cost units and significant productivity gains through labor- shedding and adoption of more efficient production methods.

Along with favorable currency depreciations in some important producing countries, the net result has been that average production costs, in U.S. dollars, are now no greater than in 1979-80 (even after an intervening eight years of general inflation). Still more remarkable is that average production costs today are about 20% less than in 1982. Uneven distribution

This year’s profit improvement has not been evenly distributed. Whereas producers of aluminum have seen dollar prices rise by 85% since January, and those producing nickel, copper and lead by 65%, 50% and 17% respectively, zinc and tin prices have hardly changed. Equally, the appreciation against the dollar of European currencies has pushed producers in that region well up the cost curve; many European producers are still losing money and mine closures have been widespread.

Given a production capacity well in excess of market requirements and the current level of profits in some base metal sectors, increased supplies are likely. Consequently, the authors doubt prices will be maintained.

Even so, they don’t envisage metal inventories will rise to anywhere near the huge levels of 1982, and they don’t expect the level of capacity utilization required to meet market needs to be comfortably above the corresponding figure during the market recession. They forecast industry profit margins around the 20% level will be a continuing feature of the next five years. Precious metal prospects

In contrast, the authors suggest testing times are ahead for precious metal producers. They are particularly concerned about the medium- term prospects for gold.

For the last five years, profit margins in the gold mining industry have consistently exceeded 45%, a natural consequence of which has been a global exploration and development boom which has seen western world mine output rise 35% since 1980. A minimum further additional 20% increase is foreseen by 1991. Since commercial and industrial demand for gold is not expected to increase by anywhere near the same degree, the gold market will be heavily reliant on a sustained high level of investment demand if a period of severe price weakness is to be avoided.

Any price decline is expected to hit South African producers the hardest. Escalating domestic costs, falling grades and, most recently, an appreciating Rand have conspired to increase average production costs in that country from $155(US) per oz in 1985 to $250 at present. Moreover, 15% (more than 100 tonnes) of current production, or more than Australia’s entire annual output, now boasts costs in excess of $300 per oz.